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Fixed Income Market Commentary by Kevin Giddis

January 12, 2018

The Treasury market is trading lower this morning as investors digest a fresh view of the fear that inflation is coming. The much-awaited Consumer Price Index for December rose 0.1% as a headline number, dropping the year-over-year figure to 2.1%. The number of concern, though, was the core CPI, which came in at up 0.3%, pushing the year-over-year number up by 0.1% to 1.8%. Rents (up 0.3%) were the primary culprit of the monthly rise, so it will be closely watched going forward to gauge whether this was a one-time increase or a trend change. Whatever the case, the momentum to push rates higher is intact and we will see as the day progresses whether that continues or buyers step in like they did yesterday after the 30-year auction. Speaking of the auctions, both the 10-year note and 30-year bond sales went quite well, suggesting that investors are still comfortable owning long-term Treasuries, albeit at higher yields than the previous auction. Retail Sales for the last month of the year rose 0.4%, slightly lower than expected and well below the 0.8% increase last month. The 2-year note pushed above 2% for the first time in almost 10 years, while the 10-year rose by 3 basis points to 2.58%, maintaining a pretty flat curve. While the Fed isn’t expected to raise rates when they meet at the end of the month, they are very likely to have a few things to say about economic growth and inflation going forward. While most of the committee members believe inflation is coming, a few still think that the FOMC is risking economic growth if they keep tightening on the expectation that prices are “about” to rise vs. actually seeing prices rising. Today’s number is a step towards that, but we have seen this movie before and know how it ends. No matter what your forecast for rates currently is, it seems like, for the first time in a number of years, we are going to have to deal with the potential for stronger demand, which could lead to pressure on prices.  But we have experienced this in the past and the outcome didn’t turn out to be inflation, so I remain cautious, but this time the cards seem to be lining up in favor of a strong case for inflation.

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