The week of September 20 was notable for monetary policy as there were eleven central bank meetings, including the U.S., E.U., U.K., Turkey, and Norway, to name a few. While many of these countries are in different phases of an economic recovery and some of these central banks are providing different levels of monetary accommodation, a central theme was present throughout: inflation. Inflationary pressures would likely be higher than originally thought and would likely take longer than had been expected to abate. Since those meetings, we’ve seen a general repricing of market-implied inflation expectations and that has pushed global bond yields higher.
“Inflation is the nemesis of bond investors,” noted LPL Financial Fixed Income Strategist Lawrence Gillum. “That we’re seeing signs of stickier inflation in the near term is causing bond prices to fall. We think these inflationary pressures will decline over time though.”
As seen in the LPL Research Chart of the Day, inflation expectations, globally, have increased since central bank week (shaded part). Now, 5-year market-implied inflation expectations are the highest they’ve been in years for some regions. Market participants in the U.S., for now think consumer prices will increase 2.9% each year for the next five years. Moreover, markets are expecting consumer prices in the U.K. to increase by 4.5% annually over the next five years. Even in the European Union, where inflation goals have been tough to meet, inflation expectations continue to rise.
For fixed-income investors, who receive fixed coupon and principal payments, the prospects of higher prices for goods and services threatens to erode the value of those fixed-income instruments. So, because of these increased inflation expectations, bond yields, globally, have repriced higher as well. The U.S. (30 basis points (bp) higher), Canada (31 bp), the U.K (40 bp), France (20 bp), and Germany (20 bp), to name a few, have all seen 10-year Government bond yields rise dramatically since September 20.
We continue to think the inflationary pressures we’re seeing will be temporary (transitory) and will likely subside over the course of 2022. The structural headwinds in place before the pandemic remain (technology, globalization, and demographics in particular) and supply chain challenges will work themselves out over time. However, in the near term, higher inflation expectations may continue to weigh on bond prices. Once those inflation concerns pass though, we could see a better environment for fixed income.
With the Consumer Price Index and the FOMC meeting minutes scheduled to be released on Wednesday—which will likely provide additional details on the Committee’s thoughts around inflation—inflation could once again be top of mind for markets this week.
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