Duration Dashboard

The release of June FOMC minutes on July 9 provided the week's pivotal moment, revealing that "most participants assessed that some reduction in the target range for the federal funds rate this year would likely be appropriate." This dovish revelation coincided with deteriorating labor market data, as ADP reported the first private sector job losses since March 2023. Despite these easing signals, longer-dated Treasury yields rose modestly, suggesting markets are balancing Fed pivot expectations against persistent structural inflation concerns and massive Treasury supply needs.

Treasury supply-demand dynamics explain the yield paradox: The week's most puzzling development was rising long-dated yields despite dovish Fed signals and weakening employment. The answer lies in technical factors: the Treasury announced $119 billion in coupon auctions for the following week, while dealer balance sheets remain constrained by regulatory requirements. Japanese investors, benefiting from reduced hedging costs as the yield curve steepens, provided crucial support with $42 billion in purchases during June, but this demand remains rate-sensitive. The 30-year yield approaching 5% (98th percentile) reflects term premium normalization after years of QE suppression rather than growth optimism.

Credit Pulse

Credit markets demonstrated remarkable complacency during a week featuring labor market deterioration and geopolitical tensions, with high yield spreads widening a mere 6 basis points to 273bp, remaining at just the 16th percentile of historical ranges. Investment grade spreads barely budged, tightening 1 basis point to 77bp despite the negative ADP print and tariff uncertainty. This extreme spread compression reflects powerful technical dynamics—foreign inflows, corporate buybacks, and yield-starved pension demand—overwhelming deteriorating fundamentals.

Credit's valuation asymmetry reaches dangerous extremes: With high yield spreads at the 16th percentile while the first job losses in over two years materialize, credit markets exhibit extreme valuation risk. Historical analysis shows that when spreads reach current levels with deteriorating employment trends, median forward 12-month excess returns turn negative. The combination of peak valuations, turning credit cycles, and Fed pivot uncertainty creates asymmetric downside risk that current spreads fail to compensate. Foreign investment grade inflows of $109 billion year-to-date have created a technical bid divorced from fundamentals, but these flows historically reverse quickly when sentiment shifts.

Federal Reserve Policy Outlook – FOMC Minutes Signal Pivot

The release of June FOMC minutes fundamentally shifted market expectations, with the revelation that "most participants assessed that some reduction in the target range for the federal funds rate this year would likely be appropriate." This represents a material evolution from the committee's prior hawkish stance, driven by accumulating evidence of economic cooling and confidence that inflation is moving toward target. The minutes revealed extensive discussion of tariff impacts, with officials acknowledging "considerable uncertainty about timing, size, and duration of these effects" on inflation.

Market pricing responded decisively, with fed funds futures indicating 65% probability of a 25 basis point cut at the September meeting and near certainty of at least one reduction by year-end 2025. The anticipated easing cycle is expected to proceed gradually, with consensus clustering around two cuts in 2025 followed by a pause to assess conditions. The committee's characterization of the labor market as showing "recent signs of weakening" provides political cover for preemptive easing even with inflation remaining "somewhat elevated" above target. The Fed's quantitative tightening program continues at $60 billion monthly, having reduced the balance sheet by $2.25 trillion since June 2022.

Treasury Market Dynamics – Supply Pressures Build

The approaching week's $119 billion Treasury auction calendar—$58 billion 3-years, $39 billion 10-years, and $22 billion 30-years—will test whether current demand can absorb elevated supply without significant concessions. Primary dealers reported adequate balance sheet capacity during the July 10 quarterly refunding announcement, but warned that regulatory constraints could limit their ability to intermediate flows during periods of volatility. Foreign demand remains the critical swing factor, with Japanese investors' $42 billion June purchases providing essential support. However, this demand proves rate-sensitive; any backup in JGB yields or strengthening of the yen could quickly reverse these flows. The term premium expansion evident in 30-year yields at the 98th percentile suggests the market is beginning to price the fiscal sustainability challenges that $2 trillion deficits create, though credit markets remain bizarrely immune to these concerns.

Week Ahead: CPI Data and Earnings Season Take Center Stage

• Consumer Price Index (July 15): June CPI represents the week's marquee event, with consensus expecting headline inflation to moderate to 2.9% year-over-year from May's 3.1%. Core CPI forecast to remain sticky at 3.3%, potentially complicating the Fed's easing narrative.
• Producer Price Index (July 16): June PPI offers insights into pipeline inflation pressures ahead of corporate earnings season.
• Retail Sales (July 17): June retail sales will gauge consumer resilience amid softening employment conditions and tariff concerns.
• Housing Data (July 17): Housing starts and building permits data will assess construction momentum with mortgage rates elevated.
• Treasury Auctions: Heavy issuance with $58 billion 3-year notes (July 15), $39 billion 10-year notes (July 16), and $22 billion 30-year bonds (July 17).
• Bank Earnings (July 18-19): JPMorgan Chase, Wells Fargo, and Citigroup kick off earnings season, offering critical insights into credit conditions and loan demand.

The Great Disconnect: Job Losses Meet Spread Compression

The week ending July 13 crystallized one of the most extreme valuation disconnects in recent fixed income history: credit spreads compressed to historic tights even as the labor market posted its first private sector job losses since March 2023. This divergence between deteriorating fundamentals and risk asset complacency has reached levels last seen in February 2020, weeks before the pandemic-driven market collapse. The high yield market's 16th percentile spread ranking while unemployment claims remain elevated and manufacturing contracts for the fourth consecutive month defies both economic logic and historical precedent.

Technical flows overwhelm fundamental reality: The persistence of tight spreads amid weakening data reflects three powerful technical forces that have temporarily suspended normal market dynamics. First, foreign investors have poured $109 billion into U.S. investment grade bonds year-to-date, driven by attractive hedged yields and relative stability versus European alternatives. Second, systematic strategies and volatility-targeting funds have increased allocations as the VIX collapsed below 17, creating reflexive spread compression. Third, corporate pension funds approaching full funding continue to de-risk from equities into credit regardless of valuations. These flows have created an artificial bid that has divorced spreads from credit fundamentals—a condition that historically corrects violently when any of these technical supports wavers. The July 9 tariff pause expiration without implementation may have been the last clear catalyst for spread widening; with that passed, investors seem content to collect carry until the deterioration becomes undeniable.