Overview: Stocks were mixed across the globe last week, led by emerging markets (MSCI EM) up 2.6%. In the US, stocks were down 0.3% on the heels of the highest US consumer price (CPI) print since 1982, and on comments by Federal Reserve Chair Jerome Powell that suggest rate hikes in short-term interest rates as early as March. In bonds, interest rates were steady last week, with the 10-year Treasury ending the week at 1.77%, after beginning the year at a yield of 1.50%. Higher yields year-to-date have driven bond prices lower, with the taxable Bloomberg Bond Index down 1.8% for the year-to-date. In economic data, the December CPI was up 7.0% year-over-year, as supply chain constraints continued to pressure prices. US retail sales fell 1.9% in December, on the back of Covid-19 Omicron and inflation concerns.
Update on Inflation: (from JP Morgan) Despite being the hottest inflation print in four decades (headline +7.0% y/y and core +5.5% y/y), the Treasury market largely shrugged off the December CPI print with the 10Y nudging only +2bps. Rather, the print consolidated the aggressive repricing that occurred earlier this year and reinforced expectations that the Fed may begin raising rates as soon as March and begin quantitative tightening as soon as June.
The market has already priced in higher inflation for the near term, with inflation break-evens last peaking in November. U.S. CPI data was thus overshadowed by real rates as the market anticipates Fed tightening. Since the start of the year, rates have been on the move with 10Y nominal yields +19bps driven entirely by real yields (nominal yield – core inflation) rising 31 bps. It should come as no surprise that the Fed and easing COVID concerns are at the forefront of this movement. As the U.S. economy endures a period of higher inflation and a rapidly tightening labor markets, Treasuries endured steep selloff in anticipation of tighter Fed policy in 2022. Furthermore, many former Fed officials are suggesting that the Fed may be behind the curve on inflation and may need to raise short-term rates more in the near term than markets are currently pricing and reduce the size of its ballooned balance sheet sooner than anticipated. Like the start of the January, a lot of action will continue to take place in yield curves, a tricky period for fixed income investing. However, opportunity exists for active managers to take advantage of mis-pricings.
Market Returns and Data:
Sources: JP Morgan Asset Management, Goldman Sachs Asset Management, Barron’s, Bloomberg
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