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We scan through:

• Expected Returns

• Positioning Risks

• Short-Term Regimes

To chart a course for managing energy exposure.

Let’s dive in.

We begin with the Expected Returns. For those unfamiliar with our approach to expected-returns investing, you can find a complete breakdown here:

Energy market term structures continue to offer the most attractive risk premiums we have seen in the Russia-Ukraine War in 2022. We visualize this risk-premium below:

We can translate these expected returns into Naive Expected Sharpe Ratios, which are commensurately elevated:

We show that the distribution of these expected returns is uniform amongst the energy complex (ex-industrials):

For many investors who are native to equity and bond markets, these pro-cyclical expected returns (expected returns that rise with price rises) are unintuitive. In commodities, supply shocks drive up the spot price, while hedging pressures create a backwardated term structure. The combination of these dynamics creates a time-varying risk premium for those willing to buy the commodities into price increases. This dynamic opposes the mechanics in equities and bonds, where investors are largely rewarded for buying assets on weakness.

It is the systematic recognition of these mechanics that has allowed the Prometheus Expected Return Program to perform strongly in this environment:

Thus, we think that if there is a time to own commodities, it is in this type of backdrop. However, we need guardrails against a sudden turn in these conditions. Much of today’s regime’s dynamics are contingent upon the policy actions of the US administration and Iran's reaction function. A quick de-escalation of the military conflict will unwind speculative positioning in energy, but is unlikely to fully restore global supply in the near term or to remove the geopolitical risk premium now priced into global energy markets. As such, the biggest threat to energy exposure today is a military de-escalation-induced unwind in positioning.

To help navigate these dynamics, we share our positioning gauge (updated daily for Prometheus Institutional clients), which helps us determine whether prices are being driven by speculators or hedgers. A Speculative-Dominant oil market is more fragile than a Hedging-Dominant market:

Today, we’re in a Speculative-Dominant environment, with risk of a big positioning unwind. However, in the background, we also see a good amount of hedging from commercials. As such, we are in a positive, but not optimal, backdrop for energy positions. A modest unwind of speculative positioning, while negative in the short-term, may be the ideal backdrop for the energy complex over the medium-term— a dynamic we will continue to be on the lookout for. Until then, positioning risk abounds and should temper sizing.

Finally, we share our proprietary short-term regime recognition from the Prometheus Energy Program. To help our subscribers navigate these uncertain times, we continue to share the positions from the program via the Substack chat feature:

Based on the program's underlying signals, we can classify regimes as Bullish, Bearish, or Neutral. The objective is to identify the highest-signal periods for energy markets, not every signal:

As we can see above, our short-term regimes are good guides for the short-term price regime. Currently, these signals suggest we are in a Neutral Short-Term Regime, after being in a Bullish Short-Term Regime over the last month. This is not a bearish or bullish sign, but just an indication that short-term forward returns are less predictable than they have been recently.

Looking across Expected Returns, Positioning Risks, and Short-Term Regimes— we think energy exposure continues to make sense in the current backdrop. However, being prepared for a speculative unwind in sizing and drawdown controls remains imperative for navigating this environment optimally. If Expected Returns, Positioning, and Short-Term Regimes all align, conditions will be in place for significant long exposure. Until then, a more cautious approach is warranted. Clients of Prometheus Institutional can track the evolution of these conditions daily. Email us at info@prometheus-research.com for access.

Until next time.

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We visualize this below:

In this note, we discuss the principles driving the signal visualized above. We aim to provide a simple, actionable framework for thinking about Treasury exposure during this period of macroeconomic and geopolitical volatility.

The primary effect of the pressures in Iran has been surging energy prices across the oil complex. This surge in energy prices has two effects on the global economy and, in turn, Treasury markets:

• Inflation Shock: Energy is a core input to every economy. Energy price shocks reverberate through an economy’s cost structure, and this is reflected in inflation calculations. These shifts in inflation rates are incremental pressure on central banks worldwide to hike policy rates. This incremental pressure is reflected in Treasuries through some mix of higher real rates, breakeven inflation, or policy expectations. Regardless of the composition of the yield changes, the inflation shock mechanically drives yields higher. The inflation shock is a headwind for Treasuries.

• Demand Destruction: Inflation shocks are self-defeating. As prices spike relative to potential nominal demand, output begins to fall as real demand and output enter a downward spiral, nominal spending declines, and prices eventually fall to meet demand. The threshold at which this occurs is not knowable in advance, at least with systematic rigour; however, the signs of the turning point are apparent: deteriorating activity measures coupled with declining prices signal demand destruction and deflation. Demand destruction is a tailwind for Treasuries.

Today, market participants in fixed income are mixed on which outcome to position for: An Inflation Shock Or Demand Destruction? As quantitative systematic investors, our answer would be: Why not both, dynamically? We think our Inflation Nowcast can help us do so. As a refresher on our Inflation Nowcast:

As part of our systematic macro process, we track US CPI conditions promptly. Using market-based estimates, we can closely track the evolution of inflation pressures as reflected in the reported CPI. Our daily estimates for headline CPI closely track the official data, without the reporting delay inherent in official statistics. We find these measures particularly relevant for assessing ongoing pressures on fixed-income markets.

As noted previously, energy price spikes translate into inflation shocks that weigh on Treasuries. Our latest inflation nowcasts suggest material upward pressure on the CPI. Our latest readings suggest an annualized CPI rate of 6.1%, which is dramatically at odds with the Fed’s 2% inflation objective. Of course, we don’t expect year-over-year numbers to approach this pace, but it is nonetheless a sign of the times: we are in an inflation shock. This inflation shock will persist so long as the ongoing pace of inflation remains at odds with the Fed’s objective. Demand destruction will only take place once output contracts. Most importantly, demand destruction will be apparent as energy prices reverse, weighing on our timely CPI reads.

Combining the features of these dynamics, we expect our inflation nowcast to serve as a strong gauge of the market regime for Treasuries. The greater our latest readings exceed the Fed’s objective, the further we are into an inflation shock regime. The closer our gauges are to disinflationary or deflationary, the further we are into demand destruction. Furthermore, given our relatively short one-month window for calculating CPI, we will capture shifts in the energy components of CPI fairly quickly.

As such, we can construct a simple rule set for owning Treasuries: If our annualized CPI estimate is below 2%, we own fixed income. If not, we stay in cash. We’re not building a comprehensive trading system for treasuries using all the factors we track. Instead, we’re offering a simple, actionable roadmap for investors on how to think about their Treasury exposure during an inflation shock, which could lead to demand destruction. We show that the simulated performance of using the simple but defensible approach has been strong versus a buy-and-hold strategy:

We think that this approach, while simple, offers investors a clear guidepost to navigate treasury markets. Of course, the daily updates of our CPI Nowcast are available to Prometheus Institutional clients. However, we will also provide timely updates on this gauge here to help investors navigate these turbulent times.

Until next time.

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For the latest data through December, our systems place Real GDP growth at 2.88% versus one year prior. Below, we show our monthly estimates of Real GDP relative to the official data:

In December, GDP came in at -0.11% versus the prior month. Below, we show the weighted contributions to the most recent one-month change in real GDP, along with the recent history of month-on-month GDP. Additionally, we show the contribution by sector to monthly GDP in the table below:

The domestic engines of growth continue to hold steady and remain additive to real output, though we see some signs of slowing. We scan through the individual components, with a focus on domestic activity.

Consumption

In December, real consumption spending increased by 0.05%. Over the last year, consumption has added 1.2% to the GDP growth of 2.88%.

Under the aggregate data, services spending continues to support ongoing consumer spending, while goods have become a meaningful drag:

Even though aggregate consumption remains positive, some slowing is apparent, and is reflected in a narrowing of consumer spending breadth:

This narrowing breadth of consumer spending is largely coming from weak cyclical consumer spending:

In past cycles, this weakness in cyclical spending would, in itself, have been a cause of recession. However, the shifting structure of the economy towards a services-dominated one continues to keep the economy steady. Nonetheless, this is something to monitor closely.

Investment

In December, real gross investment remained flat. Over the last year, investment has added 0.65% to GDP growth of 2.88%.

Business investment remains weak, with construction and transportation spending continuing to weigh on fixed investment:

While these classically cyclical areas of the economy continue to show weakness, technology and related areas continue to show steady growth:

Finally, and most notably, industrial equipment investment has turned upwards:

Importantly, this upturn has been a broad-based one:

Much like consumer spending, business fixed investment shows readings that in past cycles have looked consistent with recessionary pressures, with declining residential construction and transportation equipment spending. However, the revival of industrial equipment investment and the stability of technology investment continue to deter recessionary downturn.

Government

In December, real government expenditures increased by 0%. Over the last year, government spending has added 0.09% to real GDP growth of 2.88%.

Government output has moderated meaningfully per the official data and diverged from our estimates. However, we find this to be a feature of the BEA's treatment of the government shutdown rather than an indication of a major shift in government output. This is because furloughed federal employees received back pay; the shutdown had no impact on nominal federal compensation and was reflected as a temporary increase in the prices paid for federal employee compensation. Below, we show how nominal spending continued despite a modest downtick:

With the resumption of regular operations of the government, we expect government spending to converge with our estimates over the next quarter.

Trade

In December, real export revenues decreased by -0.17%. Over the last year, exports have added 0.78% to GDP growth of 2.88%.

In December, real import expenditures increased by 0.02%. Over the last year, imports have added 0.13% to GDP growth of 2.88%.

The key takeaway is that trade is no longer a major incremental tailwind, but it is not exerting material drag either. The impulse from global demand has moderated, yet it remains broadly consistent with steady expansion rather than contraction.

At present, the domestic economy continues to carry this cycle. Trade is neutral-to-slightly supportive, not a source of stress.

GDP: Synthesis

Additionally, we show the composition of the monthly estimates of nominal GDP, broken into real GDP growth and inflation. Our latest estimates place nominal GDP at 5.86% versus one year prior, with real GDP growth of 2.88% and inflation of 2.98%:

For further insight into whether GDP conditions are consistent with recessionary pressures, we aggregate macroeconomic indicators, consistent with the NBER methodology of recession classification, into a recession probability monitor. This gauge gives us a real-time understanding of developing recessionary pressures. Currently, recession probabilities are at 29%:

Finally, we zoom out to offer what the mosaic of economic data says about the pervasiveness of GDP growth. Our GDP Nowcast economic data across 75 measures of real growth conditions to understand the economic conditions in a timely manner. We share both the current level of the nowcast in blue, along with a diffusion index of the underlying components in red. Currently, 51% of subcomponents are rising, consistent with early indications of a recession:

Below, we visualize the prospective paths of real GDP growth over the next twelve months using our data trajectory monitor. We share two processes. First, we extrapolate the current trend in the data to visualize the prospective trajectory of GDP based on the current trend. Additionally, we share our forward-looking estimates for real GDP growth:

GDP conditions remain mixed. Classical cyclical and rate-sensitive parts of the economy continue to show weakness, while non-cyclical areas add stability. Given these conditions, GDP growth will likely peak in the next 3 to 6 months, driven by time-series effects. A mixed, but positive outlook for the economy persists.

Equity Strategy

We translate these fundamental macro dynamics into systematic investment views for the equity market. When approaching equity markets, we think there are four major perspectives from which to take market views:

• Expected Returns

• Cyclical Regime

• Earnings Mispricing

• Tactical Positioning

These views span the spectrum of timeframes we can express our equity views on. We offer our systematic readings for each.

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Below, we visualize the systematic application of these principles of expected returns to a diversified portfolio of equities, fixed income, commodities, and currencies across developed markets:

Above, we visualize returns by systematically adjusting our exposure to the expected returns of a developed-market (DM) asset basket. This DM basket contains the equities, sovereign bonds, and currencies of the US, Canada, UK, Japan, Germany, and Australia, along with global commodity exposures in WTI Crude, Brent Crude, Heating Oil, Gasoil, Copper, and Aluminium.

In this note, we outline the framework for our portfolio construction process and describe what it reveals about the global cross-asset expected-return landscape.

The Framework

In this section, we will outline the framework for systematically constructing our portfolio. The purpose of this section is not to give a step-by-step process for replicating this portfolio, but rather to offer the mechanical framework used in portfolio construction in an intuitive fashion. We visualize our portfolio construction process below:

Expected Return Measures: While conceptually expected returns are uniform across asset classes, in practice, their definitions vary. We use a combination of earnings yields (equities), bond yields (fixed income), the term structure (commodities), and rate differentials (currencies) to define expected returns. We treat gold as a currency and use a mix of the long-term realized return and real yields to measure expected returns. These measures are intentionally simple but defensible to align with discretionary intuition.

Naive Expected Sharpe Ratios: Using our expected return measures, we compute naive expected Sharpe Ratios based on local volatility levels. Our preference here is for shorter-horizon volatility lookbacks, as they better account for volatility clustering. These naive expected Sharpe Ratios are not intended as short-term timing signals, but rather as structurally grounded measures of forward risk-adjusted return.

Portfolio Allocations: Portfolio allocations are scaled proportionally to our naive Sharpe Ratios. All assets in the portfolio trade in large, liquid futures markets. As a result, the program is not subject to structural leverage constraints and is unconstrained in expressing long or short exposures.

Dynamic Volatility Targeting: The program maintains a maximum risk budget of 10% annualized volatility. The aggregate naive expected Sharpe Ratio scales portfolio-level exposure. A higher expected risk-adjusted return increases utilization of the risk budget, while a lower expected risk-adjusted return reduces exposure.

Combining these measures creates the Prometheus Expected Return Program for DM Markets. Let’s dive into the empirics and what they tell us about the global macro landscape today.

Equities: Anywhere But The US

We begin our exploration with DM equity markets. Below, we visualize the equal-weighted expected return profile of DM equity markets:

Above, we show that a DM equity basket offers positive excess returns relative to local cash rates. While positive and attractive, these expected returns are not particularly elevated relative to history, largely because realized returns in global equity markets have been high (recall that expected returns fall as realized returns rise). This basket of expected returns has been materially weighed down by US expected returns, which are effectively at zero. Meanwhile, economies with less tech-centric indexes like the UK and EU (Germany) show far more attractive return-to-risk characteristics.

Importantly, this dispersion is somewhat structural rather than cyclical. US equities have experienced a multi-year valuation expansion concentrated in a narrow group of high-growth, high-duration technology companies. As valuations rise, forward earnings yields compress mechanically, reducing embedded expected returns even if growth expectations remain strong. In contrast, UK and European indices are more heavily weighted toward financials, industrials, energy, and materials—sectors that trade at lower multiples and whose valuations have not expanded as much. As a result, their forward earnings yields remain elevated, producing higher mechanically derived expected returns.

We visualize this uneven distribution of Naive Expected Sharpe Ratios below:

Correlations across these equity markets are fairly strong; combining these assets into a portfolio offers only a mild improvement in expected risk-adjusted returns. Nonetheless, owning a basket of these equities offers a better exposure than owning any single one. Below, we show the naive expected Sharpe ratio of our portfolio of these equities:

We note three important features here. First, a global equity portfolio offers higher expected returns than a US-only portfolio— a crucial observation for US investors. Second, a mix of assets is likely to outperform any one particular asset. Finally, a mix of global equities, while more attractive than owning any individual country, offers only modest expected returns relative to history.

Fixed Income: The Most Attractive Asset Class

We next turn to developed market sovereign bond markets. Below, we visualize the equal-weighted expected return profile of DM fixed income markets.

Above, we show that a DM bond basket offers modest positive excess returns relative to local cash rates. While the opportunity set has improved materially from the deeply negative expected returns observed during the global post-COVID monetary policy hiking cycle, current expected returns remain moderate relative to history.

Importantly, dispersion across countries is again material. Markets such as Japan and Canada offer yields much more attractive than those in the US. These yield differentials largely reflect much more significant inflationary pressures in these regions relative to the US, resulting in weak realized returns. However, these weak realized returns potentiate future returns. Therefore, if these countries do not experience further inflationary acceleration, bondholders will be materially rewarded relative to US bondholders.

We visualize the distribution of Naive Expected Sharpe Ratios below:

Correlations across developed bond markets are also relatively strong, though generally lower than in equities. Combining these markets into a portfolio provides some diversification benefit, but the improvement in expected risk-adjusted return is again incremental. Nonetheless, a basket of developed sovereign bonds offers a more balanced exposure than any single market, smoothing country-specific policy and inflation risk.

Below, we show the naive expected Sharpe ratio of our portfolio of these bonds:

We note three important features here. First, a global bond portfolio currently offers a meaningfully higher expected return profile than we have seen in the post-COVID era. Second, cross-country diversification modestly improves risk-adjusted return relative to holding any individual bond market. Finally, fixed income offers a higher expected return than equities on a risk-matched basis, while offering a hedge to weaker growth conditions, which makes an expected return weighted portfolio of fixed income assets a compelling addition to our equity basket.

Currencies: Broadly Long USD

We next turn to developed market currency markets. Below, we visualize the equal-weighted expected-return profile of DM currencies through a dollar-centric lens:

Above, we show that our non-USD currency basket currently offers a modestly negative expected return profile. However, unlike equities and bonds, we find much more dispersion in currency expected returns. This is primarily driven by the variation in monetary policy measures across global central banks. In practice, short-rate differentials are the dominant driver of this dispersion. The wide gap between US and Japanese policy rates continues to embed a meaningful carry advantage for USD over JPY, reflecting the Bank of Japan’s comparatively accommodative stance relative to the Federal Reserve. In contrast, both Canada and the Euro Area have policy rates that are closer to US levels, though meaningful differentials persist. In the case of gold, real yields remain elevated relative to history, offering modest expected returns compared with cash. These varying dynamics create a healthy amount of dispersion in the distribution of Naive Expected Sharpe Ratios :

Correlations across developed currency pairs are meaningful but structurally lower than in equities or sovereign bonds. As a result, combining currencies into a portfolio offers somewhat greater diversification benefits than within-region equity or bond baskets. Nonetheless, the improvement in expected risk-adjusted return remains incremental. A diversified currency basket primarily smooths idiosyncratic policy and rate-cycle exposure rather than dramatically increasing expected Sharpe. Below, we show the naive expected Sharpe ratio of our portfolio of these currencies:

We note that the naive expected Sharpe ratio for a portfolio of currencies yields returns similar to those of equities today, while adding diversification.

Commodities: Energy Looks Attractive

We next turn to global commodity markets. Below, we visualize the equal-weighted expected return profile of major commodity contracts across energy and industrial metals.

Above, we show that the commodity basket currently offers a modestly positive expected return profile, though with significant cross-asset dispersion. Unlike equities and bonds, where valuation metrics evolve gradually, commodity expected returns are largely driven by term structure dynamics and inventory conditions. Periods of backwardation embed positive roll yield and therefore positive expected returns, while contango environments mechanically compress forward return potential.

Importantly, dispersion across individual commodities is pronounced. Energy contracts—particularly refined products such as heating oil and gasoline—exhibit stronger expected Sharpe Ratios, reflecting tighter physical markets and supportive term structures. By contrast, industrial metals such as copper and aluminum display weaker or even slightly negative expected return profiles, consistent with softer demand dynamics and flatter or contangoed curves. We visualize the distribution of Naive Expected Sharpe Ratios below:

Correlations across commodities are lower than within regional equity or bond markets, though still influenced by broad macro cycles. Combining commodities into a basket provides diversification benefits and smooths idiosyncratic supply shocks, but dispersion remains an important feature of the opportunity set. Below, we show the naive expected Sharpe ratio of our commodity sub-portfolio:

Unlike equities and fixed income, the carry embedded in the term structure of the commodities curve is not as mechanically linked to forward returns, and does not offer a persistently positive risk premium. Furthermore, after accounting for asset volatilities, our naive expected Sharpe ratios are not as compelling as a simple look at the term structure may imply. Nonetheless, a portfolio of commodities is undoubtedly value-additive to a global expected return portfolio.

Prometheus Expected-Return Program

So far, we have examined each asset class within our DM basket individually. We now combine these sub-portfolios to form the Prometheus Expected-Return Program. Below, we visualize portfolio risk allocation across the 24-asset universe:

Above, portfolio risk allocation refers to the notional exposure of each position scaled by its expected volatility. Capital is directed toward assets offering the highest expected return per unit of risk, while total portfolio risk is moderated through diversification.

We offer two perspectives to quantify this diversification benefit. First, we compare the aggregate naive expected portfolio Sharpe Ratio (blue) to the simple average Sharpe Ratio of the underlying asset classes (red):

Diversification does not change expected return; it reduces volatility. If all asset classes were perfectly correlated, there would be no diversification benefit, and the blue and red lines would coincide. The greater the gap between the aggregate Sharpe and the average Sharpe, the larger the diversification benefit.

Second, we measure diversification through the portfolio’s effective number of bets. While the program spans 24 assets, correlations across markets reduce the true number of independent return streams. The chart below shows how the effective number of bets evolves over time. When correlations rise, breadth compresses. When cross-asset opportunities become more dispersed, breadth expands. This increase in independent exposures lowers portfolio volatility relative to expected return and strengthens aggregate risk-adjusted performance.

The program currently exhibits a meaningful level of effective breadth relative to history. The combination of cross-asset dispersion and diversification benefits supports a healthy utilization of the portfolio risk budget, as shown below.

Thus, after systematically scanning across the global expected return landscape, we observe that current opportunities are concentrated primarily in global fixed income and long dollar exposures. Within both equities and fixed income, US assets offer comparatively limited expected return relative to their global peers. A dynamic expected return portfolio applied across developed markets currently exhibits a naive expected Sharpe Ratio of approximately 1.02, supported by meaningful cross-asset breadth. This breadth allows the portfolio to assume material risk while maintaining expected compensation per unit of volatility.

So, to answer the question posed in the title of this note — Where Are the Expected Returns?

Not in the US.

Until next time.

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The latest data for January showed Nonfarm Payrolls increased, coming in at 0.08%. This print surprised consensus expectations of 0.04% and contributed to an acceleration in the three-month trend relative to the twelve-month trend. We show the sequential evolution of the data below:

These changes were a material shift in the three-month trend, nudging employment growth into positive territory. We show this modest increase below:

Non-cyclical employment continues to lead the pack. Nonetheless, it is worth noting that employment breadth (the number of sectors seeing higher vs lower employment) continues to show weakness:

Furthermore, cyclical job growth (manufacturing, construction, and trade) remains weak:

Weakness in cyclical job growth has typically indicated slower credit cycle activity. However, changing population and demographic conditions may potentially be muddying this picture. While job growth in cyclical sectors has remained weak, it is worth noting that the aggregate measures of cyclical conditions (unemployment) have remained contained:

Unemployment remains contained. As such, the weakness in employment is coming not from a tightening of cyclical conditions via unemployment rates, but rather from changes in the labor force.

Thus, we continue to see a labor market frozen by a declining labor force rather than a deteriorating cyclical dynamic. Furthermore, we see the lack of cyclical deterioration in the fact that the sector with the weakest job growth today (professional services) is seeing the largest income gains. Below, we see how professional and business services employment is seeing a broad-based and consistent decline:

Meanwhile, the category continues to be the sector with the strongest income growth across sectors:

This is driven by an increase in real wages alongside a structural decline in temporary help services employment, potentially accelerated by the proliferation of artificial intelligence tools. A business cycle downturn driven by declining employment in professional services is highly unlikely to be accompanied by rising real wages and incomes in the sector, which we find is the case today. These conditions, coupled with evidence of a falling labor force, continue to suggest that the labor market is undergoing a secular shift rather than a cyclical weakening.

Market Implications

We work through the implications of this data for equity and bond markets. We begin with the fixed-income markets as the linkages are more direct. Cyclical conditions in labor markets directly affect the Fed’s inclination to ease or tighten monetary policy. While employment growth may be anemic, the absence of cyclical weakness (rising unemployment) limits how much the Fed needs to react at this time. This dynamic continues to keep our monetary policy pressures gauge positive:

Our gauges suggest that, despite the weakness in the labor market, the Fed will be more likely to hike than to cut based on the data. This theme has paid off well since September 2025, following which markets have moved to discount significantly less easing:

While the opportunity set is now smaller, we continue to see nominal activity, which is inconsistent with a significant easing environment from the Fed. For this to shift, we would need to see a material loosening of the labor market. This may come, but we do not see it yet.

Turning to equities. The linkages from labor to equities are less direct than those from labor to treasuries. Equities benefit from strong labor growth when that labor growth turns into strong spending. Currently, while labor growth is limited, income growth remains persistent and continues to feed into consumer spending. We visualize this flow to corporate profits below:

Therefore, even though labor markets continue to weaken, income flows continue to support corporate profits. These dynamics, along with sustained business investment, continue to support corporate profits and their expectations:

Therefore, the latest labor data, while still showing weak trends, does not directly conflict with positive earnings. Therefore, we think today the question is not whether equity earnings should be positive, but how positive they should be.

Today, our measures suggest that consensus expectations are modestly rich. This opens the equity markets to corrections, but not necessarily recessionary dynamics.

Overall, our assessment of the labor market is that there is undoubtedly weakness. However, the broad-based evidence suggests it is not cyclical weakness, but structural change. This limits the need for the Fed to react and has not had a material impact on corporate profits. These conditions continue to support equities and weigh on fixed income.

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Mathematically, the single biggest factor that impacts nominal bonds is changes in discount rate expectations. Over the last month, short-term interest rate markets have remained unchanged. Over the last year, these markets have remained unchanged. We show the evolution of these expectations below:

To better contextualize these recent changes in policy expectations, we show the latest discount rate path priced over the next eighteen months. Short-term interest rate markets are expecting a peak in policy rates on Feb 26 at 3.64%, followed by a trough on Jan 2027 at 3.18%. This implies approximately 2 interest rate cuts cumulatively over the next eighteen months. We show this path below:

These cuts are directionally inconsistent with the latest readings from our monetary policy pressures gauge. Our monetary policy gauge measures the pressures on the Federal Reserve to move monetary policy, based on the trade-off between growth and inflation data. The higher our readings, the greater the pressure to hike policy rates. The lower the gauge, the more pressure there is to cut policy rates:

Having examined the pricing of discount rates, we turn to the shape of the yield curve. We compare the curve to positioning to assess bond attractiveness. When the curve offers more carry than positioning reflects, positioning typically catches up via increased duration exposure. When positioning exceeds what the curve justifies, trades become crowded and vulnerable to reversal. Currently, US yield curves show modest vulnerabilities for 10-year Treasuries:

These measures reflect two independent views on US Treasuries: a policy view, which can be expressed in the short end of the treasury curve, and a positioning bet, which can be reflected in the long end of the curve. We show how these views are mechanically and empirically uncorrelated:

Further, given that these independent views are effectively isolated views on bond yields, they can be combined for a comprehensive view on US Treasuries:

Currently, these measures suggest marginal downside pressure on Treasuries from positioning; however, the pressure on policy rates to rise from strong economic activity remains meaningful. Headwinds for Treasuries persist.

If you’re looking for a process that applies these insights and more to investable portfolios, we recommend checking out the Prometheus Menu. From beta management to macro alpha, we have a wide variety of solutions for all investors:

Until next time.

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Energy prices primarily reflect demand conditions coming from the global economic cycle relative to existing production. Demand conditions, based on global energy producer sales, continue to remain tepid:

While energy demand remains modest, energy inventories continue to show neutral conditions as well:

Energy inventories continue to confirm a weak backdrop for energy price trends. We zoom into the crude complex as the central market of the oil complex. Much like the broader energy complex, we continue to see weak price trends confirmed by neutral/higher inventories:

While medium-term price trends and current inventories continue to suggest a much more benign outlook for crude than recent price trends imply, future inventories likely point to a much more negative outlook. Below, we show how global oil in transit suggests meaningful increases in inventories ahead:

With global demand conditions neutral, current supply conditions modestly negative, and prospective supply conditions materially negative, there remains little cyclical support for recent crude price trends.

In this backdrop, we expect the Prometheus Energy Program to prove adept at navigating these energy cross-currents using our mix of fundamental and price-based measures:

The future is dynamic, and our systems will adapt as the data evolves. We will keep you updated as the outlook shifts. Until next time.

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In December, headline CPI came in at 0.31% surprising consensus expectations of 0.3%. Core CPI contributed 0.19% to this print, with food & energy contributing the remaining 0.12%. This print drove a deceleration in the three-month trend. Below, we display the sequential evolution of the data:

The primary drivers of CPI inflation are food, energy, transport, and Shelter. These components have contributed 0.1% (Food), 0.02% (Energy), 0.01% (Transport), and 0.14% (Shelter), respectively. We display these contributions to the 0.31% change in CPI below:

For further perspective, we show that these areas have accounted for the majority of the variation in inflation, both economically and statistically. Over the last year, food, energy, transport, and housing have contributed 0.41% (Food), 0.15% (Energy), 0.18% (Transport), and 1.11% (Shelter), respectively, to the change in inflation. We display these principal drivers of inflation over time below:

We now zoom back into the most recent print. Inflation was somewhat mixed, with Shelter contributing most positively, and Education & Comms Svcs contributing most to weakness. We display the largest movers to the upside and downside below:

We now zoom in on our major categories: food, energy, transport, and Shelter. We begin with food. The most recent data showed food inflation was somewhat mixed, with Full Service Meals & Snacks showing the most relative strength and Meats, Poultry, Fish, and Eggs showing the most weakness.

For further perspective, we also show the evolution of food inflation over the last year with the strongest contributors in shades of blue ( Meats, Poultry, Fish and Eggs, Full Service Meals & Snacks, Limited Service Meals & Snacks) and the weakest in shades of red (Fruits and vegetables, Fats and Oils, Cereals and Bakery Products):

Food inflation remains persistent.

Next, we turn to energy. The most recent data showed energy inflation was largely negative, with Utility & Gas Service showing the greatest relative strength and Motor Fuel the most significant weakness.

We also show the contributions of these items to total energy inflation over the last year with historical context:

Energy inflation is likely to face headwinds amid global oil supply dynamics that are consistent with meaningfully lower motor fuel prices.

We now turn to transportation. The most recent data showed transport inflation was somewhat mixed, with Public Transportation showing the greatest relative strength and Used Vehicles the most significant weakness.

For further perspective, we also show the evolution of transportation inflation over the last year, with the strongest contributors in shades of blue (Vehicle Insurance, Vehicle Maintenance & Repair, Used Vehicles) and the weakest in shades of red (Public Transportation, Vehicle Leases, Vehicle Rental):

Transportation inflation persists due to a generational shortage of US automobile inventory.

Finally, we examine Shelter, which is the most significant driver of consumer inflation in the economy. The most recent data showed shelter inflation was largely positive, with Owners Equivalent Rent showing the greatest relative strength and Other Lodging (Hotels, Motels, etc.) showing the most significant weakness.

We also show the contributions of these items to total shelter inflation over the last year for historical context:

Finally, we turn to our systematic projections for CPI based on the constellation of current CPI prints and macro conditions. Our current programmatic estimates point to an average annualized CPI rate of 2.15% over the next 12 months. We visualise this below:

Our programmatic estimates take into account current trends in CPI categories, along with projected housing trends based on BLS computational lags. As housing activity and prices continue to decline, the likelihood of a further decline in the housing CPI increases. With potential for weaker energy and housing prices, we see an increasing probability for a path to 2% CPI inflation.

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Our observations are as follows:

• Consumer spending remains strong, driven by wage gains. However, underlying employment trends are concerning.

• Business investment is entirely driven by technology investment. The degree of dispersion is likely to be unsustainable.

• Government spending continues to add only minimally to overall growth and will likely continue to.

• Trade continues to face sustained volatility due to tariffs. This volatility is a driver of noise, rather than macro trends.

On its current trajectory, economic growth is headed for a record year, if sustained. However, it is unlikely the current pace of growth can be sustained due to underlying weakness in employment, a likely transitory spike in exports, dispersion in consumer spending, and even greater dispersion in business fixed investment. This is reflected in our programmatic forecasts for real GDP growth, which currently project a 1-year forward rate of 2%.

Let’s dive into the data driving this assessment. For the latest data through November, our systems place Real GDP growth at 3.37% versus one year prior. Below, we show our monthly estimates of Real GDP relative to the official data:

In November, GDP came in at 0.29% versus the prior month. Below, we show the weighted contributions to the most recent one-month change in real GDP, along with the recent history of month-on-month GDP. Additionally, we show the contribution by sector to monthly GDP in the table below:

As we can see, economic growth remains positive and broad-based across sectors— though potentially overstated by export numbers. We scan through each of the major sectors, beginning with consumer spending.

The Consumer: Strong Incomes, But Meaningful Employment Headwinds

Over the last year, consumption has added 1.48% to the GDP growth of 3.37%.

The composition of this spending has largely been skewed towards services. We visualize the major drivers below:

However, it is worth noting, the cyclical, leverage-sensitive spending has materially slowed:

This type of weakness has typically been a prelude to recessions; however, due to compositional shifts in the economy, spending is much more financed by income than by leverage.

To better understand these dynamics, we turn to real employee income, which over the last year has largely been positive, with Education and Health Services, Professional and Business Services, and Financial Activities contributing strength (shown in shades of blue). On the other hand, Mining and Logging, Utilities, and Other Services are the weakest areas of income (shown in shades of red):

This income growth is still broad-based as well, with 90% of sectors seeing positive real growth:

However, amid this strong income growth, we do see meaningful negative trends in underlying employment:

This weakness in employment is coming from a recomposition of the labor force to favour domestic workers over foreign, with reduced labor participation rates:

If employment is worsening/contracting, but real incomes are rising, where is the income coming from? Our estimates point to real wage growth:

Thus, scanning through the flow of income to consumer spending, we see positive income conditions flowing through to consumer spending. However, the mix of income and spending strength remains skewed to non-cyclical sectors. Furthermore, the underlying employment trend driving current income growth looks concerning, and without a meaningful shift, it will drag on overall economic activity. Overall, consumer spending remains healthy, but cannot continue to accelerate without a meaningful change to employment trends.

Investment: Technology Holds Up The Aggregates

Over the last year, investment has added 0.58% to the GDP growth of 3.37%.

While we have seen moderate dispersion in consumer spending growth, we see much larger dispersion in business investment. Most major sectors saw flat to negative growth in business investment, but the strength of business investment in information and intellectual property spending kept the aggregates afloat. We show this technology spending below:

As shown, technology spending continued to power ahead, supporting aggregate investment spending. Meanwhile, residential, industrial, and transportation investments continue to show mixed to negative readings:

We see these dynamics well-reflected in equity markets, with traditional real-economy businesses lagging meaningfully behind technology firms. Given that much of this spending was financed by excess cash and continues to be, this dynamic can continue a while longer. However, as non-technology businesses become more stressed and technology companies' excess cash balances decline, this effect will likely diminish over time. Technology investment has driven almost all of the gains in business investment, but it cannot continue indefinitely.

Government Spending: Stable & Persistent

Over the last year, government spending has added 0.14% to GDP growth of 3.37%.

While government deficits have occupied the popular imagination, our monitors continue to show a relatively normal contribution of government spending to output and incomes. Below, we show how, after a brief rise in the post-COVID era, government wages have begun to normalize:

Overall, government spending remains a small part of growth and will not meaningfully move real GDP, as ever. That does not mean the government does not have a meaningful impact on macro conditions—just that it does not move growth directly and has much more significant impacts on balance sheet conditions than on growth conditions. You can read our views on the same here:

Overall, government spending will likely remain a support to growth but not a determinant of shifts in the economic cycle.

Trade: Tariff-Induced Volatility

Much like government spending, trade is rarely the driver of shifts in the US macroeconomic cycle, as the US is largely a domestically oriented economy. This year, however, we have seen significant volatility in trade data, mostly induced by tariff policy expectations. Regardless of the concerns, trade has been a minimal driver of trend rates of growth.

Over the last year, exports have added 0.99% to the GDP growth of 3.37%.

Meanwhile, imports have added 0.14% to GDP growth:

We have seen some impacts of tariffs on import volumes; however, these effects have not been felt by consumers or the broader economy and are unlikely to cause a material shift to the outlook. For our full views on the mechanical effects of tariffs, you can read the note below:

Real GDP: Adding It All Up

We show the cumulative contributions of various sectors to the total topline yearly real GDP growth:

Additionally, we show the composition of the monthly estimates of nominal GDP, broken into real GDP growth and inflation. Our latest estimates place nominal GDP at 6.29% versus one year prior, with real GDP growth of 3.37% and inflation of 2.92%:

To further assess whether GDP conditions are consistent with recessionary pressures, we aggregate macroeconomic indicators, in line with the NBER's recession classification methodology, into a recession probability monitor. This gauge gives us a real-time understanding of developing recessionary pressures. Currently, recession probabilities are at 23%:

Next, we zoom out to offer what the mosaic of economic data says about the pervasiveness of GDP growth. Our GDP Nowcast uses 75 measures of real growth conditions to provide timely insights into the economy. We share both the current level of the nowcast in blue and a diffusion index of the underlying components in red. Currently, 63% of subcomponents are rising, consistent with an expansion:

Our latest weekly reads of real GDP suggest a similar picture for the pace of GDP growth, albeit a little lower than our monthly readings:

Below, we visualize the prospective paths of real GDP growth over the next twelve months using our data trajectory monitor. We share two processes. First, we extrapolate the current trend in the data to visualize the prospective trajectory of GDP based on the current trend. Additionally, we share our forward-looking estimates for real GDP growth based on our proprietary process:

On its current trajectory, economic growth is headed for a record year, if sustained. However, it is unlikely the current pace of growth can be sustained due to underlying weakness in employment, a likely transitory spike in exports, dispersion in consumer spending, and even greater dispersion in business fixed investment. This is reflected in our programmatic forecasts for real GDP growth, which currently project a 1-year forward rate of 2%.

The future is dynamic, and our systems will adapt as the data evolves. We will keep you updated as the outlook shifts. Until next time.

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The latest data for September shows Industrial Production increased, coming in at 0.1%. This print surprised consensus expectations of 0.05% and contributed to a deceleration in the three-month trend relative to the twelve-month trend. We show the sequential evolution of the data below:

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We break this print into its contributions from production coming from Food (-0.01%), Energy (-0.05%), Autos (0.08%), and All Other Items (0.08%). Additionally, we also showcase the top 10 contributions by industry. The largest contributor this month was Converted fuel, and the largest detractor was Commercial energy products:

We zoom out to offer further context on the dynamics of industrial production. Over the last year, industrial production has expanded by 1.62%. Below, we present the top six drivers of industrial production, with the three strongest industries highlighted in blue (Transit, Primary energy, and Equipment parts materials) and the three weakest industries highlighted in red (Automotive products, Non-energy business supplies, and Paper Products):

Over the last few decades, the importance of food, energy, and automobiles has risen, accounting for a significant amount of the variation in industrial production. Over the last year, food, energy, and automobiles have contributed 1.2% to the 1.62% change in industrial production. We show this impact below:

To further assess the health of the current expansion of industrial production, we examine the diffusion of the 28 subsectors we track. This involves examining the number of industries that are expanding versus the number of industries that are contracting. We find that 46% of industries are contracting. Below, we visualize how a diffusion index has generally been a good barometer of the durability of upturns and downturns in industrial production:

To elaborate further, currently 15 industries are expanding and contributing 2.62% to industrial production, while 13 industries are contracting and detracting -0.57% from industrial production growth year over year. We visualize their respective weighted contributions below:

Therefore, we are seeing increasing signs of a recovery from previously contractionary conditions.

This is corroborated by the latest available manufacturing orders data as well. The latest data for September showed manufacturing new orders for durable goods increased by 0.51%, disappointing consensus expectations of 2.9%. This print contributed to a deceleration in the quarterly trend relative to the yearly trend. Below, we show the sequential evolution of the data relative to consensus expectations:

This data, along with the latest nondurable orders data, places total manufacturing new orders growth at 0.37% in September. Over the last year, manufacturing new orders have grown by 3.55% compared to one year prior. Below, we show the contributions coming from durables (3.59%) and nondurables (-0.04%) to these changes in total new orders:

We now zoom into the most recent print. Below, we show the composition of the most recent data for manufacturing new orders. Please note that we include our estimates for nondurable goods if the latest data is not yet available. The largest contributor to the most recent change in manufacturing new orders is Transportation equipment, and the most significant detractor was Nondurable Goods. We display the composition below:

To better understand these changes over the last year, we decompose durable goods orders by industry. Over the last year, Transportation equipment, Machinery, and Primary metals have been the primary drivers of strength in durable goods orders, as shown in shades of blue below. On the other hand, Furniture & Appliances, Fabricated metal products, and Computer and electronic products have dragged on growth, as shown below:

Real manufacturing orders and industrial production move hand-in-hand, with new orders fueling output. Currently, orders are consistent with the latest industrial production data, suggesting positive conditions continuing to develop:

To understand how these industrial production dynamics are reflected in equity markets, we turn to examine earnings expectations for US industrials and compare them to the underlying output of industrial equipment. Over time, we find that industrial output is a primary driver of industrial earnings.

Today, earnings expectations for the industrial sector are in a sequential acceleration within an expansion, while production is in a sequential acceleration within a contraction.

Alongside these indications of improving US conditions, we have also begun to see bellwethers of global industrial activity in the form of industrial metals begin to show significant trend strength:

The combination of these dynamics has moved the Prometheus Multi-Strategy Program to maintain its net long exposure to US industrial equities and metals. We visualize our latest risk below:

The early stages of a recovery are often the most positive periods for industrial commodities. The future is dynamic, and our systems will adapt as the data evolves. We will keep you updated as the outlook shifts. Until next time.

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Enjoy!

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The most recent data for August show that construction spending increased by 0.21%, with contributions of 0.34% and -0.13% from residential and nonresidential spending, respectively. This data surprised consensus expectations of -0.1% and contributed to a deceleration in the twelve-month trend.

For further context, we show the composition of the most significant change in monthly construction spending. The strongest contributor to construction spending in August was Sewage & Waste Disposal, while the weakest was Residential in construction spending:

Zooming out, we show the evolution of construction spending over the last year, which fell by -1.63%%. This was driven by a -0.89% decrease in residential spending and a -0.74% fall in nonresidential spending. Below, we drill down further to show the top 3 drivers of strength in blue (Sewage & Waste Disposal, Transportation, and Power) and the top 3 drivers of weakness in red (Manufacturing, Residential, and Commercial):

These weak trends continue to add weight to the evidence that housing remains under pressure, despite a positive sequential print. Housing activity ahead continues to look weak as well:

Furthermore, scanning through the construction data, we find that the construction of manufacturing facilities continues to decline as well.

The combination of these dynamics suggests weakness in residential and manufacturing investment. The Prometheus Multi-Strategy Program has been expressing these views through short exposures to the Russell 2000 and US Homebuilder indices. Those remain in play:

Until next time.

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We demonstrate that our high-frequency estimates of nominal wages continue to exhibit strength.

As we can see, the US economy continues to experience stable income growth. This will continue to support US corporate profit growth. We see this in earnings expectations for the US, which continue to power equity indexes higher:

However, we find that this strong earnings growth remains relatively lopsided, driven almost entirely by technology and associated sectors:

Furthermore, earnings expectations have potentially exceeded what the economy can deliver. We see this in our measures below:

Recall, while we have indeed noted the positive and profit-producing effects of technology investment, the economy also has a meaningful headwind in the form of slowing population growth:

Thus, while our measures continue to show an expanding business cycle, the pricing of US equities may see some declines as they re-rate to reflect these pressures. We observe these dynamics reflected in our Global Equity Program, which has de-risked meaningfully over the past week, now standing at 40% of maximum exposure.

By no stretch do we think the economy has dived into a recession. However, our multifaceted systematic process is revealing more mixed signals than it has all year, and we believe they are noteworthy. These pressures can be resolved simply through some devaluation of equities—part of which occurred last week. Heading into next week, the Prometheus Multi-Strategy program is taking on more idiosyncratic long/short opportunities in equity markets, rather than the outright bets it has had on beta recently:

Our systematic process now suggests that a more cautious and dynamic approach to beta is required in the near term. Tactical shorts are likely to be more available than they were prior to the last two weeks, and our Prometheus Multi-Strategy Program is well-adapted to take advantage of short-term opportunities.

The future is dynamic, and our systems will adapt as the data evolves. We will keep you updated as the outlook shifts. Until next time.

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We begin with high-level growth. Our estimates for aggregate nominal employee incomes remain strong. We visualize this below:

This daily gauge of nominal incomes largely aligns with GDP conditions, suggesting nominal GDP growth remains strong. Now, within that strong aggregate picture, there do remain indications of weakness. The latest PMI readings continue to show manufacturing and trade sectors continuing to battle their way out of contraction:

These dynamics hold across the manufacturing and services sectors:

We see this reflected in our estimates for Russell 2000 earnings as well, which contains more cyclically oriented companies than the S&P 500:

While our measures don’t point to contraction from Russell 2000 earnings, they do point to a stabilizing pace of growth and perhaps some mean reversion ahead for earnings expectations.

Under these nominal growth dynamics, inflation remains above the Fed’s comfort zone, though disinflationary forces are building in housing and energy. Shelter inflation continues to slow alongside weak housing demand, while energy prices are stabilizing as inventories normalize.

However, auto shortages continue to provide a floor to price pressures.

The combination of these dynamics keeps us from the Fed’s 2% objective.

Our monetary policy gauges measure the pressures on the Federal Reserve to move monetary policy based on the trade-off between growth and inflation data. The higher our readings, the more pressure there is to hike policy rates. The lower the gauge, the more pressure there is to cut policy rates.

Pressures on monetary policy remain biased towards tightening. While this pressure to tighten from the real economy persists, financial liquidity remains ample.

With the Federal Reserve’s balance sheet actions slowing, the dominant driver of liquidity dynamics remains the repo market. We isolate this below:

The primary concerns we see expressed by market participants today are about the stability of repo markets, particularly the widening of SOFR spreads. While these spreads have indeed widened, adding a little historical perspective reduces our concerns:

As we can see, while there has been a rise in SOFR spreads, the rise is extremely small relative to historical periods of stress (2007, 2029, 2022). We see this lack of stress confirmed via repo volumes. We visualize this below:

Repo activity continues to expand at a strong pace, supporting assets broadly.

Positive broad-based nominal growth, elevated inflation versus the Fed’s target, and ample liquidity have continued to keep cross-asset reflationary trends going. We see these in our latest macro regime probabilities:

Rising nominal growth outcomes continue to dominate macro regime probabilities. A pro-cyclical bias towards asset allocation remains warranted.

Amidst this backdrop, the Prometheus Multi-Strategy Program has been steadily re-adding risk and rebalancing exposures across equities, bonds, and commodities. The program’s posture is once again long growth and short duration—consistent with a reflationary shift:

The program is entering the week-long equities, short nominal fixed income, and modestly long commodities.

The future is dynamic, and our systems will adapt as the data evolves. We will keep you updated as the outlook shifts. Until next time.

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We begin our tracking of the major sources of liquidity:

With the Federal Reserve’s balance sheet actions slowing, the dominant driver of liquidity dynamics remains the repo market. We isolate this below:

The primary concerns we see expressed by market participants today are about the stability of repo markets, particularly the widening of SOFR spreads. While these spreads have indeed widened, adding a little historical perspective reduces our concerns:

As we can see, while there has been a rise in SOFR spreads, the rise is extremely small relative to historical periods of stress (2007, 2029, 2022). We see this lack of stress confirmed via repo volumes. We visualize this below:

Repo activity continues to expand at a strong pace.

Underlying this strong rep activity is low collateral volatility:

Fixed income volatility has declined meaningfully, improving collateral conditions. Furthermore, the primary source of repo market funding, i.e., money market funds, continues to see strong inflows:

The combination of these dynamics continues to paint a picture of stability in the liquidity ecosystem. This is broad support for asset prices and low volatility.

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In September, headline CPI came in at 0.31% disappointing consensus expectations of 0.4%. Core CPI contributed 0.18% to this print, with food & energy contributing the remaining 0.13%. This print drove an acceleration in the three-month trend. Below, we display the sequential evolution of the data:

The primary drivers of CPI inflation are food, energy, transport, and shelter. These components have contributed 0.03% (Food), 0.1% (Energy), 0.02% (Transport), and 0.07% (Shelter), respectively. We display these contributions to the 0.31% change in CPI below:

Inflation was largely positive, with Motor fuel contributing most positively, and Energy Services contributing most to weakness. We display the largest movers to the upside and downside below:

For further perspective, we show how these areas have accounted for the majority of variation in inflation both economically and statistically. Over the last year, food, energy, transport, and housing have contributed 0.42% (Food), 0.2% (Energy), 0.32% (Transport), and 1.26% (Shelter), respectively, to the change in inflation. We display these principal drivers of inflation over time below:

We now zoom into our major categories of food, energy, transport, and shelter. We begin with food. The most recent data showed food inflation was somewhat mixed, with Full Service Meals & Snacks showing the most relative strength and Meats, Poultry, Fish, and Eggs showing the most weakness:

For further perspective, we also show the evolution of food inflation over the last year with the strongest contributors in shades of blue ( Meats, Poultry, Fish and Eggs, Full Service Meals & Snacks, Limited Service Meals & Snacks) and the weakest in shades of red (Fruits and vegetables, Fats and Oils, Cereals and Bakery Products):

Food inflation continues to drive aggregate inflation higher.

Next, we turn to energy. The most recent data showed energy inflation was largely negative, with Utility & Gas Service showing the greatest relative strength and Motor Fuel the greatest weakness.

We also show the contributions of these items to total energy inflation over the last year with historical context:

Energy prices have turned upwards, now a positive contributor to headline CPI after being neutral for an extended period.

We now turn to transportation. The most recent data showed transport inflation was somewhat mixed, with Public Transportation showing the most relative strength and Used Vehicles showing the most weakness.

For further perspective, we also show the evolution of transportation inflation over the last year with the strongest contributors in shades of blue (Vehicle Insurance, Vehicle Maintenance & Repair, Used Vehicles) and the weakest in shades of red (Public Transportation, Vehicle Leases, Vehicle Rental):

Transportation remains a stable and consistent contributor to elevated inflation, as we have expected for several years.

Finally, we examine shelter, which is the most significant driver of consumer inflation in the economy. The most recent data showed shelter inflation was largely positive, with Owners Equivalent Rent showing the greatest relative strength and Other Lodging (Hotels, Motels, etc.) showing the greatest relative weakness.

We also show the contributions of these items to total shelter inflation over the last year with historical context:

Shelter continues to drive the majority of inflationary trends and remains in a downtrend, consistent with housing activity.

Looking ahead:

• Housing inflation will likely remain under pressure as housing demand remains weak.

• Energy prices will likely remain neutral as inventory dynamics continue to put downward pressure on prices.

• Trade tensions and a secular shortage of automotive inventory will likely keep autos a net support to inflationary pressures.

Inflation remains above the Fed’s target. There is potential for housing and energy to come together to bring us into a more disinflationary regime, though transportation is unlikely to comply. However, we have yet to see a meaningful shift in the dynamics. For now, we stay in an uncomfortable spot for the Fed —and, in turn, the bond market.

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In September, headline CPI came in at 0.31% disappointing consensus expectations of 0.4%. Core CPI contributed 0.18% to this print, with food & energy contributing the remaining 0.13%. This print drove an acceleration in the three-month trend. Below, we display the sequential evolution of the data:

The primary drivers of CPI inflation are food, energy, transport, and shelter. These components have contributed 0.03% (Food), 0.1% (Energy), 0.02% (Transport), and 0.07% (Shelter), respectively. We display these contributions to the 0.31% change in CPI below:

Inflation was largely positive, with Motor fuel contributing most positively, and Energy Services contributing most to weakness. We display the largest movers to the upside and downside below:

For further perspective, we show how these areas have accounted for the majority of variation in inflation both economically and statistically. Over the last year, food, energy, transport, and housing have contributed 0.42% (Food), 0.2% (Energy), 0.32% (Transport), and 1.26% (Shelter), respectively, to the change in inflation. We display these principal drivers of inflation over time below:

Inflation remains above the Fed’s target. Energy remains a significant contributor to overall inflation here. If the energy in transit and inventory overhangs begin to weigh on energy prices, this will create a better inflation backdrop—but that remains to be seen. For now, we stay in an uncomfortable spot for the Fed —and, in turn, the bond market.

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For now, the Prometheus Multi-Strategy Program remains pro-cyclically allocated, looking through the volatility of Friday. We walk through the economic conditions driving these views.

Let's start with our business cycle gauge. Our systems aggregate a wide variety of fundamental economic data to create timely proprietary estimates for the current stages of the macro cycle. We share some of these gauges, starting with our signals for business cycle conditions:

Our latest readings continue to show consistent signs of an expanding business cycle. These business cycle conditions continue to translate into growth in earnings expectations. We show the top three drivers in blue (Technology, Financials, Communications) and the bottom three in red (Energy, Consumer Staples, Materials):

These conditions are consistent with income & spending dynamics in the economy. Technology firms continue to invest in the economy at a rapid pace:

Meanwhile, households continue to contribute to the profits impulse as well:

These conditions continue to support a business cycle expansion, which also continues to fuel wage inflation.

These dynamics continue to keep pressure on the Fed, with inflation remaining above its target. We show how our monetary policy gauge now shows incremental pressures to tighten monetary policy:

Given this backdrop, the Prometheus Multi-Strategy Program continues to be biased towards pro-cyclical exposures:

The program continues to maintain long global equities, industrial commodities, gold, and TIPs exposures, while remaining short US treasuries and JGBs. For now, the program continues to prefer a pro-cyclical bias, but the future is dynamic, and our systems will adapt as the data evolves. We will keep you updated as the outlook shifts.

Until next time.

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Read the whole note below:

Economic Observatory: 10.5.2025

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Until next time.