June 25, 2021
Inflation: Headline and core May PCE (Fed’s favorite inflation gauge) fell short of expectations on a month-over-month basis, up +0.4% and up +0.5%, respectively vs. consensus for +0.5% and +0.6%. The year-over-year numbers were in-line at +3.9% and +3.4%, but the net result dials back inflation expectations at the margin.
Yield curve: The perceived downtick in inflation expectations has the 5/30-year yield spread wider to 121.5bps. Secondary technical support of ~120bps holds for now, increasing conviction that last week’s curve flattening was a buying opportunity for value equity sectors. We maintain our value sector bias when adding new equity exposure.
NDX: The growth/Tech-heavy Nasdaq 100 (NDX) can extend further, but expect the index will lose its leadership role in the weeks ahead and become incrementally concerned about renewed rotation and multiple compression in Tech if/when the 5/30 curve widens beyond ~130bps.
Real yields: Real yields (nominal yield minus inflation) and the shape of the yield curve don’t always show perfect positive correlation, but markets use the two interchangeably for practical purposes. A forecast for higher real yields is non-consensus, but plausible given the backdrop. Inflation expectations can decline from current levels AND nominal bond yields can rise as markets gain confidence in the sustainability/durability of the cycle. Today’s slight miss in May PCE helps reduce inflation expectations at the margin and it’s also important to remember that pre-pandemic, nominal 10-year yields were above 2%. Importantly, higher real yields can result when just one input moves in the opposite direction. We stay with the value bias and hedge long positions in extended Tech.