by Bryan Perry

April 20, 2021

Something very disruptive occurred in the bond market this past week and the smartest minds in the fixed income world are scurrying to explain the anomaly that played out in one of the most counter-intuitive moves seen in recent months. After the 10-year Treasury Note yield traded from 1% on January 28 up to 1.75% on March 30, the yield has steadily declined to digest what can only be considered as a “spike.”

Ten-Year Treasury Note Index Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Some give-back on yield makes sense, but considering the plethora of hot inflationary data that crossed the tape over the past few days, seeing the 10-year yield take a sharp dip lower, caught bond traders completely off guard. The economic calendar served up data that should have had bond vigilantes foaming at the mouth:

  • The total Consumer Price Index (CPI) increased 0.6% month-over-month in March (vs. a consensus 0.5% expectation) – the largest monthly increase since August 2012 – following a 0.4% increase in February. The core CPI increased 0.3% m/m (consensus 0.2%) following a 0.1% February increase.
  • March retail sales soared 9.8% m/m (consensus 5.3%). Excluding autos, they were up 8.4% m/m (consensus 4.9%) following an upwardly revised 2.5% decline (from -2.7% in February).
  • Housing starts surged 19.4% m/m in March, to a seasonally adjusted annual rate of 1.739 million units (consensus 1.621 million), bolstered by a 15.3% increase in single-family starts.
  • Initial jobless claims for the week ending April 10 declined by 193,000 to 576,000 (consensus 695,000). Initial claims were the lowest since the pandemic began and fell in a manner that is consistent with the reopening and rehiring narrative, fueling expectations of strong economic growth.
  • The Empire State Manufacturing Survey rose to 26.3 in April (consensus 23.0) from 17.4 in March.
  • The Philadelphia Fed Survey rose to 50.2 in April (consensus 35.0) from a revised 44.5 in March.
  • The preliminary reading for the April University of Michigan Consumer Sentiment Index was 86.5, up from March’s final reading of 84.9. This is the highest reading in a year and is paced by a rising outlook on current conditions helped by job gains, rising vaccination rates, low interest rates, and fiscal stimulus.

Again, the yield on the 10-year note, which ended March at 1.74%, went as low as 1.53% last week in a surprising move that defied the various reports showing higher inflation rates and decidedly strong economic activity. There were various assumptions offered for why this counter-intuitive move in rates took place, ranging from short-covering activity, to foreign buying interest, to a sense that economic and earnings growth is nearing a point where it is “as good as it is going to get” for this time in the cycle.

I think a better explanation as to why the bond market staged its late-week rally is how well the $271 billion in new Treasury supply was auctioned off. The explosion of deficit spending has weighed on a couple of prior Treasury auctions, so that had become a bearish narrative, but the strong demand for U.S. debt drove down yields and the dollar, inciting risk-on capital flows into equities that sent the market to new highs.

The removal of yield-risk to the investing landscape means that the rally can sustain its extended and overbought condition for a while. The market has bought into the Fed’s rhetoric that any notion of tapering is not under consideration for some time, so interest rates will remain historically low relative to inflation. Early Q1 results are showing that companies are beating increased earnings estimates and inflation-adjusted returns are more attractive in stocks relative to money markets Treasuries.

Watching how the April rate of inflation comes in will tell us if the hot uptick in March is what the Fed has called “transitory,” or whether there is a larger trend at work which will usher in fresh concerns about overheating. The two charts below show the recent inflationary pop and the longer-term historical trend.

Recent Inflationary Pop Bar Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Leading up to the Great Recession of 2008-2009, the rate of inflation was in 2%-4% range and ultimately got up into the high-5% range, before sinking temporarily into deflation during the Great Recession

Historical Inflationary Trend Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

One thing is for sure: The stock market is “all in” on what the Fed is marketing in its fiscal policy, and their internal indicators provide a very confident tone whenever Fed Chair Powell or the other Fed members speak out. But, more importantly, the charts indicate that the stock market has a strong stomach for some inflation above the 2% target range, as long as the job gains continue, and incomes keep pace.

Investors should never lose sight that the U.S. is a consumer-driven economy, where cost-of-living drives sentiment, and sentiment ultimately determines market trends. So far, “transitory” is the buzz word for 2021 – not just for inflation, but also for stocks and the bull market. Until the Fed decides on another key word to attach to inflation, the path of least resistance for the S&P 500 is higher.

All content above represents the opinion of Bryan Perry of Navellier & Associates, Inc.

Please see important disclosures below.

About The Author

Bryan Perry

Bryan Perry
SENIOR DIRECTOR

Bryan Perry is a Senior Director with Navellier Private Client Group, advising and facilitating high net worth investors in the pursuit of their financial goals.

Bryan’s financial services career spanning the past three decades includes over 20 years of wealth management experience with Wall Street firms that include Bear Stearns, Lehman Brothers and Paine Webber, working with both retail and institutional clients. Bryan earned a B.A. in Political Science from Virginia Polytechnic Institute & State University and currently holds a Series 65 license. All content of “Income Mail” represents the opinion of Bryan Perry

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