What yields are doing

• The 10-year Treasury note TMUBMUSD10Y, 1.174% yields 1.239%, compared with 1.269% at 3 p.m. Eastern on Thursday. Yields for debt fall as prices rise.
• The 30-year Treasury yield TMUBMUSD30Y, 1.845% was lower at 1.896%, versus 1.916% a day ago.
• The 2-year Treasury note rate TMUBMUSD02Y, 0.180% fell to 0.188%, compared with 0.202% on Thursday.
• For the week, the 10-year Treasury yield is down 4.7 basis points, the 30-year is down 2.9 basis points, while the 2-year was little changed over the period.
• For the month, the 10-year yield is down 20.4 basis points, the bond was down 16.9 basis points, and the 2-year was off 5.9 basis points. It was the largest one-month decline in yield for the 2-year and 10-year since March 2020, according to data compiled by Dow Jones Market Data.

Fixed-income drivers

The Federal Reserve’s preferred U.S. inflation measure rose sharply again in June and the increase over the past year remained at a 13-year high, raising the cost of living for consumers and casting a shadow over a strong economic recovery.

The so-called personal-consumption expenditures index rose 0.5% in June, government figures show. Economists polled by the Wall Street Journal had expected the Commerce Department to report that PCE, a measure of household spending on goods and services, increased 0.7% last month. It was the fourth big upturn in a row and kept the increase over the past 12 months at 4%.

A separate measure of inflation that strips out volatile food and energy prices climbed to the highest level since 1992. The core PCE price index rose 0.4% in June, and its increase over the past 12 months crept up to 3.5% from 3.4%. Central bankers regard the core measure as a better indicator of underlying inflation.

One Fed official, St. Louis Fed President James Bullard, said the central bank should start to slow down its bond purchases this fall and finish by March. He expects GDP growth to be stronger in the second half and some of the surge of inflation this year to last into 2022. In a speech to European Economics and Financial Centre on Friday, Bullard said that he thought financial markets “are very well prepared” for the reduction in purchases.

Meanwhile, the most comprehensive gauge of the rise in labor costs decelerated in the second quarter. The employment cost index rose 0.7% in the second quarter, after rising 0.9% in the January-March quarter, the Labor Department said Friday. Economists polled by the Wall Street Journal had forecast a 0.9% increase.

In other data released Friday, a measure of business conditions in the Chicago region — known as the Chicago Business Barometer — rose to 73.4 this month from 66.1 in June, showing the area’s economy is surging. And consumer sentiment fell in July as inflation expectations hit the highest level in more than a decade, according to a University of Michigan survey.

The data come after a reading of second-quarter U.S. gross domestic grew at a 6.5% annualized rate, with consumer spending climbing sharply at an 11.8% annual rate.

What strategists and others say

“Forward-looking indicators do suggest that both the headline and the core inflation is at or close to being at peak…this time around,” Juha Seppala, an asset allocation strategist at UBS Asset Management, said in emailed comments.

“If the Fed—in particular, core FOMC members—continue to be very dovish and wage growth gets even stronger, we almost certainly will have a second and longer-lasting inflation wave,” Seppala wrote. “Tightness in the labor market will lead to faster wage growth. At the same time, the Fed apparently no longer believes in model estimates of full employment and, unlike in the past, will not be pre-emptive in its hikes. That almost guarantees that we will have a second wave of inflation, which is more of a 2022 story.”

There are enough red flags that “investors have to start considering de-risking,” warns star money manager Scott Minerd, CIO of Guggenheim Investments. His current stance is that investors may be ignoring mounting evidence that the delta variant of COVID-19 could be more troublesome than currently realized in financial markets.

Gregory Faranello, executive director and head of the U.S. rates group at AmeriVet Securities, said that “in a nutshell, the dynamics in the bond market do feel a little like stagflation,” and “risk assets are not priced for a quick taper down to zero,’ as mentioned by the Fed’s Bullard today, he said.

“We are priced for a very benign path forward” and Bullard’s comments reflect an “outlier scenario that’s not our base case,” Faranello said via phone Friday.

“If we were to be priced for that outlier scenario, you would see yield-curve dynamics similar to those following the June FOMC,” he said. “There would be a repricing on the short-end, in anticipation of sooner Fed liftoff along with expedited taper. You have to ask yourself, ‘What could the catalyst be for the outlier scenario?’ The catalyst would be inflation: We’d need to get significantly higher core readings of CPI and PCE in the next 3-6 months,” which would raise the risk that the Fed’s hand is forced into more aggressive removal of accommodation.