Expectations were virtually sealed this past week for the Fed to cut its target rate by 25 basis points on Wednesday afternoon. Economic data supported this narrative but raised the specter of more persistent inflation than desired with CPI YoY increasing from 2.6% to 2.7%, and core-CPI YoY unchanged at 3.3% over the prior month. Additionally, PPI YoY increased from 2.6% to 3.0% with PPI ex-food/energy YoY at 3.4% and revisions to October’s data increasing from 3.1% to 3.4%. Employment data included an unexpected rise in Initial Jobless Claims with a 2-month high of 242k. To be fair, Jobless Claims data is typically more volatile around the holiday period, but the Fed’s desire to maintain strength in the labor market and continue lowering rates may be compromised if this trend persists.
Interest rates rose steadily throughout the week with a larger than full weekly range extension on board. Additionally, the curve bear-steepened as the 2s-10s spread widened and, more importantly, the 3-month to 10-year spread finally disinverted. This disinversion is a constructive development on many levels. Notably, it’s a positive development for most trading businesses, allowing the cheaper short-term funding to no longer eclipse the cost of carry for securities held on balance sheets.
Furthermore, financial services entities, banks, and credit unions will start to have more favorable conditions for lending. Given the business-friendly nature of a steeper yield curve, which drives profitability for such firms, it also hopefully spurs economic growth with increased incentives for loan businesses to lend.
Regarding interest rates… what a difference a week makes. After bottoming near 4.12% at the end of the prior week, 10-Year Treasuries reversed course and rose to around 4.40% to close last week. I had previously indicated, with reluctance, that my call for 10s to revisit the 4.73% April high by year-end was in danger of failing to come to fruition. I continue to lack my prior fervor on the December timing of this price action. However, I still expect higher rates further out on the yield curve to eclipse this level sometime in Q1 as short-term yield curve expectations come into better focus. A Fed pause in January and fewer rate cuts than the four currently on the table for 2025 are my primary reasons for this conclusion. Simply put — if the Fed is limited in its ability to press overnight rates lower, a steeper yield curve and historical spread analysis suggest that the long end of the curve is too low and must rise.
As for commentary from the SWBC trading desk, I asked one of our traders to provide some context for activity this past week for municipal buyers. His reply was so thorough that I’m merely going to use or paraphrase his entire discourse below.
Even with ratios close to the most expensive levels for the year (60% on the front end, 65% in 10-Year, and 81% in 30-Year paper), along with a heavy new issue calendar, the week began with continued firmness. New issue deals were gobbled up, with consistently heavy oversubscription. Then Wednesday hit, during which we experienced the heaviest par value of Bid Wanted requests for the year with over $2 Billion in notional value. Heavy new issue pricing on Wednesday, coupled with extremely heavy Bid Wanted volume, resulted in the first day of cuts to MMD. Municipals followed Treasury weakness on Thursday and, for the first time in a while, traders could buy bonds at attractive levels. Also, on Thursday, Fund Flow data indicated the first outflow of cash since June which may have spooked market participants. Dealer inventories have moved toward the heavier side as, with ratios heading to an even more expensive territory, dealers appeared to hit the pause button. The good news is the 30-day visible supply has dropped to only $4.23 billion (down from $13 billion that started the week). This week’s calendar is very light with only $2.5 billion scheduled for release. This lighter supply dynamic should keep the market somewhat in check. The combination of this past week’s cuts and the choppy holiday season ahead could offer some opportunity to pick up bonds at cheaper levels than we've seen in quite some time.
An index is unmanaged and not available for direct investment. Definitions sourced from Bloomberg.
The Bloomberg Barclays Global Aggregate Negative Yielding Debt Market Value Index represents the portion of the Bloomberg Barclays Global Aggregate Index that measures the aggregate value of global debt with a negative yield. • The S&P 500® is widely regarded as the best single gauge of large-cap U.S. equities and serves as the foundation for a wide range of investment products. The index includes 500 leading companies and captures approximately 80% coverage of available market capitalization. • The NASDAQ Composite Index is a broad-based capitalization-weighted index of stocks in all three NASDAQ tiers: Global Select, Global Market and Capital Market. The index was developed with a base level of 100 as of February 5, 1971.• The Cboe Volatility Index® (VIX) is a calculation designed to produce a measure of constant, 30-day expected volatility of the US stock market, derived from real-time, mid-quote prices of weekly S&P 500® Index (SPX) call and put options with a range of 23 to 37 days to expiration.• The ICE BofA MOVE Index is a yield curve weighted index of the normalized implied volatility on 1-month Treasury options. It is the weighted average of implied volatilities on the CT2 (Current 2 Year Government Note), CT5 (Current 5 Year Government Note), CT10 (Current 10 Year Government Note), and CT30 (Current 30 Year Government Note), with weights 0.2/0.2/0.4/0.2 respectively.• The Markit CDX North America Investment Grade Index is composed of 125 equally weighted credit default swaps on investment grade entities, distributed among 6 sub-indices: High Volatility, Consumer, Energy, Financial, Industrial, and Technology, Media & Tele-communications. Markit CDX indices roll every 6 months in March & September. • The Markit CDX North America High Yield Index is composed of 100 non-investment grade entities, distributed among 2 sub-indices: B, BB. All entities are domiciled in North America. Markit CDX indices roll every 6 months in March & September. • The U.S. Dollar Index (USDX) indicates the general international value of the USD. The USDX does this by averaging the exchange rates between the USD and major world currencies. Intercontinental Exchange (ICE) US computes this by using the rates supplied by some 500 banks.
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