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CPI hits the bulls eye; BEs flatten; 10y supply announced
The financial landscape had a collective sigh of relief today as this morning's much anticipated inflation data showed that the Fed's rate-hiking blitzkrieg is indeed actually getting stuff done. To be sure, today’s December CPI printed right on the money with a headline of -0.1% MoM/+6.5% YoY and a core of +0.3% MoM/+5.7% indicating a continued slowdown in inflation. Meanwhile, the all-important NSA came in just a touch stronger than expected at 296.797 (versus Bloomberg consensus of 296.699 and a fixing market of 296.55) but not far off enough to warrant much concern.
Digging into the finer details of the release, strategists at BofA highlight the following:
- ”… The decrease in headline inflation was largely due to a sharp drop (-4.5% m/m) in energy prices owing to a 9.4% decline in energy goods. Energy services, meanwhile) rebounded with a 1.5% m/m increase. The fall in energy prices was roughly in line with our expectations. That said, food price inflation came in below our expectations at 0.3% m/m (exp: 0.5% m/m). The better-than-expected deceleration in food price inflation reflected food at home inflation moderating to 0.2% m/m from 0.5% m/m.
“…The recent moderation in core CPI largely reflects deflation of core goods over the last three months. In December, core goods prices fell for a third consecutive month, declining by 0.3% m/m, resulting in the 3-month annualized % change declining from-3.5% to -4.8%. Once again, a sharp decrease (-2.6% m/m) in used car prices were the big driver of the fall in core goods. New car prices also fell for the first time since January 2021. That said, we had expected a more broad-based decline in goods because we thought that unseasonably high holiday discounts lead to declines in categories like apparel and household furnishings. While this did not materialize in December, we do expect the goods deflation to become more broad-based over time.
“…Meanwhile, core services inflation remained sticky, as core services rose by 0.5% m/m in December. This was a modest acceleration from the prior month and over the last three months, core services have grown at an annualized rate of 6.1%. The acceleration in core services largely reflected an uptick in shelter inflation (0.6% to 0.8%). That said, it is widely expected that shelter inflation will begin to moderate rather significantly in the second half of this year given the deceleration in asking rent growth.”
Post-data, TIPS breakevens bull-flattened as the NSA came in above both market consensus and the December fixing which supports TIPS carry. However, longer tenor breakevens reversed lower as the nominal rally gathered steam intraday (~9-14bps), leaving the inflation curve mixed but solidly flatter on the day as the energy complex (gasoline +1.49%, Brent +1.62%, WTI +1.29%) also helped do some heavy lifting at the front-end of the curve.
Reflecting on the round trip in breakevens further out the curve, one dealer explained that "after the initial jump, the market was a bit calmed down with the rally in yields, and then it had difficulty finding direction to finally settle lower."
Flow-wise, in derivatives-space, inflation swap trades on the SDR today included 1y ZC swaps at 207bps, 3y ZC swaps at 228bps, 4y ZC swaps at 231.75bps and 231.25bps, 5y ZC swaps at 235.75bps and 235.25bps, and 10y ZC swaps at 243.5bps (for more trades, see Total Derivatives SDR).
Lastly, on the supply front, Treasury announced that its will put $17bn newly-minted 10y TIPS (Jan33s) on the auction block next Thursday (Jan 19th).
Heading into the final hour of trade, the 2y breakeven is going out at 211bps (+6bps), 5y at 225.125bps (+1.75bps), 10y at 221.375bps (-1bps) and 30y at 226.375bps (-2.375bps).
Barclays: December payroll data overstate wage deceleration
Markets took a strong signal from the deceleration in average hourly earnings (AHE) in November and December, but strategists at Barclays find that “these numbers are notoriously noisy.” The bank’s judgment, which is informed by a state-space approach that infers monthly wage growth from multiple measures, is that “wage deceleration has been modest, at best.” Barclays expounds on its argument below:
- ”… Markets reacted positively to the latest estimates of average hourly earnings through December, which suggest substantial deceleration in wages. Overall private average earnings slowed from a (downwardly revised) 0.40% m/m (4.8% y/y) increase in November to a 0.28% m/m (4.6% y/y) increase in December, while hourly earnings of production and non-supervisory workers decelerated from 0.43% m/m (5.5% y/y) to just 0.21% m/m (5.0% y/y) in the same two months. With recent FOMC communications stressing the importance of slowing labor demand and wage growth, as an important element in achieving sustained declines in inflation for non-housing core inflation, this sharp deceleration would seemingly justify sentiment that the FOMC is nearing an end to its tightening cycle -- and a potential transition to rate cuts later this year. In short, a soft landing seems more probable than it had seemed a few months ago.
“…Although the market focus on wage pressures is appropriate, optimism that they are diminishing is premature, in our view. Broader labor market data, such as private nonfarm payrolls, the unemployment rate, job openings, the quit rate, and initial jobless claims all remain consistent with a tight labor market. Moreover, average hourly earnings are notoriously noisy on a month-to-month basis, and subject to distortions due to variations in the composition of hours across industries and workers of different skill levels. These latter distortions are more than theoretical, as such compositional changes have clearly left an imprint on the estimates since the onset of the pandemic.