Severe price pressures have buffeted the global economy over the past year and a half. But there are now emerging pockets of disinflation (beyond used cars & trucks). Lumber futures tumbled last week due to soft housing market data out of the US. A rapid inventory build-up amongst retailers could also lead to steep discounts over the coming months.
The 10-year break-even inflation rate in the US declined by 14 basis points last week and is now roughly back to where it was at the start of the year: almost all the increase in the 10-year Treasury yield YTD has been due to the real yield. A modest decline in the 10-year Treasury yield may not provide much relief for stocks if real yields continue to grind higher, or stay ‘elevated’.
The small businesses outlook in the US has deteriorated: break-even inflation rates may be flagging the risks. The possibility of a credit event has increased. This would ultimately be disinflationary.
Corporate credit risks have migrated to private lending, which is less regulated and opaquer. Private credit markets have grown in importance as a share of high yield credit over the last decade. But the cracks are beginning to appear, with the Virtus Private Credit Strategy ETF down 11.2% YTD.
To be clear, the risks to the inflation outlook are finely poised. The trends for food, energy, and house prices mean that the CPI prints over the summer are not going to improve drastically. But the Fed is now hiking into a slowing housing market, which raises the risks of a disinflationary event.
