Inflation came in hot yet again in another record, rising to 8.5%, the fastest gain in 40 years, and while stocks initially rallied, they have since fallen as investors now await the Fed’s response in May via interest rate increases.
Core inflation hit 6.5%, gaining 0.3% month over month, a decrease from February’s 0.5% gain, and many are hopeful that it’s a sign of peaking inflation. Still, with the CPI so high, investors are betting on an aggressive response from the Fed, with the federal funds futures reflecting a 90% probability of a 0.50% interest rate bump in May, up from 78% last week, reports the Wall Street Journal.
“Inflation is too high,” said Fed Governor Lael Brainard, currently waiting on Senate confirmation for the role of the Vice Chairwoman for the Fed, at a Wall Street Journal summit. “Getting inflation down is going to be our most important task.”
Aggressive interest rate hikes will have an impact on economic growth, and investors flocked to Treasuries after the CPI report’s release. The 10-year Treasury note was down to 2.727% in trading on Tuesday; as bond prices increase, yields fall.
“The main debate in the markets at the moment is price inflation and growth deflation,” Huw Roberts, head of analytics at Quant Insight, said. “At what point does the inflation spike cause the Fed to hike so aggressively…that we tip into a growth deflationary environment?”
Repositioning for Slower Growth With BNDD
Advisors are increasingly recognizing that the economic growth and productivity enjoyed in the last decade are winding down, and have begun allocating into funds that are positioned better for slower growth. The Quadratic Deflation ETF (BNDD) is offered by KFA Funds, a KraneShares company, and is a fixed income, ESG-focused, actively managed ETF that seeks to benefit from lower growth, a reduction in the spread between short- and long-term interest rates, deflation, and lower or negative long-term interest rates.
BNDD seeks to hedge against deflation risk while creating positive returns at times when the U.S. interest rate curve flattens or inverts. It invests in Treasures with different maturities either directly or via ETFs that invest in Treasuries. The options the fund uses are tied to the U.S. interest rate curve, are traded on the OTC market, and include long options, long spreads, and butterflies (an options strategy that uses both bear and bull spreads) in an attempt to limit loss by the fund.
BNDD carries an expense ratio of 0.99% and is actively managed.
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