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Bond Yields Slide Ahead of 10-Year Auction as Inflation Mystery Deepens

A wave of inflationary pressures appears to be gaining pace as the global economy exits the pandemic, but Treasury yields continue to fall. And no one is exactly sure why.

U.S. Treasury bond yields slumped to multi-month lows Wednesday as traders balanced slower growth prospects against the inflationary pressures brought by issues in business and economic supply chains around the world.

Treasury yields, which move inversely to prices, have been in decline for much of the past four sessions on Wall Street, extending their downside moves following a second consecutive month of disappointing jobs data that underscored the difficulty major economies may have in bringing workers back into the labor market.

That's corresponded with growth concerns linked to supply chain disruptions in everything from commodities to food supplies and semiconductors. Germany, Europe's biggest and most influential economy, saw a slump in May industrial output this week as result of those disruptions, even as order books remained swelled with post-pandemic demand that manufacturers were unable to meet.

Meanwhile, inflationary pressures continue to simmer, with China reporting the biggest surge in factory gate prices since 2008 last month, setting up the prospect of "imported inflation" in the coming months, while the most-recent JOLTs job openings data showed a record high 9.3 million vacant positions in the U.S. labor market, suggesting employers will need to boost wages even beyond last month's 2% increase to entice people back onto the shop floor. 

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"The exact nature of these constraints remains a matter of debate," said Ian Shepherdson of Pantheon Macroeconomics. "We're assuming the extreme positions on both sides are wrong, and that a combination of factors, including the $300 per week federal uplift to unemployment benefits, COVID fear, and childcare issues holding back labor supply."

"By the end of the summer, though, these constraints will be greatly diminished, and the Fed will likely will argue that rapid wage growth while employment is depressed is an aberration, triggered by temporary circumstances."

Benchmark 10-year Treasury bond yields were marked 5 basis lower on yesterday's session at 1.472%, the lowest since October of last year, ahead of a $38 billion sale of notes later today. 

May CPI data at 8:30 am Eastern time tomorrow is also likely to show another decade-high pace in headline inflation, following April's scorching rate of 4.2% and the 1992 high of 3.1% for the Fed's preferred gauge, the PCE Price Index, published earlier this month.

So far, the Fed's "transitory" narrative has been largely accepted by Wall Street, and few if any questions over the fate of its $120 billion in monthly bond purchases have  been put to the test. 

The lower move in yields has only marginally supported stock prices, however, with the S&P 500 up 6.5 points and the Nasdaq rising 46 points in early Wednesday trading, suggesting at least a softening of near-term growth prospects.

"Inflation is a bigger issue for equities when it is supply, rather than demand driven," said UBS equity strategist Keith Parker in a client note Wednesday that steered investors towards companies with greater pricing power such as staples, tech and consumer discretionary. "However, we expect inflation pressures to moderate towards the end of the year as supply conditions ease and pent-up demand ebbs, which should allow S&P 500 margins to continue to expand."

Company bosses, however, are noting that prices pressures are already eroding profit forecasts, with Campbell's Soup CEO Mark Clouse noting Wednesday that rising inflation, combined with supply chain disruptions, triggered a softer 2021 outlook and disappointing third quarter earnings.