TIPS Breakevens – Inflation Disappoints

AQA Comments:  Breakeven spreads pulled back 2 bps across the curve on Friday. Overall, spreads finish the week wider, though clearly on their back foot. We have been arguing that even though breakeven spreads have widened with strong energy and risk markets, they will eventually need support from economic growth and inflation data. Friday saw some disappointments on the inflation front with PCE Core coming in light (0.1% MoM and 1.3% YoY). That contributed to spreads weakening despite new highs for the S&P 500.

Spreads have fallen back toward fair values, though 5yrs are still about 5 bps rich to our estimate. The Citigroup Economic Surprise index ticked higher again. But another inflation miss means a widening divergence between the inflation and broader surprise index. This will be a challenge for breakevens to look past.

5yr   |  Actual  178.0  Fair Value  173 bps
10yr  |  Actual  185.5  Fair Value  184 bps
30yr  |  Actual  192.8  Fair Value  192 bps

Trading Desk Comments:  Despite late in the week profit taking, TIPS outperformed in September. Breakevens are 6 to 12bps wider between 5s and 30s (short end led).  Overall momentum remains solid as TIP owners are eager to add to positions.  Demand for intermediate maturities over the past month as a result has been pushing the breakeven curve flatter.  Therefore, those looking for breakeven value are moving out the curve. The back up in real rates is enticing for those looking for 30yr real rates which are trending towards 1%.

Full TIPS report:   TIPS_Report_09-29-2017.pdf

Total Return Data:  TIPS Total Return Data

High yield OAS remain on top of the variable importance chart for the past 30 days. Even in the absence of better inflation data, stronger risk markets and rising oil prices have been sufficient to drive breakevens wider.

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