Inflation. Where Are Thou?

• Inflation prints were softer than expected, contributing to risk-on sentiment this week.

• Trade negotiations painfully slow.

• Leveraged Credit market remains on fire.

The May Consumer Price Index ("CPI") and Producer Price Index ("PPI") came in softer than expected by the macro pundits. CPI and PPI increased only by 0.1% m/m and 2.4% & 2.6%, respectively y/y. Of note, consumer discretionary categories like air travel and used/new cars contributed disproportionately to the soft print, a sign of weakening consumer environment. Pre-buying by importers or overcapacity issues for exporters could have led to weak CPI or PPI but that is just a theory. Markets were quick to factor larger rate cuts, which is premature as tariff negotiations are ongoing.

Negotiations are going OK at best as China continues to leverage rare earth minerals, Europe is dragging its feet and India is being a fierce negotiator. Trump also signaled that the US will unilaterally impose tariffs on other countries. Not practical to bilaterally negotiate with 150 countries.

On the issuer front, Lullulemon cut its guidance citing weak consumer environment, tariffs and competitive pressures. Citi increased its loss provisions for its loan and credit card book, which was surprising. Ad forecaster, WPP cut its forecast for ad spending for 2025 amid weakening macroeconomic environment.

Amid these conditions,  the S&P 500 remains close to its all time highs, the leveraged credit market is humming and the US 10-year treasury auction was a success. The S&P 500 is at 6,042 as of this writing, shy of the 6,127 peak just prior to the tariff induced volatility. The High Yield market had an inflow of over $1B this week, driving strong new  issuance and further spread tightening. Single B high yield spreads are solidly inside of 300 bps. The Leveraged Loan market had a strong week of new issuances. By my count, there are at least 15 deal commitments between today & tomorrow with several more next week. This included several repricing transactions as new supply is not keeping pace with demand.  The only exception was the blockbuster X.AI deal, which was talked at SoFR + 700 bps/OID of 97 including several bells & whistles like non call and hard call options, not typical in the leveraged loan market. The 10-year Treasury auction was solid despite worsening budget deficits with a yield print of 4.42%. The timing of a soft CPI print helped as well.

Overall, valuations in “normal way” credit and equities remain rich due to strong technicals, somewhat supportive macroeconomic data (inflation, jobs) and optimism on trade negotiations. However, there are several issuers impacted by a combination of high interest rates, slowing demand and input prices. Well managed companies amongst these can be a source of alpha for patient long term investors.

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