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Credit Insights

Near-Term Deflationary Headwinds in Consumer Products

Pricing pressures have expanded from commodity-oriented products to segments that typically exhibit greater brand loyalty.

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Credit spreads were generally unchanged last week, although they went out with a weak tone Friday afternoon. The markets sold off on Friday, as the nonfarm payrolls report came in below expectations. Treasury bonds rallied, and the 10-year Treasury bond ended the week at 2.82%, the lowest since April 2009. Considering that the S&P 500 has rallied 8.7% off of the recent lows at the beginning of July, and the yield on 10-year Treasury bonds has dropped 16 basis points over the same time period, the fixed-income and equity markets continue to make very different assumptions regarding the economy's overall direction.

Morningstar's Consumer Products team has identified a pattern of deflation occurring through both the consumer defensive and consumer cyclical sectors. Within the consumer defensive sector, the team noted that pricing pressures began in the most commodity-oriented products first, such as milk and meat, expanded into categories that typically exhibit greater brand loyalty such as cereals, and have recently affected the fabric care segment. Historically, fabric care has been able to dodge most pricing pressure during economic downturns, as it has high brand loyalty and few private label offerings. Category deflation in cyclical segments, such as apparel, began early in the recession and has yet to abate. These are indicators to us that the average consumer is highly discretionary in their purchase decisions, as these lower price points are not driving incremental volume.

David Sekera does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.