Bear Flattening or Steepening?

Recent views…

I’ve mentioned in my weekly preview (https://doejistar.medium.com/weekly-g8-fx-notes-2021-05-17-401e6c0eeff0) that global equity indices have retraced back to the inflection point late last week and that this area may mark the highs of a sideways market through the Summer months (coinciding with the low-volume Summer seasonality) as market awaits to see how transitory inflation will be and when we could therefore see a hawkish pivot from the Fed.

Bond Volatility & Bear flattening

Returning back to this chart of inflation expectations versus bond yield and volatility, we can see sharp rises in inflation expectations was soon followed by a rise in yields and volatility, the most notable in Sep/Oct’20 and Feb/Mar’21.

Inflation & Fed inaction

Inflation expected to be even higher next month and it’s still highly questionable whether price pressures will ease over the next few months. For example — (1) sticky elements of core CPI such as Owners Equivalent Rent (OER), (2) business inventories could take time to replenish to levels that would ease supply while demand stays high, (3) inflation expectations could keep upward wage pressures in tact. The more these price pressures show little signs of abating while the Fed continues to resist notions of potentially persistent inflation and tapering, the more likely we could see another bout of volatility especially if we have more strong economic data come in.

Trading views…

While a bear-flattening regime is generally bad for stocks (one major reason why we can expect a sideways market in the months ahead), we have seen some re-steepening in the curve this month with volatility starting to pick up again. I prefer to see more of this as well as fresh inflation triggers while remaining mildly bullish risk on intra-day basis as I see a little more room above for equities via value themes.

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