Weekly Fixed Income Commentary (November 2, 2023)
Economic Commentary
- Personal income rose 0.3% — which means it did not rise at all when adjusted for inflation. The saving rate fell from 4.0% to 3.4%.
- Headline PCE inflation rose 0.4% in September, a tenth above the 0.3% consensus, for a 3.4% year-on-year increase. Core PCE inflation rose 0.3%, in line with the consensus expectation, for a 3.7% year-on-year increase. The PCE supercore rose 0.4% in September, even more worrisome.
- Treasury announced yesterday an expectation to borrow $776 billion this quarter in privately held net marketable debt, $76 billion lower than the estimate announced in July. Most analysts had expected a number closer to $800 billion. The smaller estimate is largely due to projections of higher receipts somewhat offset by higher outlays.
- Q3 headline Employment Cost Index accelerated from 1.0% in Q2 to 1.1% in Q3, but the more-important “wages and salaries for private industry workers excluding incentive paid compensation” grew only 0.9%. Most of the headline increase came from faster compensation growth for government employees.
- The October ISM Manufacturing index fell from 49.0 to 46.7, more than two points below the 49.0 consensus. There was broad weakness across the survey, which showed slowing demand, falling employment, and lower production in the manufacturing sector last month.
- The FOMC kept interest rates steady, as expected. The statement and press conference were largely uneventful.
- Eurozone CPI rose 2.9% year-on-year in October, the least in two years. At the same time, the bloc reported a 0.1% drop in Q3 GDP. European economies are clearly slowing.
Our take: Economic data is mixed, which is expected at an inflection point in the cycle. The Treasury’s decision to moderate longer term auction sizes is an important acknowledgement that the significant rise in longer-term interest rates is a concern, and this could mark the turning point in halting runaway longer-term yields. It’s time to start to move some of the enormous sums in money market funds into some duration to lock in these rarefied yields and take advantage of an eventual move lower in rates.
Corporate Bond Market Commentary
- US High Yield widened 1 bp last week to an OAS of 453 bp. On a total return basis, US HY rose +0.4% on outperformance for BBs (+0.5%) versus Bs (+0.4%) and CCCs (-0.3%).
- CCCs were down another -0.38% yesterday vs BBs finishing up +0.42% on the day, capping off a crazy month of return differential between the two segments totaling 227bp (Oct monthly losses: CCCs -3.41% MTD vs BBs -0.59% MTD).
- US HY primary market activity was modest last week, with new issue volume totaling ~$2 billion. Fund outflows were $942 million.
- Ford got upgraded by S&P, making it fully IG from an index perspective and the largest rising star ever. Ford went into the Investment Grade indices at month-end October, which removes go into both the Bloomberg and JULI indices this month-end, which removes $67 billion from the HY bond market in a significant boost to BB bond technicals.
- US IG widened 2bp to +131bp and total returns were +0.77%. Only $8.3 billion of new bonds were issued last week, and fund outflows were $1.79 billion.
- Earnings from investment-grade companies have beaten consensus analyst forecasts by an average of 7% so far this earnings period, according to Bank of America.
Our take: The dispersion in performance we have been anticipating for a while is starting to show up. BBs are recently outperforming CCCs by a significant amount, and bad news on individual companies is punishing bond performance. We expect this to continue to accelerate, which underscores our recommendation and positioning for up in quality – BBBs, BBs and select strong Bs – to ensure borrowers are recession resilient and to take advantage of duration as interest rates stabilize, and eventually head lower.
Municipal Bond Market Commentary
- For the week ending October 27, 2023, high grade tax-exempt municipal bonds yields were flat at 2 and 5 years and rose 1 and 2 bps at 10, and 30 years, underperforming US Treasuries by 7, 10, 9 and 8 bps at 2, 5, 10, and 30 years.
- AAA Muni/Treasury ratios rose 1, 2, 1, and 2 percent at 2, 5, 10, and 30 years, ending the week at 75%, 75%, 75% and 93%. AA Muni/AA Corporate ratios were unchanged at 2 and 10 years, up 1% at 5 years and up 2% at 30 years to end the week at 71%, 70%, 68% and 84% respectively.
- For the period ending October 25, municipal bond funds reported outflows of $935 million, with muni ETF inflows of $236 million and open-end mutual fund outflows of $1.2 billion.
- The new issue muni calendar is estimated to be $9.8 billion.
Our take: The US Treasury market has traded sideways the last couple of weeks, and this may be an opportune time to buy high grade muni bonds. It remains the case that the greatest impact on the muni market continues to be changes in the US Treasury curve as the Fed tries to navigate the economy to the 2% target inflation rate without throwing the economy into recession, but the negative seasonal supply technical should be largely abated, the Fed should be near (or even beyond) the last tightening of this cycle, and yields are at levels not seen since the Great Financial Crisis.
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