Weekly Fixed Income Commentary: Economic data drive Treasury yields higher
Weekly fixed income update highlights
- Treasuries, agencies, investment grade and high yield corporates, taxable munis, preferreds and emerging markets all had negative total returns.
- Municipal bond yields rose slightly on the long end. New issue supply was $8.1B with outflows of -$798M. This week’s new issuance should be $7.0B.
U.S. Treasury yields rose once again, as U.S. economic growth remains strong. U.S. Federal Reserve officials indicated that monetary policy is sufficiently restrictive, while emphasizing the need to monitor incoming data.
Watchlist
- 10-year U.S. Treasury yields increased, but we anticipate modest declines over the rest of 2023.
- Spread assets, with the exception of investment grade corporates and preferreds, underperformed Treasuries.
- Increased seasonal supply should provide an attractive entry point for municipal bonds.
Investment views
“Higher for longer” rates remains as a theme, as the Fed battles to control inflation. Higher interest rates are likely to cause additional volatility.
The underlying growth outlook remains healthy thanks to strong consumer balance sheets and solid levels of business investment. This combination should keep corporate defaults low.
Treasury yields are likely to fall slightly this year, and we expect the 10-year Treasury yield to end 2023 around 3.75%.
We favor selectively taking on risk in this environment of attractive prices and yields. Credit selection is key as we search for bonds with favorable income and solid fundamentals.
Key risks
- Inflation fails to moderate as expected, weighing on asset prices.
- Policymakers tighten too rapidly, undermining the global economic expansion.
- Geopolitical flare-ups: China, Russia, Turkey, Iran.
Emerging markets show mixed performance
U.S. Treasury yields rose last week, led by the short end of the curve. 2- to 5-year yields rose 11 basis points (bps) and the 10-year yield rose by 9 bps, while the 30-year yield rose only 4 bps. U.S. economic data were mostly stronger than expected. The ISM Services Index exceeded expectations at 54.5. Underlying data saw broad strength: prices paid, employment and new orders all rose month-over-month and remain in expansionary territory. A number of U.S. Federal Reserve officials spoke last week and indicated that monetary policy is sufficiently restrictive but emphasized the need to continue monitoring incoming data. The market is currently pricing in a 50% chance of another hike in 2023.
Investment grade corporates declined by -0.25% for the week. The asset class outperformed similar-duration Treasuries by 7 bps, as spreads were flat. The outperformance is notable considering the high level of issuance last week, totaling $53 billion. On average, order books were more than three times over-subscribed. Inflows totaled $1.6 billion, driven by mutual funds.
High yield corporates dropped by -0.32% but underperformed similar-duration Treasuries by -11 bps. Senior loans returned 0.35%, making it the only asset class to post positive total returns for the week. The new issuance calendar was very quiet. Only $800 million in high yield corporate new issues came to market, and no senior loan issues. High yield and senior loan inflows totaled $252 million and $97 million, respectively. Unlike the investment grade corporate market, flows were driven by exchange-traded funds.
Emerging markets declined, returning -0.34% for the week and underperforming similar-duration Treasuries by -3 bps. Performance was mixed, as sovereign spreads widened by 8 bps while corporates tightened by -6 bps. High yield EM strongly outperformed its investment grade counterparts within both sovereigns and corporates. Hard currency flows eased from the prior week to -$484 million, but local currency outflows rose to -$597 million. China continued to be in focus, as the market digests recent People’s Bank of China stimulative measures focused on propping up the beleaguered property sector.
Municipal taxable-equivalent yields garner investors' attention
Municipal bond yields rose slightly on the long end of the curve last week. New issuance was priced to sell, yet some deals saw balances remaining. Fund flows were negative yet again. This week’s new issue calendar will need to be priced to sell to pique investor interest.
The market is navigating opposing forces: The U.S. economy remains strong and inflation is declining. The Fed maintains it will continue raising short-term rates to bring inflation under control for the long term. We remain constructive on fixed income given the Fed’s vigilant resolve.
The municipal market appears alive and well. Trading is orderly and investors are seeing elevated tax-exempt yields as a buying opportunity. We see value in the both the short and long ends of the yield curve. Institutional investors are adjusting portfolios accordingly. Individual investors are active also, snapping up short-term bonds at 3%, intermediate bonds at 4% and long-term bonds at 5%. These yields are attractive on their own, and even more compelling on a taxable-equivalent basis.
The state of California issued $2.6 billion general obligation bonds (rated Aa2/ AA-). Separate order periods were set up for individual investors and retail investors. The deal was well received and underwriters lowered yields across the curve upon final pricing.
High yield municipal bond yields were materially less volatile than high grades in August, increasing 20 bps versus 30 bps, respectively. Yields have contracted in September as investors appear to respond to average absolute yields near 6%, levels not seen since the end of the Great Financial Crisis. With supply constrained, the window of opportunity may close quickly if fund flows return to the market. Therefore, investors may underestimate the reinvestment risk if they wait to reallocate to current high yield muni valuations.
Tuesday was the sixth busiest day ever and the single busiest since March 2020 for investment grade corporate issuance.
In focus: IG corporate issuance surges
After a particularly quiet August, the investment grade corporate new issue calendar picked up steam last week. Tuesday was the sixth busiest day on record and the single busiest since March 2020. Total issuance for the week exceeded $50 billion.
The investment grade corporate market is one of the few sectors that allows U.S. and international investors to add securities maturing in 20 to 30 years, which typically offer healthier yields than their shorterdated counterparts. However, last week’s market action was focused primarily on the shorter end of the yield curve. With 30-year Treasury yields at their highest level in more than a decade (4.34% as of 08 September), issuers were reluctant to lock in elevated funding costs. Instead, they opted for shorter-duration debt that they hope to refinance at lower rates in a few years.
This trend has been prevalent throughout 2023. Year-to-date issuance of 25-year and longer maturities has been 26% lower than the 5-year average, which excludes 2020 given the record issuance driven by Covid-related concerns. The lack of long-duration issuance has provided a strong technical backdrop for the longer-maturity segment of the investment grade corporate curve.
The high level of issuance was easily absorbed by investors, as investment grade spreads held steady at 120 basis points as of 08 September. Deals were oversubscribed with reasonable new issuance concessions.
Performance: Bloomberg L.P.
Issuance: The Bond Buyer, 08 Sep 2023.
Fund flows: Lipper.
New deals: Market Insight, MMA Research, 06 Sep 2023.
Any reference to credit ratings refers to the highest rating given by one of the following national rating agencies: S&P, Moody’s or Fitch. Credit ratings are subject to change. AAA, AA, A and BBB are investment grade ratings; BB, B, CCC, CC, C and D are below-investment grade ratings.
Representative indexes: municipal: Bloomberg Municipal Index; high yield municipal: Bloomberg High Yield Municipal Index; short duration high yield municipal: S&P Short Duration Municipal Yield Index; taxable municipal: Bloomberg Taxable Municipal Bond Index; U.S. aggregate bond: Bloomberg U.S. Aggregate Bond Index; U.S. Treasury: Bloomberg U.S. Treasury Index; U.S. government related: Bloomberg U.S. Government-Related Index; U.S. corporate investment grade: Bloomberg U.S. Corporate Index; U.S. mortgage-backed securities; Bloomberg U.S. Mortgage-Backed Securities Index; U.S. commercial mortgage-backed securities: Bloomberg CMBS ERISA-Eligible Index; U.S. asset-backed securities: Bloomberg Asset-Backed Securities Index; preferred securities: ICE BofA U.S. All Capital Securities Index; high yield 2% issuer capped: Bloomberg High Yield 2% Issuer Capped Index; senior loans: Credit Suisse Leveraged Loan Index; global emerging markets: Bloomberg Emerging Market USD Aggregate Index; global aggregate: Bloomberg Global Aggregate Unhedged Index.
This material is not intended to be a recommendation or investment advice, does not constitute a solicitation buy, sell or hold a security or an investment strategy, and is not provided in a fiduciary capacity. The information provided does not take into account the specific objectives or circumstances of any particular investor, or suggest any specific course of action. Investment decisions should be made based on an investor’s objectives and circumstances and in consultation with his or her financial professionals.
The views and opinions expressed are for informational and educational purposes only as of the date of production/writing and may change without notice at any time based on numerous factors, such as market or other conditions, legal and regulatory developments, additional risks and uncertainties and may not come to pass. This material may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections, forecasts, estimates of market returns, and proposed or expected portfolio composition. Any changes to assumptions that may have been made in preparing this material could have a material impact on the information presented herein by way of example. Performance data shown represents past performance and does not predict or guarantee future results. Investing involves risk; principal loss is possible.
All information has been obtained from sources believed to be reliable, but its accuracy is not guaranteed. There is no representation or warranty as to the current accuracy, reliability or completeness of, nor liability for, decisions based on such information and it should not be relied on as such. For term definitions and index descriptions, please access the glossary on nuveen.com. Please note, it is not possible to invest directly in an index.
Important information on risk
Investing involves risk; principal loss is possible. Debt or fixed income securities are subject to market risk, credit risk, interest rate risk, call risk, derivatives risk, dollar roll transaction risk and income risk. As interest rates rise, bond prices fall. Below investment grade or high yield debt securities are subject to liquidity risk and heightened credit risk. Preferred securities are subordinated to bonds and other debt instruments in a company’s capital structure and therefore are subject to greater credit risk. Foreign investments involve additional risks, including currency fluctuation, political and economic instability, lack of liquidity and differing legal and accounting standards. Asset-backed and mortgage-backed securities are subject to additional risks such as prepayment risk, liquidity risk, default risk and adverse economic developments. The value of convertible securities may decline in response to such factors as rising interest rates and fluctuations in the market price of the underlying securities. Senior loans are subject to loan settlement risk due to the lack of established settlement standards or remedies for failure to settle. These investments are subject to credit risk and potentially limited liquidity, as well as interest rate risk, currency risk, prepayment and extension risk, and inflation risk.
Investors should contact a tax advisor regarding the suitability of tax-exempt investments in their portfolio. If sold prior to maturity, municipal securities are subject to gain/losses based on the level of interest rates, market conditions and the credit quality of the issuer. Income may be subject to the alternative minimum tax (AMT) and/or state and local taxes, based on the state of residence. Income from municipal bonds held by a portfolio could be declared taxable because of unfavorable changes in tax laws, adverse interpretations by the Internal Revenue Service or state tax authorities, or noncompliant conduct of a bond issuer. It is important to review your investment objectives, risk tolerance and liquidity needs before choosing an investment style or manager.
Nuveen, LLC provides investment solutions through its investment specialists.
This information does not constitute investment research as defined under MiFID.
Weekly Fixed Income Commentary: Treasury yields rise as the Fed holds steady
U.S. Treasury yields rose again on strong inflation data. The U.S. Federal Reserve kept interest rates unchanged as expected, but the guidance for future policy was more hawkish than anticipated.
Weekly Fixed Income Commentary: Treasury yields rise again on stronger inflation data
U.S. Treasury yields rose again after U.S. consumer price inflation surprised marginally to the upside. The European Central Bank (ECB) delivered a dovish hike last week, and all eyes are on the U.S. Federal Reserve this week.
Weekly Fixed Income Commentary: Treasury yields rise as the Fed leans hawkish
U.S. Treasury yields rose again as U.S. economic growth remains strong and U.S. Federal Reserve Chair Powell delivered hawkish comments at the Jackson Hole conference.