USDi: CPI, Minutes weigh on front end; BEs steepen

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CPI, Minutes weigh on front end; BEs steepen   

CPI NSA came in a touch weaker than expected CPI came in a touch lower than expected (0.1%mom/5.0% yoy, core 0.4% mom/5.6% yoy vs. forecast 0.2%/5.1%, core 0.4%/5.6%) while NSA came in at 301.836 versus 302.241 forecast and 302.224 trading in the bookies yesterday.

TIPS breakevens came off immediately after the number, led by the front end. A bounced off the lows characterized the move up until the FOMC minutes and then since BEs have comes off back lower, with RYs lagging nominals. For example, the front end of the BE curve saw the 2y dip down to around 247.5bps in the initial response to the data, but then they rose to around 256bps before the FOMC Minutes, before receding back lower to rest around 251.5bps last. A source noted that once the knee-jerk panic sellers cleared, then fast money came in to buy the dip, while this afternoon's selloff was led by the 5y sector. 

Meanwhile, the nominal curve has bull steepened, with front end yields down around 6bps versus the very back end up by around 1bp in yield. Equities closed with losses (DJIA -0.11%, S&P -0.39%, Nasdaq -0.85%), giving up midday gains. The energy sector mostly added to recent gains (WTI 2.09%, Brent +1.88% and NYH gasoline -0.12%).   

As for The FOMC minutes, members expressed concern while also seeing inflation as still too high. To be sure, members observed that “inflation remained much too high and that the labor market remained tight” and thus “they anticipated that some additional policy firming may be appropriate to attain a sufficiently restrictive policy stance.” That said, the minutes also noted “many participants noted that the likely effects of recent banking-sector developments on economic activity = and inflation had led them to lower their assessments of the federal funds rate target range that would be sufficiently restrictive compared with assessments based solely on the recent economic data.”

Overall, looking at the TIPS price action, one source felt that longer term "if I could buy and hold TIPS I would, as I see upside risks," but nearer term, the potential tightening in credit "is a downside." For their part, analysts at BNP Paribas point out “while breakevens are softer on the day, the inflation market is already priced for a material softening in headline inflation over the next year.” BNP Paribas considers “key for the rates market is gaining increased confidence that the Fed can move towards less restrictive territory in real terms – something that the recent trend in wage growth coupled with moving beyond the peak in non-housing services inflation should allow.”

Flow-wise, ZC inflation swap trades included 1y ZC swap at 258bps, 259bps, 260bps and 260.5bps, 10y ZC swap at 254.25bps versus 30y ZC swaps at 242.125bps, 10y ZC swap at 252.75bps, 5y ZC swaps at 25bps, 252.5bps and 252.25bps, according to the SDR.

Going into the close, the 2y breakeven is at 251.5bps (-16.2bps), 5y at 235.8bps (-6.5bps), 10y at 228bps (-1.3bps) and 30y at 226.5bps (+2bps).

Peak likely reached in services inflation – BNP Paribas  

Analysts at BNP Paribas believes that “the key development in the March CPI report was a likely peak in services inflation, with the year-on-year rate for overall core services falling to 7.1% from 7.3% prior and for non-housing core services to 6.4% from 6.5% prior.”

“While these are still very high inflation rates, moving past peak is an important signpost – services inflation no longer appears to be getting worse, enabling a shift of focus to the return to target consistent levels,” BNP Paribas finds.

“Just as Powell flagged non-housing services inflation as ‘the most important category’ for the future of core inflation in November 2022, he simultaneously said the labor market ‘holds the key’ to understanding inflation in this category” and “now that non-housing services inflation has likely peaked, the Fed will be watching the evolution of the labor market and particularly wage growth for signals as to its path back to target,” BNP Paribas assesses.

However, “sequential price gains remained high in March, with core CPI rising 0.4% m/m (from 0.5% prior) and non-housing services CPI up 0.5% (from 0.6% prior)” and it believes “both of these should support the case for one further 25bp hike to bring fed funds in line with the current median end-year rate projection.”

Thus, BNP Paribas expects “the Fed to hike 25bp at the May FOMC meeting and pause thereafter, holding rates steady at 5.25% through the balance of the year.”