Are we at peak good news regarding inflation?

Happy Wednesday out there, Team 42. It's your skipper here, Darius Dahl, to present our Macro Minute for Wednesday, September 30th, 2026. Hope everyone's having a great week. So, as always, we'll start with the executive summary from today's lead-off morning note. So, let's dive right in. Today's key macro question is, are we at peak good news regarding inflation? Short answer is perhaps. If so, the Fed must take steps to supplement the nascent narrowing of adverse inflation breadth by continuing to play action paths to set up the run, i.e. tightening cyclically to ease structurally. The key supporting evidence is the August PCE report strongly supported the consensus forecast of slowing inflation. The August headline PCE deflator, core PCE deflator, and super core PCE deflator data did not support our sticky inflation theme. The August housing PCE deflator supported our cooling housing and labor theme and did not support our sticky inflation theme. The 42 macro PCE deflator breadth models signal the Fed will likely be able to take a victory lap on inflation next year if the FOMC takes steps to supplement the nascent. If so, the Fed must take steps to supplement the nascent narrowing of adverse inflation breadth by continuing to play action paths to set up the run. Our narrow model indicates that 0%, 55%, and 73% of the 11 most important time series are greater than or equal to 3% on a three-month annualized, six-month annualized, and year-over-year basis, respectively. Only the six-month and year-over-year signals are worthy of a policy response in the form of further tightening, a condition shared by only the year-over-year greater than 3% signal in our broad. So what does all this mean for your portfolio? Reminder, the 42 macro secular inflation model has accurately forecasted an equilibrium core PCE rate in the high twos, low threes since January of 2022. Thus, broad-based disinflation in the PCE deflator time series is unlikely to be sustained because inflation is by far the most lagging indicator of the business cycle and is unlikely to durably return to the Fed's 2% target without a recession, according to the 42 macro business cycle model. Notably, the Fed views this to be a good idea for the future. The 42 macro secular inflation model is accurately forecasted an equilibrium core PCE rate in the high twos, low threes since January of 2022. Thus, broad-based disinflation in the PCE deflator time series is unlikely to be sustained because inflation is by far the most lagging indicator of the business cycle Notably, the Fed views this outcome as less desirable than failing on its price stability mandate, one of several reasons why we believe paradigm D, a.k.a. default via debasement, is a high probability outcome. To this point, New York Fed President John Williams, vice chair of the FOMC, gave his prepared remarks on Tuesday afternoon that were supportive of our view that greater coordination between the Fed and Treasury to counter the geopolitically driven supply-demand imbalance in the Treasury bond market is on the way. As we discussed throughout the Monetary Policy, Fiscal Policy, and Liquidity sections of our September 2026 macro scouting report a few weeks ago, we are increasingly of the view that the Fed is deliberately holding the policy rate in increasingly accommodated territory precisely to agitate the U.S. Treasury bond market. Now, why would they be doing that? Well, this short-term pain for long-term gain outcome would give Treasury Secretary Scott Besant, Fed Chair Kevin Walsh, and new Treasury Consultant David Zervos, who was long a big proponent of QE, the political air cover they need to usher in the Fed-Treasury Accord 2.0 and the coordinated policy intervention that it entails. Remember, the Fed does not have a dual mandate, contrary to popular narratives. The Fed has a tri-mandate. Moderate long-term interest rates are in the same sentence as the maximum employment rate of the Fed. limit and price stability mandates. So anyway, refer to our September 2026 macro scouting report and September 28 lead off morning notes for more details on this line of thinking. Elsewhere, the August PC report, final Q2 GDP data and final Q2 NIPA corporate profits and NIPA retained earnings data strongly supported our resilient U.S. economy, paradigm C, aka running hot, jobless recovery and productivity boom things. It's a lot of good news when you look out 12 to 18 months from now. So there's always a wrap up with the question from our community. This was titled VT. Will all the mid and small caps hurt or help over the long term? It seems like the recent rise in rates might be weighing down the mid and small caps and VT relative to SPX. How much of this will matter going forward? So that's unlikely to be the case. VT is the broad global equity market index. It's cap weighted, just like the S&P. What's really weighing down those stocks is the fact that we're having a backup in the U.S. dollar, a backup in term premium, a backup in interest rates. And those things typically weigh on. More cyclical factors like international stocks, other geographies, as well as small and mid caps. But it's not the small and mid caps that are weighing on the broad global equity market. It's the fact that international stocks are now starting to underperform the core parts of the U.S. equity market, the ones that are less economically sensitive to this backup in interest rates that are likely to weigh on earnings expectations on a go forward basis. But again, if we're right on our views with regards to the coordinated policy intervention that's likely you know, this continued tiptoeing towards paradigm D to solve the problem that is the geopolitically driven supply-demand imbalance in the treasury bond market, then it's very likely that 2027 could be pretty much the opposite of what we've seen in the last few weeks, which is a substantial outperformance of international stocks, small-cast mid-camps relative to the cap-weighted S&P. So just keep that in the back of your mind as we progress throughout Q4 and into Q1. So we'll wrap it up there. Darius Dahl here presenting our macro for Wednesday, September 30, 2026. Best of luck out there today. We'll catch you back here tomorrow. Cheers. Backslash disclaimer.