WEEK ENDING 12/13/2024
- Fixed-income market endures a “yield rally” and a steeper yield curve.
- Inflation proves sticky — even grocery prices will be hard to reverse.
- Trump named Time’s person of the year.
- Happy holidays to all. See you in the new year!
A CITY DIFFERENT TAKE
Happy holidays, everyone! This is our last Week in Review of 2024. We are taking a two-week hiatus, returning in January 2025.
As Christmas and New Year’s approach, it is good to remember that the markets will grow more illiquid, possibly subject to an outsized move based on illiquidity alone.
Inflation has proven to be sticky over the last few months, highlighted by the recent release of CPI data. Year-over-year CPI came in at 2.7%, in line with expectations and 0.1% higher than the October read. Core CPI came in as expected and equal to October’s 3.3% reading.
CPI was followed by the PPI release which showed a year-over-year uptick in final demand versus the October report and expectation. The year-over-year final demand number was 3.0% compared to an expectation of 2.6% and a revised October measure of 2.6% (a 0.2% upward revision). The core PPI numbers followed the same pattern. The November read was 3.0% higher than expectations of 2.6% and higher than a upwardly revised October read of 2.6% (a 0.2% upward revision).
What does this all mean for the future inflation picture? Well, current inflation is proving sticky, well above the Federal Reserve’s 2.0% target as measured by Core CPI. We will have to wait to see how the picture changes with the Fed’s favorite measure of inflation, the Core Personnel Consumption and Expenditure (PCE) Index, due out later in the month. What is troubling is that if current inflation is sticky and there are added inflationary pressures from tariffs and mass deportations, it’s hard to see the Fed reaching its 2.0% goal.
Speaking of the Fed, the Federal Open Market Committee meets next week and the market expects a 0.25% cut in the Fed Funds target range (with 97.1% implied probability). What a shock if they skipped.
Finally, it looks like Chair Powell will complete his term as chair.
“President-elect Donald Trump said in an interview that aired on Sunday that he has no plans to remove Federal Reserve Chair Jerome Powell.”
This is probably a good thing for the markets.
CHANGES IN RATES
This week saw a significant “yield rally” (higher rates and a steepening of the yield curve) in the Treasury market. The spread on the 2-year and 10-year Treasury securities increased to +0.15% from last week’s 0.05%. Treasury auctions of 3-year and 10-year Treasury bonds only added to the increase in rates, The Wall Street Journal reported on Friday:
"There was fairly weak demand for the new 3- and 10-year Treasury bonds that hit the street on Monday. That’s been a trend we’ve seen recently: Investors are requiring higher rates to finance the U.S. government.”
"But Wall Street’s biggest concern, the sale of $21 billion of 30-year Treasurys on Tuesday, went smoothly. For the first time in months, the yield the Treasury Department is paying on those bonds came in lower than investors expected. That suggested strong demand after earlier that morning the latest inflation print showed price pressures continued to cool.”
That relief did not last long. The 30-Year Treasury bond yielded 4.41% at the close of business on December 11 and 4.61% at the close on December 13, an increase of 0.20%. (Anyone else superstitious?) You’re a mean one, Mr. Grinch.
The municipal rates moved higher over the week but at a much slower rate than the move in the Treasury market. We think this has a lot to do with the advent of the January effect — the period of time when municipal new issuance is low and cash flow from bond interest payments and security maturities impact the municipal market. The two largest periods of interest payments and maturities in the municipal bond market are January and July of each year.
Measured as a ratio versus their Treasury equivalent maturities, short-term municipalities moved higher versus their maturity equivalents, and long-term municipals moved lower, highlighting the beginning impact of the January effect.
Corporate yields were higher over the comparison period.
THIS WEEK IN WASHINGTON
On Thursday, President Biden announced the commuting of 1,500 sentences and pardoning 39 others convicted of nonviolent crimes – a record day of clemency.
President-elect Trump was named Time magazine’s Person of the Year. During the announcement celebration at the New York Stock Exchange, Trump said it would be hard to bring down grocery prices. During his campaign, Trump promised to lower prices.
“President-elect Donald Trump campaigned relentlessly on grocery prices in the 2024 race, vowing to bring down costs quickly for American families if given four more years in the White House.”
Easier said than done.
Asked whether his presidency would be a “failure” if grocery prices don't come down, Trump responded it would not, blaming the Biden administration for the way it handled the inflation that led to higher food prices in the first place. "Look, they got them up. I’d like to bring them down. It’s hard to bring things down once they’re up. You know, it’s very hard," he said in the interview published Thursday.
WHAT, ME WORRY ABOUT INFLATION?
The 5-year Breakeven Inflation Rate finished the week of December 13 at 2.26%, 9 basis points higher than the close of December 6. The 10-year Breakeven Inflation Rate finished the week at 2.33%, 9 basis points lower than the close on December 6.
MUNICIPAL CREDIT
As of December 13, 10-year quality spreads (AAA vs. BBB) were 1.02%, 4 basis points wider than the December 6 reading (based on our calculations). The long-term average is 1.70%.
Quality spreads in the taxable market are not attractive. They ended the week at 0.74%, close to the December 6 reading. High-yield quality spreads were 4 basis points narrower at 2.55%.
WHERE ARE FIXED-INCOME INVESTORS PUTTING THEIR CASH?
Money Market Flows (millions of dollars)
Overall, money market funds saw lower inflows compared to the week prior.
Mutual Fund Flows (millions of dollars)
Cash flows into bond funds were positive, with the exception of the municipal category.
ETF Fund Flows (millions of dollars)
ETF asset classes experienced positive flows, but down on the week.
SUPPLY OF NEW ISSUE MUNICIPAL BONDS
The supply of new issues is expected to be on the small side, about $2.4 billion.
CONCLUSION
The yield moves in the fixed-income markets heading into year-end are very different from this time last year. Illiquidity heading into year-end will exacerbate market moves, so investors should be wary of strategy changes based on these changes. The January effect is beginning to set up in the municipal market.
Everyone at City Different Investments would like to wish our readers the best of holidays! We will return in early January.
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