Macro Musings: The September CPI was a welcomed release during the official data blackout period due to the shutdown. The inflation story hasn’t changed much, if at all. Shelter continues to be the biggest mover of monthly price growth, which in this case was below expectations, while tariffs continue to have some impact, though mostly to low weight items. Alternative jobs data and sentiment surveys suggest persistent weakness, which should apply downward pressure on wages and services inflation, assuming the official data lines up once released. We are skeptical that AI is the primary cause of this jobs market weakness, but we fully acknowledge that AI optimism is what is propping up business fixed investment, equity prices, and ongoing wealth-effect spending for upper income.
Market Thoughts: The say “the trend is your friend, until the end when it bends,” but for now it’s all about all-time highs and momentum. We’ve been bearish risk for long enough that there is no point turning back. We maintain this posture as market internals are starting to look exhausted and ripe for at least a correction (if not something more ominous). We think many of the positive catalysts (AI, trade deals, etc.) are priced-in whereas the weak consumer and credit concerns are not. Meanwhile, there are fewer cheap assets to diversify in (even the MBS space has caught a bid lately – clearly the bull market must be over for all soon).
Fed and Rates View: The Fed has delivered the 2nd cut for 2025 and announced the end of QT. Meanwhile, there is a growing hawkish tilt among the FOMC and Fed speakers, hinting that future rate cuts are not foregone conclusions. We are maintaining our view that the Fed will eventually return the overnight rate closer to 3%, which we still view as neutral rate. We think they still cut in December given the jobs data trends. However, the risk to our view (and what is priced into the forward curve) is the Fed goes on an extended pause in early 2026 (after having delivered multiple cuts in 2025 and ending QT by year-end). We have lifted our 2yr and 5yr rates forecasts as a result to acknowledge this risk.
US Policy Updates: The federal government has now been shut down for the whole month of October. It appears unlikely that Senate Democrats will concede and Senate Republicans are not eager to provide an off ramp, increasing the likelihood that the shutdown lasts well into November, with government agencies likely to bundle together multiple months of data releases thereafter.
Special Topic – K-Shaped Economy Chart Review: Call it a k-shaped or bifurcated, the US economy has been operating at multiple speeds with many historical economic and market-related relationships breaking down, especially post pandemic. In our view, these divergencies are not a sign of a healthy economy, nor one that can sustain growth without periodic fiscal or monetary support.