Economic Commentary
- January headline CPI index rose 0.467%, two tenths above the consensus estimate, and a 3% year-on-year increase. Core CPI rose 0.446%, just barely rounding down to 0.4% instead of up to 0.5%. The core annual increase accelerated to 3.3%, two tenths above the 3.1% consensus. Supercore CPI rose 0.76% in January, the biggest increase since March 2024. Supercore CPI had been running below 0.5% since April. The BLS notes the shelter index increased 4.4% over the last year, which is the smallest annual increase since January 2022.
- The small business optimism index fell from 105.1 to 102.8 in January. That’s still quite high compared to readings around 90 in 2002-04, but it is an indication some of the euphoria in the small-business community is fading.
- Headline payrolls fell short of expectations in January with 143k job adds (versus 175k consensus). The prior two months’ data were revised higher by 100k jobs, pushing the 3m moving average up to 237k. Annual benchmark revisions to the March 2024 total employed figure were better than feared at -589k versus the preliminary indication of -818k from August. Adding to the strength of the labor market, the unemployment rate fell to 4.0% (versus consensus for 4.1% unchanged), while the labor force participation rate firmed to 62.6% (+10 bp).
- Average hourly earnings jumped 0.5%, a surprisingly big increase given the weakness in goods producing job growth. This increase is almost certainly weather related, however, as hourly workers go unpaid when they cannot get to work and dominate the lowest-paid jobs. The yr/yr rate of average hourly earnings growth was unchanged at 4.1%.
- In the household survey, employment rose 2.2 million and the labor force rose 2.1 million, resulting in a drop in the unemployment rate from 4.086% to 4.011%. The huge increases in both jobs and labor force reflect a jump in the population estimate.
- January PPI rose 3.5% year over year, above the 3.3% estimate. December was revised higher from +3.3% to +3.5%. While the figure is hot on the surface, the components that flow through to PCE were actually soft.
Our take: January CPI and PPI data suggest that inflation remains problematic. There are some statistical considerations that are affecting these figures, including updated seasonal adjustments. In addition, January is a time when many businesses take price increases, which can also lead to spikes in prices. We also have noise on account of behavior changes by companies and consumers who may have been stockpiling inventory or making large purchases ahead of potential tariffs. While this data certainly pushes back the timing of any potential rate cut and perhaps could even make the next Fed move a hike, there are so many significant changes taking place, we really need to let some of the dust settle and see where the true underlying trend is over the coming months. In the meantime, interest rates will move around and trading the range or actively adjusting positioning can add alpha to bond portfolios.
Corporate Bond Market Commentary
- IG spreads widened 2bp to +84bp and total returns were +0.35%.
- Fund flows were +$1.789 billion.
- New issue supply was $40 billion across 22 deals. New issue concessions were slightly wider at 4bp, order books were 4x and attrition was only 16%.
- HY spreads tightened 1bp to +267bp and total returns were +0.02% (BBs +.07%, Bs +0.02%, CCCs -0.21%).
- Fund flows were +$1.479 billion.
- New issue supply was $9.72 billion.
Our take: Rate moves are driving bond price performance, as the interest rate volatility is dwarfing spread moves. This is not overly surprising, as all-in yields remain justifiable to investors looking for income. As long as fiscal policy, trade policy, or other changes enacted by the new administration do not cause unintended economic consequences, credit quality should remain fine. Inevitably there will be idiosyncratic situations where policy changes affect individual companies or industries; avoiding these potholes will be key to performance in 2025. Earnings season has been fine so far, but understand that the high yield borrower cohort is just starting to report their earnings, with the more stressed companies to follow later in the earnings cycle, so we are not out of the woods yet. Most companies are taking a wait and see position on tariffs and other changes that could affect their businesses, which is understandable but not helpful to investors trying to assess the future outlook.
Municipal Bond Market Commentary
- Yields fell again in the week ending February 7 in both municipal and longer maturity US Treasury bonds, while yields moved slightly higher on the short end of the Treasury curve. AAA muni yields were down 8, 9, 9, and 3 bp at 2, 5, 10 and 30 years while US Treasury yields were up 9 and 2 bp at 2 and 5 years and down 4 and 9 bp at 10 and 30 years.
- AAA Muni/Treasury ratios were 4% lower at 2 years, 2% lower at 5 years, 1% lower at 10 years and 1% higher at 30 years to end the week at 61%, 63%, 66% and 84%. AA Muni/AA Corporate ratios were down 3% at 2 years, down 2% at 5 and 10 years and up 1% at 30 years to end the week at 61%, 60%, 61% and 78% at 2, 5, 10 and 30 years.
- Municipal bond funds had inflows of $1.1 billion for the weekly period ending February 5.
- Muni issuance is expected to be around $10 billion in this week.
Our take: Municipal bond demand technicals remain favorable with reinvestment dollars and fund inflows outpacing new issue supply.
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