The Treasury market has been battered over the course of the month because of expectations of President-elect Trump’s inflationary campaign promises. The narrative has shifted from a Fed easing to a higher for longer inflation story, which has resulted in ten-year Treasury yields rising by 3/4th of a point since Sep. 18. This is the first time since 1989 that rates have jumped in the first two months of a rate-cutting cycle.
October core CPI increased by 0.28%, which is a bit on the high side. This coincides with the Fed Chair’s remark that the central bank is not hurrying to cut rates. Chair Powell has indicated that the current Fed strategy remains to return rates closer to neutral over time. The next round of data comes out at the end of this month and before the December Fed meeting. Currently, the market has priced in a two-thirds chance of a 25 basis point rate cut in December, followed by two cuts for next year.
For the remainder of the year, all eyes are on the president-elect’s cabinet, which will shape policies for the next four years. Continuing our theme from last week’s discussion, the most influential policy decision will be surrounding trade and tariff issues. The two other trigger points to watch out for will be tax cuts. These would be inflationary in nature if the tax cuts were significant. Finally, any kind of mass deportation or highly restrictive immigration policies would tighten the labor market and increase the cost of wages.
CHANGES IN RATES
The treasury market rallied last week across all tenors. The bear steepening trend continues. The 2 -10 year spread now stands at 14 basis points.
The municipal rates did not catch up to the Treasury market rally.
Municipals, as measured as a ratio versus their Treasury equivalent maturities, look unattractive as they have moved lower for the last two weeks.
Corporate yields were higher week over week. The most remarkable jump was in 10 years and longer maturities.
There is no doubt that Washington has been busy. At the time of this writing, President Biden has approved the use of U.S.-supplied long-range missiles against Russia by Ukraine. This comes at a time when North Korea has sent thousands of troops in support of Russia. In other international news, President Biden met with President Xi Jinping. The meeting was more about President Xi setting the stage for the new President-elect, Trump, than a goodbye to President Biden. He ensured that China does not want a new ‘cold war’; however, the communist party of China cannot be undermined by the United States.
On the domestic front, last week was occupied by headlines about nominations for various cabinet-level roles for President-elect Trump's administration.
Currently, some of the more high profile selections are as follows: Representative Matt Gaetz for Attorney General, although Gaetz could face difficulty getting a senate confirmation, as he was previously under a House Ethics committee investigation. Tulsi Gabbard is the pick for Director of National Intelligence, and Elise Stefanik for United Nations Ambassador. Marco Rubio is Trump’s choice for Secretary of State. South Dakota Governor Kristi Noem is the pick for the Department of Homeland Security. For Department of Health and Human Services, the President elect’s pick is Robert Kennedy Jr. Oil executive (and climate skeptic) Chris Wright is being tapped (pun intended) for Energy Secretary.
The 5-year Breakeven Inflation Rate finished the week of November 15th at 2.27%, remaining the same week over week. The 10-year Breakeven Inflation Rate also remained the same for last week finishing at 2.35%.
As of November 15, 10-year quality spreads (AAA vs. BBB) were 0.90%, 5 basis points tighter than the November 8 reading (based on our calculations). This spread has come in tighter the last three weeks. The long-term average is 1.70%.
Quality spreads in the taxable market are not attractive. They ended slightly wider at 0.75%, 7 basis points wider than the prior week. High-yield quality spreads were 8 basis points higher at 2.58% compared to the week before.
Money Market Flows (millions of dollars)
Overall, money market funds saw increased inflows compared to the week prior.
Mutual Fund Flows (millions of dollars)
Cash flows into bond funds were mixed last week. Significant among these were continued ouflows in high yield.
ETF Fund Flows (millions of dollars)
ETF asset classes experienced positive flows, albeit at a lower pace.
The supply of new issues is expected to be about $7.7 billion this week, making this a busy week.
The Treasury market has seen significant losses since September. CPI came out slightly higher than expected. Chair Powell warns that the Fed is not in a rush to cut rates. The president-elect’s policies will shape the economy meaningfully over the next four years.
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