Week Ending: October 9, 2026
Fool Me Thrice?
Core PCE Inflation* Versus Three-Month Average Rate Implied Future Paths
Sources: Bureau of Economic Analysis, Payden Calculations
*Personal Consumption Expenditures (PCE) Price Index, excluding food and energy
The Federal Open Market Committee’s September meeting minutes released this week showed that many participants thought the September rate hike was “prudent on risk-management grounds.” But with the three-month moving average of monthly core PCE inflation now running at a pace consistent with the Fed's 2% target, is the inflation risk behind us? Not so fast. First, the last three months benefited from two very soft prints that may not repeat. Second, risk management wasn't the only motive for hikes. Some policymakers want to keep sector-specific shocks from spreading, and a few see a higher neutral rate, meaning rates should be higher for longer. Others, like Governor Waller, worry that after "five and a half years" above target, the latest acceleration will push households and markets "to revise up their expectations for future inflation.” Indeed, core inflation cooled in the second half of each of the last two years, then re-accelerated in the first half, and it's still at 3% today. As the old saying goes, “Fool me once, shame on you. Fool me twice, shame on me.” With two inflation head fakes, policymakers aren’t falling for a third. In turn, we expect the Fed to hike three more times and to stay restrictive until year-over-year core inflation is much closer to 2%.
Total Returns By Asset Class
Highlights of the Week:
High Yield: In the near term, rising yields can be painful for fixed income investors, but they also improve forward-looking return expectations. Historically, starting yields have strongly correlated with subsequent high-yield returns, and high-yield investors today are earning a yield above 8%. This level has historically represented an attractive entry point, and we see no reason to believe this time will be different.
Corporates: $13 billion of investment-grade (IG) new-issue supply was priced this week, bringing year-to-date supply to $1.71 trillion, up about 29% from the same period last year. Most deals performed well after issuance, as investors are attracted to higher all-in yields near 6%. IG corporate spreads tightened by one basis point (bp) on the week to an option-adjusted spread (OAS) of 81 bps as of Thursday’s close.
Municipals: Municipal bonds had their worst monthly performance since September 2008, with the Bloomberg Municipal Bond Index falling 4.4% as rising rates, heavy issuance, and weak demand weighed on the market. Municipal yields climbed 80 basis points, while issuance reached $55 billion, above the five-year September average of $39 billion. Municipal bond funds saw $1.8 billion in net outflows, adding to selling pressure and contributing to significant underperformance relative to U.S. Treasuries.
Equities: The U.S. equity market posted modest gains this week, with the S&P 500 reaching fresh record highs before paring back its advance amid renewed concerns over the sustainability of AI-related spending. Sector performance was broadly positive, with energy, consumer staples, and utilities leading, while industrials, technology, and real estate lagged.
Securitized Products: Risk-off spillover from volatility in European sovereigns and quarter-end selling pressure finally reached European asset-backed securities (ABS) and collateralized loan obligations (CLOs). Spreads widened modestly across the capital stack, and the higher-beta, lower-quality parts moved the most. Heavier secondary supply softened both markets, but the moves were orderly and tiered by quality. Senior and high-quality paper drifted wider, while weaker mezzanine profiles saw thinner bids and cleared at much wider levels.
Disclosure: This material reflects the firm’s current opinion and is subject to change without notice. Sources for the material contained herein are deemed reliable but cannot be guaranteed.
