Bonds Archives - Aptus Capital Advisors

Breaking Down 10 Year Bond Yields

John Luke Tyner — Fri, 30 May 2025 15:53:43 +0000

While there is certainly a lot going on in rates markets, it’s been interesting to see participants give more attention to the fiscal backdrop of the US government. It comes as no surprise that the weighted average cost of our government debt has increased dramatically over the past 4 years, while the level of debt has increased by >40% over the last 5 years ($36.2 trillion now vs $25.7 trillion in June of 2020).

The graphic below (blue line) shows the weighted average cost of our debt, which sits currently at ~3.3%. The red line shows the net interest cost as a percentage of tax receipts, which currently sits at about 18%, several percentage points above the 14% level where bond vigilantes have historically begun to push austerity measures.

Keep in mind that 2024 was a record year for tax receipts on the back of strong asset market performance.

10 Year Yield Components

We’ve gone through this exercise in the past, where we look to break down the US 10-year yield into its three components:

- Inflation expectations,

- Real yields (the expected path of monetary policy), and

- The term premium

All 3 components of the yield have increased since COVID. First, we had inflation, then the tighter policy (which hasn’t totally cured the inflation), and recently, a widening in the term premium.

What should we make of these moves? On inflation, the situation isn’t surprising. As we have said repeatedly since COVID, the prevailing tendency of inflation has shifted. 2% was a ceiling on inflation in the 2010s and is now serving as a floor. Why? We think because of a faster growing economy, fiscal policy responses, and tighter labor markets.

Real Yields

Central banks have kept rates high, and their economies haven’t crumbled. The explanation:

- A decade of deleveraging after the Global Financial Crisis (GFC) has left balance sheets in their best shape since the 90s

- Fiscal policy is now more activist (a different fiscal/monetary mix than past cycles)

- Aging demographics

- Looking ahead to the massive investment needs of the 2020s

If you are inclined, you could say that the imaginary r* (natural level of interest rates) has risen. 10-Year real yields currently sit above 2%.

Term Premium

The Term Premium is the extra yield investors demand for holding long-dated securities rather than rolling over short-dated paper. The popular trope is that it reflects “fiscal risk”, or “too much issuance” or, when absent, manipulation such as Quantitative Easing (QE). The boring reality is that the Term Premium reflects the hedging properties of government bonds. In addition, rising term premia can strike fear into equity investors.

For two decades, bonds were a positive carry equity hedge. Investors only had to think about demand shocks, which meant inflation moved in tandem with GDP. In a recession, bonds rallied, cushioning equity losses.

Meanwhile, everyone had faith in policymakers (Fed Put). You could rely on the Fed to keep expectations anchored, which meant you didn’t need to worry about stagflation. When bonds had these properties, investors paid an insurance fee to hold them – hence a negative Term Premium.

Bonds’ Ability to Hedge Equity? Diminishing

We’re now ready to talk about the real danger in bonds. While the rise in yields has been mostly benign (so far), it is worrying that the hedging properties of bonds have deteriorated, and the term premium is edging higher. Bond and equity returns have been positively correlated, which is not what you want if you are looking for insurance.

Remember, bonds can’t grow, and are at the mercy of the government protecting their purchasing power (by limiting debasement). Given US Treasury Secretary Scott Bessent’s recent comment on growing the economy faster than the growth of the debt, market participants are taking notice.

Long-Term Bonds Are Being Impacted

Bond investors are showing an unwillingness to lend to at below inflation rates to fund (reckless) government spending forever. The circumstances for each country may vary but the underlying force is identical…post-COVID, the world has changed. Inflation is higher, central banks are not buying up bonds as they once did. But governments still want to borrow and run major deficits. Bond investors are requiring governments to more properly reward them for the risks (i.e., debasement).

In saying that, the benchmark 10-year Treasury yield, at 4.5%, is more than a percentage point lower than its historical average of 5.6% since the 1950s. Even if you remove the period from 1980 to 1985 in which the 10-year yield was persistently above 10%, that historical average declines only modestly to 5.1%, still well above the current yield.

Most investors have been influenced by the ZIRP-like policies of the post-GFC economy, which we believe are unlikely to return.

Disclosures

Past performance is not indicative of future results. This material is not financial advice or an offer to sell any product. The information contained herein should not be considered a recommendation to purchase or sell any particular security. Forward looking statements cannot be guaranteed.

This commentary offers generalized research, not personalized investment advice. It is for informational purposes only and does not constitute a complete description of our investment services or performance. Nothing in this commentary should be interpreted to state or imply that past results are an indication of future investment returns. All investments involve risk and unless otherwise stated, are not guaranteed. Be sure to consult with an investment & tax professional before implementing any investment strategy. Investing involves risk. Principal loss is possible.

Advisory services are offered through Aptus Capital Advisors, LLC, a Registered Investment Adviser registered with the Securities and Exchange Commission. Registration does not imply a certain level or skill or training. More information about the advisor, its investment strategies and objectives, is included in the firm’s Form ADV Part 2, which can be obtained, at no charge, by calling (251) 517-7198. Aptus Capital Advisors, LLC is headquartered in Fairhope, Alabama. ACA-2505-23.

The post Breaking Down 10 Year Bond Yields appeared first on Aptus Capital Advisors.

Moody’s Downgrade: Should We Care?

John Luke Tyner — Wed, 21 May 2025 14:08:17 +0000

Last Friday, Moody’s rating agency lowered the US credit rating from Aaa to Aa1 (their version of AA+). Technically, this doesn’t change the US’s overall credit rating because it was already split-rated AA+. This follows downgrades by S&P in 2011 and Fitch in 2023.

Source: Strategas as of 05.19.2025

When S&P downgraded the US credit back in 2011, many derivative contracts, loan agreements, investment directives, and similar documents prohibited using non-AAA securities for collateral. The fear was that a downgrade below AAA meant Treasuries would no longer be eligible under these rules and would create forced selling.

Cooler heads soon prevailed as the 2011 downgrade left the US split-rated AAA (Moody’s Aaa, Fitch AAA, S&P AA+). So, the US was still AAA and not in violation of these contracts. In the years after 2011, those contracts were rewritten from “AAA securities” to “government securities,” thereby excluding the credit rating qualification.

Back in August 2023, when Fitch downgraded the US to AA+, and the US became a split-rated AA+ country (S&P and Fitch AA+, Moody’s Aaa), officially losing its AAA status, it had almost no effect on the bond market. No one was forced to do anything.

The Moody’s downgrade isn’t really telling investors anything they didn’t already know. S&P and Fitch were earlier movers on the downgrade citing similar concerns. We’ve seen the fiscal picture steadily worsen over the past 15+ years, it’s just recently become more noticeable given higher interest rates and the associated interest cost burden associated.

Time for Austerity?

The biggest thing is that improvements to the deficit have not been addressed. Historically when interest costs exceed 14% of tax revenues, fiscal hawks (or bond vigilantes) force change with some type of austerity measures.

Source: Strategas as of 05.19.2025

Another wild stat is that deficits are this elevated even with tax revenues at an all-time high in April, after a great year for equity markets in 2024.

Unaddressed Deficits

Interest costs have surged in nominal dollars, but when compared to the % of GDP, are only back to levels from the mid-90s.

Source: Strategas as of 05.19.2025

Source: FRED as of 05.19.2025

The US fiscal situation has become untenable. But did we need Moody’s to tell us this? It was hardly a secret. That said, the act of downgrading the US will not force anyone to do anything. No one will have a forced liquidation like the worry when a company/country loses its investment grade rating. Besides, the US was already split-rated AA+ due to the previous S&P (2011) and Fitch (2023) downgrades. So, Moody’s downgrade changed nothing; they just aligned with S&P and Fitch.

Impact on Stocks

From a risk asset stance, looking past the initial blip in markets from past downgrades, markets were higher 6 and 12 months later in both scenarios (S&P in 2011 and Fitch in 2023). While past performance is of course no indication of future performance, to say the downgrade will be devastating to stock markets has historically proven untrue.

Source: Yahoo Finance as of 05.19.2025

Bottom line, we all know it’s not sustainable to run budget deficits of 7% of GDP with this level of employment. The US needs to get federal spending in check to see meaningful deficit reductions. Time will tell on how/ when that happens but we think with the move higher in yields (and ensuing media coverage) could pressure congressional attention sooner rather than later.

Disclosures

Past performance is not indicative of future results. This material is not financial or tax advice or an offer to sell any product. The information contained herein should not be considered a recommendation to purchase or sell any particular security. Forward looking statements cannot be guaranteed and all calculations may change due to changes in facts and circumstances.

The post Moody’s Downgrade: Should We Care? appeared first on Aptus Capital Advisors.

May FOMC: A Pause for Thought

John Luke Tyner — Thu, 08 May 2025 16:11:31 +0000

→ FED SAYS UNCERTAINTY ABOUT OUTLOOK HAS ‘INCREASED FURTHER’

→ FED: RISKS OF HIGHER UNEMPLOYMENT, HIGHER INFLATION HAVE RISEN

→ FED HOLDS BENCHMARK RATE IN 4.25%-4.5% TARGET RANGE

Source: Bloomberg as of 05.7.2025

The Fed has cut the fed funds target rate 100bp since September 2024 but held rates steady for a 3rd straight meeting, and emphasized they see a growing risk of both higher inflation and rising unemployment. The word of the day was “wait” where Powell said some variation of the word 22 times in his press conference, in reference to waiting for more data.

Policy uncertainty surrounding tariffs, tax cuts, inflation, and immigration has sidelined the Fed until the effects become clearer. The labor market and economic activity cooled in the first quarter of 2025, particularly due to tariff uncertainty. Inflation is still cooling, but short run price increases from tariffs put further progress in question.

The Fed downplayed recent weakness in the Q1 real GDP data, stating net export swings as an excuse (we agree), and described U.S. economic activity as “solid” (also agree). The Fed does not want to move pre-emptively given how fluid the U.S. economic situation appears. Pausing a while longer buys time to see the effects of the recent tariff shock.

Ultimately, the Fed offered minimal guidance on what comes next for monetary policy (however, markets are pricing slightly over 3 cuts for 2025). If inflation picks up over the course of summer, the next opportunity to cut rates could be pushed out longer than markets are currently pricing.

Cleveland Fed Inflation Forecast

I constantly monitor the Cleveland Fed’s Inflation Nowcast for the direction of inflation in real time. With the next inflation report coming up next week (5/13), another jobs report in early June, and the next Fed meeting on June 18th, there is a brief window for soft enough data to get the Fed to consider a June cut.

Markets are only pricing a ~30% chance of a cut, but these odds have moved drastically over the past month given market vol. Looking at the Cleveland Fed’s forecast, the shorter term (quarterly annualized) gives a good idea of the short-term trend.

Source: Cleveland Fed as of 05.07.2025

As you can see in the red box, headline numbers are comfortably below the 2% objective (weak energy prices helping tame prices), but the Core numbers continue to hold above target (unfortunately, these are the ones that matter to the Fed).

With the Fed basically committing to not being proactive with cuts (hence the “waiting” message), it really begs the question of whether the Fed will wait for the Core numbers to post below 2% squarely or do they just need to see a report or two (remember March report was weakest since 2022) to change their tune?

Shelter Inflation: CPI Data Continues to Lag “Real Time” Data

Real-time inflation data continues to point to lower prices, specifically regarding the shelter category. As the data SLOWLY works its way through to the official CPI shelter calculations, it should continue to help pull inflation readings lower. This has been in the cards for multiple years now, but fortunately could finally come to the Fed’s aid in getting inflation back to target.

Source: Doubleline as of 04.30.2025

2025 Deficit Tracking Higher Than the Last 5 Years

The deficit story has been massive since COVID. The U.S. Government has run hefty fiscal deficits for the last several years, well above historic averages.

Source: Peterson Foundation as of 04.20.2025

Fiscal policy is a tool more and more governments have leaned into, which went mostly unnoticed during the ZIRP (zero interest rate policy) environment, given that the cost to run high deficits wasn’t exactly penal. The last couple of years, as rates have risen, the buck has come due, and the deficits are causing our federal interest expense to get well above the 14% of tax receipts (currently ~18%) that have historically been associated with austerity measures.

When there is a cost to the debt, the compound effect of interest works in the opposite way of how you want it, snowballing the impact. Moving forward, we expect the fiscal side to work its way lower, and it’s likely a matter of how… by choice (cost control), or by force (bond vigilantes).

Fed Balance Sheet Update

The Fed continues normalizing its balance sheet after massive Quantitative Easing in 2020 and 2021. At its March 2025 meeting, the FOMC announced the Fed would slow the pace of balance sheet normalization further, with many in the markets expecting an end to the normalization later in 2025.

One interesting point is that the Fed has not (on net) sold any 10yr+ USTs since 2010, despite the US having gone through the longest yield curve inversion on record. This begs the question: if there was demand for long-duration bonds, why didn’t the Fed sell (and lower overall duration)?

In addition, per the System Open Market Account (SOMA) forecast, a 5% growth rate in the Fed’s balance sheet is projected moving forward.

Source: SOMA as of 04.30.2025

Simple math tells us that the balance sheet will double every 14 years, without anything bad happening to the economy. I guess that answers the question of who will buy the bonds… the Fed. Long-duration Treasury buyers beware!

Disclosures

The post May FOMC: A Pause for Thought appeared first on Aptus Capital Advisors.

Around the Bond Market, April 2025

John Luke Tyner — Fri, 25 Apr 2025 15:29:54 +0000

President Trump Critiques the Fed

Earlier this week, President Trump indicated he thinks the Fed should be “early, or on time” cutting rates, but not “too late,” adding it is “a perfect time to lower the rate.” Pressed by a reporter asking if the President has the power to remove a Fed Chair, Trump added, “I don’t want to talk about that, because I have no intention of firing him.”

Source: Polymarket as of 04.23.2025

Long and intermediate duration Treasury yields reacted by falling significantly lower, as faith in central bank independence has been (for now) restored. What the change in rhetoric does is give the President the ability to blame the Fed if the economy slows significantly, especially if inflation turns out less severe than feared. There will be no doubt in anyone’s mind the rate path Trump favored, which is why we found the Bloomberg News headline declaring “Powell may have quietly won Trump’s one-sided war with the central bank” as a bit comical.

If, in six months from now, inflation is in retreat and unemployment is low, Powell will clearly have made the right policy decision, and Trump will take a bow for overcoming his gut instincts and backing off from trying to remove Powell a year early. On the other hand, if the economy is in recession, unemployment is high, and inflation falls through 2% because the Fed kept policy restrictive for too long, the President can point to the Fed’s excessive caution under its “too slow” Chairman.

In effect, the President has turned a spotlight on the Fed’s forecast and participants’ repeated reluctance to cut rates. As a result, the FOMC is under immense pressure to get policy right. Remember, the Fed’s own analysis of the 2018 tariffs showed a much bigger negative influence on growth than positive influence on inflation. My take is that the Fed passes on a May cut based on perception but likely cuts again in June.

Fed Commentary on Direction of Policy

Federal Reserve Board Governor Adrianna Kugler warned that the tariff impact is “likely larger than expected” and echoed other participants in calling for rates to be left unchanged until the Fed is certain inflation is contained. Other Fed speakers (Austan Goolsbee, Alberto Musalem, and Beth Hammack) communicated a similar message.

The problem with so many Fed participants repeating the “keep-policy-restrictive-until-certain message, even as each, on an individual basis, qualifies their warnings by underscoring forecast uncertainty, is that it has locked the FOMC into a course of action that (if wrong) will justify the President’s criticism. I think it might be a better strategy to be a little less emphatic. They can still vote to keep rates unchanged, after all, even if they do not paint themselves into a policy corner.

Fed Already Performing a Type of Yield Curve Control (YCC)?

Former Treasury Secretary, Professor Yellen, shifted an increasing share of issuance to the front end of the Treasury curve. This can be seen below with the large, ~22.5%, share of Bills issuance relative to the other tenor buckets.

Data as of 04.20.2025

The Fed, on the other hand, has clearly not matched its holdings to the tenor proportions of the Treasury’s issuance. The Fed has a significantly disproportionate amount of their holdings, ~25%, in the 10 to 22.5 year bucket. The Fed’s Quantitative Tightening has been a dollar-based gradual decline, not a duration-based decline.

One could certainly question whether the Fed has been trying to aid the Treasury in the management of the lack of market appetite for longer duration bonds. We might point to this and claim that the Fed continues to provide a level of support to the Treasury in coping with the problems of excess debt and glimpses of fiscal dominance. These actions have made it easy to think that the Fed (and all the past Quantitative Expansion) has played a key enabler role in getting to this point.

Short and Mid Duration Inflation Swaps Telling a Different Story

Considering the hotter than hoped CPI readings to start the year and the high level of uncertainty regarding tariff policy on price levels, the market has struggled with the fear of higher price pressures in the short term. While fears have come down since Trump’s “Liberation Day” and ensuing 90-day pause, short-term inflation expectations measured by 1 year inflation swaps remain elevated.

Source: FT as of 04.23.2025

On a positive note, longer term inflation swaps (5 & 10 years) show no worries of elevated inflation lingering into the future. We’d imagine one of these is mispriced, and based on the price impacts from tariffs in Trump 1.0 and the tamer language from Trump in the past couple of weeks, we’d bet inflation fears in the short term could be overdone.

Disclosures

Advisory services are offered through Aptus Capital Advisors, LLC, a Registered Investment Adviser registered with the Securities and Exchange Commission. Registration does not imply a certain level of skill or training. More information about the advisor, its investment strategies and objectives, is included in the firm’s Form ADV Part 2, which can be obtained, at no charge, by calling (251) 517-7198. Aptus Capital Advisors, LLC is headquartered in Fairhope, Alabama. ACA-2504-27.

The post Around the Bond Market, April 2025 appeared first on Aptus Capital Advisors.

No Help From Bonds

John Luke Tyner — Fri, 11 Apr 2025 15:23:50 +0000

CPI Update: Softer Than Feared

The latest inflation report showed that consumer prices cooled more than expected. The CPI fell -0.1% in March, the first monthly decline since May 2020. The median forecast expected the CPI to rise 0.1% in March. YoY, consumer prices rose 2.4%, a tenth of a percentage point less than expected which marks the second month of cooling following four consecutive months of acceleration. At 2.4%, this marks the smallest annual gain in six months.

Source: Stifel as of 04.10.2025

Excluding food and energy costs, core CPI rose 0.1% in March, less than the 0.3% gain expected and down from the 0.2% gain in February. YoY, core CPI increased 2.8%, two-tenths of a percentage point less than expected and marked the smallest annual increase since March 2021.

As expected, energy prices were down sharply, down 2.4% MoM on a 6.2% decline in motor fuel. The drop in oil more than offset an uncomfortably large increase in food CPI, which were up 0.4% MoM, the largest increase in 26 months.

On the core goods side, prices fell 0.1% MoM on fairly broad declines, including a 0.7% drop in used vehicle prices. Prescription drug prices fell 2.0% MoM, the largest drop in records back to 1969. The breadth of declines in core goods prices puts on the back burner, at least for the time bein,g growing concerns about rising goods inflation due to tariffs.

On the services side, core prices rose just 0.1% MoM, the smallest increase in 43 months. This was despite a firmer month for housing. Owners’ equivalent rent CPI, which has finally been showing evidence of cooling, popped 0.4% higher in March. Excluding housing rents, super core services CPI plunged -0.2% MoM, also the largest decline since May 2020. The weakness in services prices was not as broad as seen in goods categories. Contributing to the drop were particularly large declines in travel-related categories. Hotel prices fell 3.5%, airfares sank 5.3%, and rental car prices fell 2.7%. To note, Delta withdrew its forward guidance earlier this week on concerns about consumer travel patterns and uncertainty from tariffs.

Interest Rate Probabilities: Can the Fed Cut Again, Yet?

Tariffs are expected to hurt demand and economic growth, which would normally prompt the Fed to lower interest rates. But tariffs will also raise inflation, at least temporarily, which makes it harder to justify rate cuts and puts the Fed in a precarious position.

Source: Bloomberg as of 04.10.2025

Minneapolis Fed President Neel Kashkari’s states an answer to how Fed policy will affect the impact from tariffs in his latest essay:

“The hurdle to change the federal funds rate one way or the other has increased due to tariffs. Why? Because tariffs are, among other things, a supply shock. There will be fewer goods available. If the Fed eases, effectively adding more money chasing too few goods, the primary effect will not be stronger growth but higher inflation. If there is a cure for tariff-related economic disruption, it is time.”

While this does not mean the Fed cannot cut rates at all, we view the current policy as still restrictive, and the Fed likely can adjust rates down to neutral. However, the adjustment should probably come after any tariff-related inflation. Given that historically, inflation has come in waves, it emphasizes the reason for the Fed to cut to neutral policy and not to stimulative policy. The downside of waiting too long is that the longer the Fed waits, the more they likely must do, which increases the chances of overdoing it.

Could Foreigners Have a Buyer’s Strike on USTs?

Were foreigners to shy away from buying Treasuries would it lead to lower prices (and increase yields)? Sure, anything is possible. However, this could also mean unrealized losses in the rest of their holdings (higher yields = lower bond prices). Higher U.S. yields would likely drive their own sovereign yields higher. Would it hurt the U.S.? Yes. Could it hurt foreigners even more? Quite possibly.

Source: Bianco as of 04.10.2025

Foreigners currently hold $8.5T (blue) of the $28.8T of publicly held debt (orange) for a total of 29.5% of debt outstanding (green). This ratio fell from 2008 until 2022 as the Fed was a huge buyer via QE.

We’ve had multiple Treasury auctions this week that have thus far proved this fear unnecessary as foreign demand has been impressively higher than expected (or feared).

What if Bonds Don’t Hedge Stocks?

The bond-equity correlation was negative for most of the 2000s but turned positive following COVID-induced supply shocks.

Source: TS Lombard as of 04.10.2025

The relationship between the asset classes has been choppy since, which has been masqueraded by strong equity markets (except for ’22). The threat of tariffs has pushed the correlation back into positive territory. Ultimately, the bond-stock correlation depends on the nature of inflation. Negative supply shock-type inflation is counter-cyclical (rising inflation = slowing growth), causing equity and bond returns to move in the same direction. The Fed’s hand of a) potentially slower growth and b) higher prices, puts them in murky territory.

Bonds Have Shown Limited Benefit Thus Far in 2025

Source: TS Lombard as of 04.10.2025

A strong US bond rally has not fully materialized as the market has to balance the prospective hit

to US GDP growth and the inflationary impulse that Trump’s declared renaissance in US manufacturing could bring. While 10yr yields could drop in the event of the dreaded recession, we believe the impact will be muted and after the initial decline, we expect higher yields in reaction to the policy response.

Disclosures

The post No Help From Bonds appeared first on Aptus Capital Advisors.

FOMC is Waiting for Clarity, Too

Joseph Sykora — Fri, 21 Mar 2025 16:34:44 +0000

Fed Waiting, Like the Rest of Us

The Federal Open Market Committee (FOMC) met this week, deciding to leave the reserve rate unchanged as expected (a unanimous decision amongst voters). The Fed’s so-called “dot plot,” which projects participants’ expectations for future rate moves, continued to indicate two additional cuts (50bps total) for 2025, which is generally consistent with the market’s betting odds (calling for 2-3 cuts). The market expects the Fed to remain on hold through its next meeting (May 7th), with an expectation for a June 18th rate cut.

While two cuts with an additional two next year seem benign, many expect a more volatile outcome (indeed, the dots themselves suggest that possibility with many well removed from the average). Economist Steven Blitz at TS Lombard noted the following:

“With the current outcome highly uncertain and recession now a marginally higher possibility, policy dosage needs to be subtly hawkish without damaging current growth. That is what the FOMC delivered. The economy determines what comes next, meaning the Fed will be late if unemployment jumps. In other words, funds rate forwards are wrong. It is a binary game – 200BP of cuts if unemployment hits 5%, or no cuts this year and hikes in 2026.”

While this was a relatively quiet Fed day, the announcement was made of an adjustment to the path of Quantitative Tightening. The statement noted, “Beginning in April, the Committee will slow the pace of decline of its securities holdings, by reducing the monthly redemption cap on Treasury securities from $25 billion to $5 billion.” Moreover, participants noted uncertainty around the economic outlook (not the least of which would be fiscal policy, namely tariffs).

As is typical, Chair Powell noted that “The Committee is attentive to the risks to both sides of its dual mandate,” referring, of course, to employment and inflation. Of late, sentiment indicators, consumer spending, and fiscal policy have created concerns regarding economic growth, which could weigh on the employment side of the mandate. However, this meeting saw a continued (and accelerated) worry logged amongst participants in regard to the future path of inflation. This two-sided attack hints at stagflation, a rare phenomenon feared by investors and policy makers alike, though likely much too early to consider as a major alarm.

Strategas as of 03.19.2025

One final point of note would be the Fed’s projection for long-term rates. Of course, one could consider this no better than a shot in the dark, but it provides insight into what policy makers are thinking in terms of perceived structural shifts. From the following chart, what we see is through the inflationary years of 2021-2023, Fed officials still believed that rates would eventually settle back at 2.5% (remember when inflation was “transitory”?). Over the last several meetings, that rate has ticked up to 3.0%, even as inflation has largely subsided on a year-over-year basis. This tells us that those making policy have changed their views on the neutral rate, a slight nod to the “higher for longer” camp.

Since our update two weeks ago, the 10yr treasury note has chopped around, declining by a few bps. Frothy sentiment among investors in view of the new administration initially drove rates higher, peaking at 4.8% on January 14th. We then witnessed a complete reverse of course, with rates dropping on the growth scare narrative and the realization that Trump 47 is seemingly more concerned with rightsizing policy (including explicitly driving long-term interest rates down) than with the equity market scoreboard.

Now that rates have come off the boil, investors are weighing multiple inputs including fiscal policy (tariffs), economic growth, inflation, and liquidity, the last of which is driven in part by the absence of new debt issuance due to the debt ceiling being reached. To that end, the government is financing continued deficit spending via a drawdown of the Treasury General Account, a piggy bank with an absolute $0 bound that will eventually need to be replenished. In the meantime, this should serve as a headwind to higher rates and allow the debt ceiling debate to be kicked into the back half of the year.

Disclosures

The post FOMC is Waiting for Clarity, Too appeared first on Aptus Capital Advisors.

Dueling Mandates in Play for FOMC

John Luke Tyner — Thu, 06 Mar 2025 22:44:16 +0000

Atlanta Fed GDP Now Shows First Signs of GDP Sputtering in Several Years

The GDPNow model estimate for real GDP growth (seasonally adjusted annual rate) in the first quarter of 2025 came in at -2.8% on March 3, down from -1.5% on February 28. Following releases from the US Census Bureau and the Institute for Supply Management, the nowcast of first-quarter real personal consumption expenditures growth and real private fixed investment growth fell from 1.3% and 3.5%, respectively, to 0.0% and 0.1%.

The initial drop on February 28th from +2.3% to -1.5% can largely be attributed to accelerated imports due to potential tariff policy. The U.S. import surge would be expected to reverse over time, as quickened shipments (i.e., higher imports) build up into company’s inventories and eventually turn into sales revenues.

Source: ATL Fed as of 03.04.2025

In the GDP equation, C+I+G+(X-M) imports have a negative sign, so (pending more data) GDP tracking estimates took quite a hit (thus far) in Q1. This hit likely exaggerates the ultimate economic effect (due to comments above), but it is occurring at an inopportune time, given other data points indicating growth scares from Trump’s economic policy.

GDP Components Defined

GDP = C+I+G+(X-M)

C= Consumption

I= Investment

G= Gov’t Spending

X= Exports

M= Imports

(X-M)= Net Exports, a negative number for the US given our trade deficit

For now, net exports are acting as a 3.57% drag on GDPNow’s -2.8% growth rate. If you are willing to overlook those negative effects for the reasons cited above, GDPNow would be closer to 0.77% growth. That is obviously lower than ideal but not the catastrophic scenario being portrayed by the Atlanta Fed’s model.

“Fed Put” Teeters on Inflation Outlook

Source: Bianco as of 03.05.2025

St. Louis Fed President Alberto Musalem spoke earlier this week on which part of the Fed’s dual mandate he would focus on if stagflation (lower growth/ persistent inflation) became an issue.

“In determining how monetary policy should respond to alternative scenarios, especially when they might involve difficult employment and inflation trade-offs, it will be important that medium- to longer-term inflation expectations remain well anchored.”

Said more simply, sticky inflation could limit the Fed response (i.e., rate cuts) to a weaker economy. While easy to say today, when push comes to shove, we envision this somewhat bold statement could change were employment to meaningfully weaken, especially given that weaker employment would theoretically pressure future prices lower.

Cleveland Fed’s Inflation Nowcast Shows Closer to Target Inflation Incoming

The Cleveland Fed produces a regularly updated inflation forecast. This has been a useful metric over the past couple of years of heightened inflation to get a grip on the short-term trend. Keep in mind that the Fed’s inflation mandate targets inflation of 2% in Core PCE, not Core CPI. We think we are getting close to the “good enough” … as we’ve frequently said, we believe the mandate is 2 point something versus exactly 2%. While shelter inflation comprises a smaller portion of core PCE compared to CPI (~18% on PCE vs 32% on CPI), it still represents a significant component that has contributed to the persistence of inflation above the Fed’s 2% target.

Source: Cleveland Fed as of 03.05.2025

Services Ex-Energy Inflation (Shelter)

Shelter inflation is still contributing much more to inflation than its historical norm.

Source: Truflation as of 02.17.2025

Given its lagging nature, we continue to expect stabilizing/declining shelter costs to support lower inflation. This would match the projections from the Cleveland Feds Inflation Nowcast, which calls for closer to target prints the next couple months.

However, as we’ve written about extensively, most of the other contributors (food, energy, goods) have already declined back to historical norms and have squeezed aggregate inflation down about as much as they can. It’s a little like juggling where we need to see shelter continue to tick lower without dropping the other balls (energy, food, goods, etc.).

Update on High Yield

High yield spreads have risen the past couple weeks and are now sitting near 300 bps, after reaching as low as 250 bps 2 weeks ago. From a historical context, high yield spreads are still very low.

Charts Source: Strategas as of 03.04.2025

HY defaults, much like HY spreads, are still low, but they’re rising. Typically, HY defaults rise AFTER spreads spike, but in this case, defaults appear to have bottomed last fall at around 2.0% and have begun to inch higher. With defaults still low, we wouldn’t otherwise make an issue of a pickup, but the rise in spreads lends some credibility to the idea that defaults could continue to creep higher in 2025 (as the market prices in some fears of the growth scare).

HY defaults are more of a lagging indicator, at least in most economic cycles. History suggests that defaults should move back above 3.0% even if the economy does no worse than a brief slowdown. Considering HYG is currently yielding ~7.2%, a 2-3% loss rate could impact total returns. Looking at it from that perspective, there appears very little additional compensation for the associated credit risk within the broad high yield bond asset class.

Disclosures

Advisory services are offered through Aptus Capital Advisors, LLC, a Registered Investment Adviser registered with the Securities and Exchange Commission. Registration does not imply a certain level of skill or training. More information about the advisor, its investment strategies and objectives, is included in the firm’s Form ADV Part 2, which can be obtained, at no charge, by calling (251) 517-7198. Aptus Capital Advisors, LLC is headquartered in Fairhope, Alabama. ACA-2503-10.

The post Dueling Mandates in Play for FOMC appeared first on Aptus Capital Advisors.

Around the Bond Market, Feb 2025

John Luke Tyner — Fri, 21 Feb 2025 12:41:51 +0000

Quantitative Tightening Ending Soon

This week’s press about the Fed minutes release were the same: the Fed is worried about tariffs and is in no rush to lower rates. But beneath the headline the Fed signaled Quantitative Tightening (QT) for Treasuries is coming to an end. Halting QT removes $25bn of tightening per month, $300bn annualized, and makes life easier for Treasury Secretary Bessent when the debt ceiling is raised.

Source: Strategas. As of 2/19/25.

The Fed needs to end QT now, before the debt ceiling is raised given the current nuance of bank reserves being overstated due to debt ceiling dynamics. Keep in mind the Fed is paying 4.4% on short-term liabilities and earning 2.6% on its long-term assets. The Fed has run a cumulative $223bn deficit as it pays out more than it earns on its B/S holdings (red line shows short term funding costs, blue line shows rate of return on Fed’s bond assets).

Inflation Diffusion Index Broadening

Some might quibble with the bits and pieces of last week’s CPI report, suggesting that “one-offs” created the January jump, along with unfavorable seasonal factors, with the year-over-year core CPI up 3.3%, vs 3.2% in December.

Data as of 2/14/25

But the diffusion index shows more than 50% of the CPI sub-indexes have a 3-month percent change > 12M percentage change. Inflation is becoming more widespread within the economy, further challenging the outlook for rate cuts.

Softening Labor Market Could Help Ease Inflation Pressures

Although the 143k nonfarm payroll gain in January fell short of expectations, other aspects of the report—including a 100k upward revision to November & December in addition to a drop in the unemployment rate to 4.0%—came in stronger than forecasted. The bigger picture is that the US labor market has stabilized at a healthy but not overheated level.

Data as of 2/15/25.

Job openings, quits, and assessments of labor market tightness by workers and firms are hovering at or just below pre-pandemic levels. Wage inflation has returned to the 3.5-4% range that we see as consistent with price inflation of ~2%, meaning the labor market is no longer a source of above-target inflation.

Truflation Inflation Index Hovering in the Mid 2s

We’ve highlighted the Truflation Inflation Index numerous times over the past couple years given its more timely inflation updates (daily vs. monthly on the CPI Index). The Index bottomed out last summer and has held in the 2-3% range since.

Source: Truflation. As of 2/17/25.

Truflation aims to offer a more comprehensive, timely, and transparent measure of inflation that can provide valuable insights and complement government indexes, given its real-time perspective on price changes. That being said, the index (as is the CPI index) is still running above levels that provide a green flag to keep cutting rates.

Shelter Inflation Now Helping Lower Inflation Calculations

Shelter inflation should continue to weaken over the course of the year (remember shelter inflation has lagging tendencies). Interestingly, lodging away from home (accounting for only about 1% of CPI) jumped 1.4% month over month (per last weeks inflation report). This is likely the result of folks finding somewhere to live following the spate of natural disasters we’ve seen to start the year.

Source: Ned Davis Research. As of 2/18/25.

This may already be self-correcting, as LizAnn Sonders notes that the “U.S. rental vacancy rate from @ApartmentList has now surpassed the July 2020 peak (6.85%).” Given shelter inflation (including OER) accounts for about 35% of headline CPI and 40% of Core CPI, we anticipate lower shelter costs over the course of the year to continue to pull inflation numbers down, closer to target.

Revisiting the Taylor Rule

While short-term inflation trends can impact the Fed’s policy flexibility, the policy stance itself is heavily influenced by the institution’s models, chief among them the Taylor rule. This measure was introduced by economist John Taylor in 1993, and helps calibrate monetary policy within the context of output and inflation.

Source: Pavillion. As of 2/17/25.

When unemployment is used as a proxy for output/income, the split between Waller and the other Fed Presidents becomes apparent. Depending on how each participant views the labor market, each perceives more, or fewer rate cuts required to balance the Fed’s mandate of price stability and employment. It’s one of many imperfect measures, but one that should be closely watched as the Fed navigates the next steps in the rate-cutting cycle.

Disclosures

The post Around the Bond Market, Feb 2025 appeared first on Aptus Capital Advisors.

CPI Update: Fed on Hold

John Luke Tyner — Wed, 12 Feb 2025 21:26:23 +0000

CPI rose 0.5% in January, above the 0.3% gain expected and an uptick from a 0.4% increase in December. Year-over-year, prices rose 3.0%, a tenth of a percentage point higher than expected and the fourth consecutive month of acceleration.

Source: Stifel as of 02.12.2025

At 3.0%, this marks the largest annual increase in seven months. Food prices rose 0.4% and energy prices jumped 1.1% in January following a 2.4% gain in December.

Treasury yields moved higher across the board however the long end is rising more, steepening the yield curve. Stock’s initial reaction to the print is negative as the 10-year Treasury is firmly through the 4.5% level that’s proven a difficult level for risk assets.

Excluding food and energy costs, core CPI rose 0.4% in January, a tenth of a percentage point higher than expected and the largest gain in ten months. Year-over-year, core CPI increased 3.3%, two-tenths of a percentage point higher than expected and an uptick from the 3.2% annual gain in December.

Beyond the Headlines

In the details of the report, transportation prices rose 1.4%, due to a 2.2% gain in used cars and truck prices, and a 1.2% gain in airline fares. New car prices were unchanged. Shelter prices rose 0.4% with a 0.3% gain in the OER in January, matching the rise in the month prior.

On a positive note, the shelter index increased 4.4% over the last year, which is the smallest annual increase since January 2022. Commodity prices increased 0.6% in January, and medical care prices rose 0.1%. Apparel prices fell 1.4% to start the year. Shelter inflation and transportation services made up the bulk of the gains in the print.

Given the tweaks to seasonals and weights affecting this print, the outliers aren’t shocking and not totally abnormal for January, which tends to have some funkiness. Supercore, which strips out housing, came in at 0.8% which is the highest level since Jan 2024 (and before that April 2022).

Perhaps some of this strength can be explained by the fires and weather, and in used car prices and lodging. But probably not enough to explain away such a beat. The 2-cut median dot for 2025 are likely at risk for next month’s updated Summary of Economic Projections (SEP), with 3M and 6M trailing core moving up and away from the inflation target. We continue to see inflation expectations (longer run) as key to how the Fed calibrates the next signaling steps.

Bottom Line

The Fed shouldn’t be cutting or at least in a rush to cut. While there is seasonality in the data, the argument of looking to favorable data in the back half of 2025 to make the case for disinflation is becoming more difficult. It appears core PCE is stuck between 2.5% and 3%. Given the strong labor market and continued price pressures, we believe it points to a higher neutral rate.

In addition, unknown tariff, tax, and government spending policy combined with concerning inflation means the Fed is likely to be firmly on hold, and markets will be squarely focused on what the White House does in 2025.

Treasury yields are higher across the board however the long end is rising more, steepening the yield curve. Stock’s initial reaction to the print is negative as the 10-year Treasury is firmly through the 4.5% level that’s proven a difficult level for risk assets.

Disclosures

The post CPI Update: Fed on Hold appeared first on Aptus Capital Advisors.

Not Relying on Help From FOMC

John Luke Tyner — Thu, 06 Feb 2025 16:28:59 +0000

FOMC Update

The January FOMC meeting went as expected (no rate cut). Chairman Powell offered limited forward guidance, stating that “we’re meaningfully above” the neutral rate for fed funds but countered that by noting the Fed is in no hurry to cut rates.

Source: Bloomberg as of 02.05.2025

Upcoming monetary policy decisions will be based both on data dependency but also on the market impact of Trump’s policies (such as tariffs, deregulation, and immigration). It will be difficult for the Fed to preemptively lower rates given the amount of policy uncertainty, at least in the short term. Gauging the recent dialogue of Fed speak, it seems that most of the Fed members agree.

The bar appears elevated for a March rate cut unless we see significant downside surprises in upcoming data. Markets aren’t fully pricing the next rate cut until July, with less than 2 cuts for the entire year.

Trump & Bessent: Goal is to Bring Down 10Yr UST Yields

In a recent interview with Fox Business, Treasury Secretary Scott Bessent said the Trump administration’s focus with regard to bringing down borrowing costs is 10-year Treasury yields, rather than the Federal Reserve’s benchmark short-term interest rate.

The 10-year Treasury yield and the rate of nominal GDP growth have historically exhibited a strong correlation. Over longer periods, the 10-year yield tends to track nominal GDP growth given that it reflects expectations for future inflation and real economic growth.

Source: Bloomberg as of 02.05.2025

Over history, the best way to reduce yields has been to bring down economic growth. The question is whether Trump 2.0 policies will be able to achieve strong growth, stable inflation, and lower yields.

Positive Stock-Bond Correlation Continues

The new interest rate regime marks a significant shift from the era of “secular stagnation” of the 2010s, presenting an opportunity for investors to embrace equity-driven portfolios while strategically managing risk. The past three years have demonstrated that the U.S. economy is resilient to higher interest rates, and we expect this trend to persist. With labor market data improving, inflation remaining above target, and policy set to favor growth, the investment landscape is primed for equity exposure over traditional fixed-income allocations.

Markets have already adjusted to this reality, pricing in only 1.5 rate cuts this year, while the futures market projects short-term rates staying above 4% indefinitely. This shift has profound implications for portfolio construction, signaling a need to emphasize asset classes that can thrive in such an environment. Rather than relying on fixed income for risk mitigation, investors should explore hedging techniques that allow for greater equity participation while managing downside risk effectively.

Source: FS Investments as of 02.05.2025

A prolonged period of higher rates presents two primary challenges. First, companies and assets will need to navigate an environment of persistently higher borrowing costs. While this does not jeopardize economic expansion, it does require a focus on quality assets and strong business fundamentals, reinforcing the case for active stock selection. Second, higher rates redefine policy dynamics, with the Federal Reserve balancing both sides of its mandate more actively than in recent years. Historically, such conditions have coincided with positive stock-bond correlations, underscoring the need for a portfolio strategy that prioritizes equities while employing active risk-mitigating strategies instead of traditional fixed-income buffers.

In this evolving market, the optimal approach is to tilt allocations toward equities, leveraging dynamic risk management tools rather than relying on bonds to provide diversification. Investors who adapt to this new paradigm by emphasizing high-quality equities and innovative risk mitigation strategies stand to benefit from the structural changes shaping the financial landscape.

Budget Deficits and Trade Wars Could Stress Foreign Lenders

We believe there will be a constraint on Trump’s use of tariffs to break global trade flows (i.e., reshoring). The US is a net debtor nation running a budget deficit that is 6.5% of GDP during an expansion. Roughly 30% of outstanding UST debt is held by non-US investors and some 20% is held by the Fed.

Source: TS Lombard as of 02.05.2025

The current stable system of global capital flows that runs alongside goods flows may be challenged if Trump’s tariffs break the ordered flow of goods (i.e., tick off too many of our trading partners). The Fed may yet find itself faced with the task of shoring up the needed inflow of capital to fund the government at the expense of domestic economic growth – if it is allowed to make that choice. This is how 1960s inflation turned into the 1970s, and could be a foreshadowing of what is to come.

Disclosures

The post Not Relying on Help From FOMC appeared first on Aptus Capital Advisors.