Last week a number of readers asked me why investors were buying long-dated U.S. Treasuries. My response was: Why not? Tell me from where inflation is coming. This shocked my inquisitive readers as they have been bombarded with warnings of rising rates and building inflation pressures. Even the Fed has described low inflation conditions as transitory. The official Bond Squad view has been and continues to be: The ice age was transitory too, but it lasted a heck of a long time. Simply stated, low inflation pressures could be with us far longer than the Fed or many economists believe.

What is the catalyst for lowflation? The most obvious source of lowflation is energy prices. The energy boom (with capacity financed by low-rate-induced malinvestment) is the most visible source. However, that is just one source. Technology, globalization and demographics are also helping to keep inflation pressures low. The stronger U.S. dollar is helping to keep prices of imported non-energy goods and services lower too. Even when petroleum is removed from the Import Prices data, prices of goods imported to the U.S. fell 3.7% (YoY) last month. Until we see a weakening of the U.S. dollar, it is unlikely we will see inflation move far into positive territory. If the dollar stabilizes, Import Price inflation could move up to 0.0%, but much beyond that is unlikely unless the Fed eases again or foreign central banks tighten monetary policies. I would file that under “unlikely” for the next year or two (or three).

There is some hope that when the year-over-year price change for oil and other commodities fade, headline U.S. inflation should rise. There is some truth to this, but how far might it rise? Some financial industry professionals believe that when the year-over-year oil price decline fades, both headline and core inflation could rise. However, logic and past performance do not support that theory.

Headline PCE YoY vs. Core PCE YoY since 2010 (Source: Bloomberg):