Inflation was back in focus this month as labor shortages, supply chain disruptions, rising energy prices, and housing costs were all cause for concern. Despite GDP coming in at just 2% (annualized QoQ), retail sales easily beat expectations and initial jobless claims fell to a pandemic low. The Employment Cost Index released at month-end indicated significant wage growth.
Euro-area inflation hit 4% YoY, as did core inflation in the U.S. The Bank of Canada began shifting course with a hawkish announcement, echoing similar views coming from the Bank of England. At home, market participants moved up Federal Reserve taper and rate hike expectations, although Fed staff continues to argue that inflation will return to about 2% by the end of next year.
All this led to rising rates over most of the yield curve and shifts in the shape of the curve. Sensitive to expectations of Fed moves, the 2-year and 5-year Treasury yields increased the most. The curve flattened, with the 2- to 10-year segment compressing by 21 basis points (bps) and 5s to 30s by 36 bps. In contrast, the long end of the curve benefited from technical demand as well as the view that faster rate hikes will slow growth; the 30-year yield fell by 17 bps. TIPS performed well as the 5-year ended the month at a -1.75 yield as break-evens rose over 40 bps.