If you’re long gold, you’re in a deflating world
March 17, 2025
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–Front end hit Friday as U of Mich inflation expectations showed an unexpected jump. At the end of 2024, year-ahead expectations were just 2.6%, low of the cycle. Just four months later 4.9% (vs 4.3 estimate), nearing the high of 2022 which was 5.4%. Market measures like breakevens (treasury vs inflation-indexed yields) are still near recent lows, for example, on Friday I marked the 10y at 2.31%. Which will ultimately be more accurate? I would favor market measures, but clearly the cost of living is up. In any case, the two-year yield on Friday rose 6.8 bps to 4.017%. Weakest SOFR contracts were H26 and M26, both -8.5 at 9636.6 and 96405. 10y yield up just 3.4 bps to 4.31%. Curve flattened.
–March SOFR options rolled off on Friday, so I am using June’25 as front month (first slot). While SFRH5/H6 was -66 on Friday, SFRM5/M6 one-yr calendar is -47.5 (9593/9641.5). Red SOFR contracts are all around 3.6%. So while EFFR at 4.33% and 10y yield at 4.31% are nearly equal, forward contracts indicate positive carry. Gundlach often says the Fed follows the 2y yield. The FOMC announcement and press conference is Wednesday, and no change in rates is expected, but clearly the market is pricing forward eases. Current EFFR is 4.33% and SFRM5 at 9593.0 of 4.07% is almost exactly one-quarter percent lower.
–Over the weekend, the US bombed Houthi targets in Yemen, sending a message that shipping disruptions won’t be tolerated. Additionally, Bessent was interviewed and said he’s unconcerned about the stock market pullback and that he can’t guarantee the US won’t go into recession. He cited emergency type gov’t stimulus from which the economy must be weaned. As of this writing stocks have retreated from Friday’s rally, and oil is higher. I’ve attached a chart of oil priced in gold, and there’s outright DE-flation when measured that way….
–The sharp drop in SPX is mirrored by the plunge in SFRH5/H6 calendar, as shown on the chart below. Gov’t largesse has supported stocks, higher stocks support the economy. When those two reverse, forward SOFR contracts rally as the market prices in compensating Fed cuts. (ESH5 in green, SFRH5-SFRH6 in white).
