Wall Street traders have become preoccupied by one particular market indicator.
Some refer to it as the Treasury breakeven inflation curve and, while that's a bit of a mouthful, it's simply the market's expectation of average inflation over two periods.
The breakeven inflation rate for the 2-year and 10-year reveal how the market thinks prices would behave in the near- and long-term. Plotting the difference between these two expected inflation rates delivers this so-called curve, which has been under intense scrutiny.
The breakeven curve "highlights the markets moving on from the [Iran] conflict," wrote Barry Knapp, managing partner of Ironsides Macroeconomics, underneath a video posted Monday.
How? Consider what happened after Russia invaded Ukraine and after President Donald Trump unveiled punitive tariffs. In those cases, the difference between the 10- and 2-year breakeven rate reached a low point of negative 1.95 percentage points and negative 1.13 percentage points, respectively, before moving back up again.
Similarly, the curve got "deeply inverted" following the Iran war but "then quickly reversed on expectations any price impact would not impact the longer-run trend inflation rate," Knapp wrote on Friday.
Currently, the gap between the 10- and 2-year breakeven rate is at negative 0.5408 percentage points, higher than the negative 0.997 percentage points on March 20.
The gap has reduced as the market now assumes lower annual average inflation over the short term. Specifically, the 2-year breakeven inflation rate is now at 2.9369% versus 3.3831% on March 20.
Meanwhile, the market's long-term expectations, or 10-year breakeven inflation rate, has stayed around 2.34% this entire time. An unchanged rate over the long-term means that despite the attacks on the Federal Reserve's independence, the Iran war and inflation remaining above the Fed's target over the past five years, investors believe the central bank will ultimately keep inflation restrained.
"Arguably if the bond market was truly concerned that a captured Fed would cut rates too much and stoke pernicious and persistent inflation, it is unlikely we would see market-based long-run inflation expectations remain so contained," Cameron Dawson, CIO of NewEdge Wealth, wrote on April 3.
"We have been joking, 'find someone to believe in you like the bond market believes in the Fed's ability to achieve its inflation target,'" she added. Earlier this year, it would have been hard to find discussion around the cryptic 2s10s breakeven inflation curve. This unique measure is getting attention as it delivers a signal on where the bond market stands on the Iran war: It's now less bothered.
