Five-year breakevens hit 15-year wides Monday, as rising commodity prices, jitters tied to the Colonial Pipeline hack and speculation around wage pressures continued to underpin the inflation narrative.
“Macro investors are seemingly sticking to their reflation guns, and loved resetting their trades at better levels following the initial UST bull-flattening impulse after the shock [jobs] miss,” Nomura’s Charlie McElligott said.
Needless to say, not everyone is convinced that this narrative is good for much more than a trade and/or a few months of distorted data. In an interview with CNBC Monday, Charles Evans delivered the usual humorous reminder that if you want to average 2% on measured inflation, you have two options: Hit it exactly all the time or overshoot it occasionally. “To average 2% you’ve got to be above 2% for some period of time,” he remarked. “So inflation rates of 2.5% don’t bother me as long as it’s consistent with averaging 2% over some period of time.”
For all the disingenuous hand-wringing (among pundits) and earnest concerns (among consumers), there’s still a sense in which achieving 2% sustained inflation in advanced economies over an extended period of time seems like something of a pipe dream.
“While five-year breakevens in the US are pushing past 2.70%… there’s that yearning in some quarters of policy making given all that’s happening with the decline in productivity gains and the natural rate of growth that, ‘Will we or won’t we ever see inflation past 2% again?’,” Bloomberg’s Ven Ram wrote Monday.
All of this may seem absurd to those who would protest that prices for things they actually need (e.g., rent, healthcare, education) have gone parabolic, but I’d gently suggest that many pundits are fond of arguing both sides of the coin depending on what happens to be “selling” well in the media at a given time. One day, we’re entering a deflationary spiral and the next, hyperinflation is just around the corner.
Meanwhile, the backdrop for everyday people never really changes: Healthcare and education costs are soaring and structural disinflationary forces are making some “stuff” (e.g., electronics) cheaper, even as one of those forces (technology) displaces workers and renders human capital obsolete.
This may all be mysterious and difficult to parse for Wall Street and for economists, but it’s clear as day on Main Street. To your archetypal “everyday Joe,” it feels like the cost of living is going up all the time, but occasionally he’s surprised at how cheap stuff is at Walmart. He can easily afford a 55-inch flatscreen even though he can’t afford a monthly insurance premium. At the same time, he can only dream of a union job or a pension. He may not be able to connect all the dots, but every bit of that is related.
Anyway, Goldman reiterated that “intermediate and longer term real yields are too low in the context of longer run neutral rate estimates and the possibility that the Fed may have to move to a higher terminal rate than seen in the last cycle under its new inflation targeting framework.”
The bank’s Praveen Korapaty said traded inflation is “now at levels where higher real yields are likely needed to support a sustainable selloff [even as] overshoot risk for traded inflation still supports expressing duration shorts via nominals” in the near-term. Looking a bit further out, Goldman reckons being short reals is the better risk/reward.
“Inflation is once again in the spotlight this week as the combination of the commodity price gains and the release of CPI/PPI provide meaningful tradable events,” BMO’s Ian Lyngen and Ben Jeffery wrote Monday, noting that,
The conversations surrounding increased pricing pressures have changed; owing in part of the disappointing NFP data. The WSJ’s write-up ‘Higher Prices Leave Consumers Feeling the Pinch’ and the FT’s ‘Will inflation thwart the US economic recovery?’ reflect the evolution of this discourse. This speaks to the intrinsic difference between demand-side and supply-side pricing pressures. Between the chip shortage and commodity run up – to say nothing of food costs – the near-term realized inflation will function more as a tax on consumption as opposed to reflecting a willingness to bid up prices as a reflection of higher wages.
The “rent’s too damn high!,” as the political slogan-turned meme goes. And the wages are “too damn low!” Just ask everyday Joe.
Fortunately for risk assets (and everyday Joe doesn’t own many of those), real yields are also pretty “damn low” (figure above), which means nominals are adrift. That, in turn, keeps financial conditions loose.
“10-year UST nominal yields remain in this same 1.50-1.75 range since early March allowing for calm financial conditions as the Fed persists in dovish messaging and despite the trending inflation impulse,” McElligott went on to say, noting that “stable, rangebound rates = grinding higher risk assets.” He also warned the situation could “change on a dime.”