Rates Edge Closer to 2022 Highs

Inflation week closes hot. Higher-than-expected PPI figures drove a morning rates sell-off, with the 2-year and 10-year UST yields closing 5bps higher at 4.90% and 4.15%, respectively. However, weak year-ahead inflation expectations from the University of Michigan cooled the sentiment, the 3.3% level the lowest since March 2021. The 2-year yield rose ~14bps on the week, edging near the 5% threshold. The 10-year yield is also nearing its 2022 peak, sitting just ~9bps under October’s 4.24%. 

CPI and PPI divergence complicates Fed decision making. Producer prices increased in July, with Core PPI climbing both YoY and MoM vs. June (2.7% vs. 2.6%; 0.2% vs. 0.1%). Service costs rose the most in nearly a year, and goods costs jumped, driven by the largest increase in food prices since last November. Yesterday’s cool CPI figures supported a Fed pause in September, but costs increased across several PPI categories that feed directly into the PCE calculation (ex. healthcare, brokerage services), the Fed’s preferred measure of inflation. This suggests that PCE could show less progress toward price stability than hoped, tempering calls for a hiking pause. Today’s PPI data comes alongside rising oil prices, higher bond yields and economic troubles in China, prompting BMO Chief Economist Douglas Porter to note that a soft landing for the U.S. is still debatable.

Week ahead. Retail sales, expected to increase from 0.2% in June to 0.4% MoM in July, will be released on Tuesday. FOMC minutes on Wednesday will highlight Fed commentary, while hawkish voter Kashkari will make comments on Tuesday. Philadelphia and NY manufacturing, housing starts, and industrial production figures are also on the schedule.