Weekly Fixed Income Commentary (April 25, 2024)
Economic Commentary
- S&P Global preliminary March PMIs were significantly weaker than expected. Both manufacturing and service indices were expected to rise to 52.0. Instead, manufacturing fell from 51.9 to 49.9, while services fell from 51.7 to 50.9.
- February TIC data showed foreign investors bought $89 billion of long-term USTs, the most since April 2023.
- Mortage rates climbed to 7.24% last week, which will continue to chill the housing market.
- Durable goods orders rose 2.6% in March, a tenth above the 2.5% consensus forecast, but a February downward revision makes that number slightly weaker than expected.
- First quarter GDP rose just 1.6%, well below estimates, but trade deducted 0.86% and inventories deducted 0.35%, so the underlying momentum of the economy is still solid and above trend.
- The PCE deflator rose 3.4% and the core PCE rose 3.7%.
Our take: Recent economic data has done nothing to quell concerns that the economy is too hot, and the Fed botched the cycle by prematurely signaling a pivot. Financial conditions became way too loose, and the economy reaccelerated. Even with yields rising significantly on the back of recent data and Powell’s mild backtracking last week, more will need to be done. Next week’s FOMC meeting is the next opportunity to tap the brakes, and Powell should do it. The hopes of a no-landing scenario were a pipe dream, and now the Fed will have to hit the brakes harder; unfortunately, this increases the likelihood of a harder landing. Starting to add more duration here makes sense, especially if the yield curve is going to invert further.
Corporate Bond Market Commentary
- IG spreads widened 2bp to +94 while higher UST yields pushed IG total returns down -0.67%.
- New issue supply was $31.5 billion, led by banks after they reported earnings. Order books averaged 4.0x oversubscribed and NICs remained consistent in the mid-to-low single digits.
- Fund flows reversed to a -$442 million outflow.
- HY spreads widened 12bps to +337 and total returns were -0.56%, driven by CCCs (-1.02%), Bs (-0.48%) and BBs (-0.47%).
- New issue supply was $8.62 billion, bringing YTD issuance to $107.7 billion.
- Fund flows were -$2.33 billion, the third consecutive week of outflows above $1 billion.
Our take: Rate stability and a very light new issue calendar started to allow credit markets to recover from last week’s tumble, until economic data abroad and GDP/PCE data in the US pushed rates higher again. Yields are getting to levels where adding more high-quality bonds makes sense, and we are cautiously deploying a bit of our significant dry powder accordingly. However, given that the Fed will likely have to brake harder this time around to slow the economy, chances for a harder landing will increase. Therefore, continuing to move portfolios up in quality is also prudent.
Municipal Bond Market Commentary
- For the week ending April 19, yields continued their upward trajectory with AAA tax-exempt municipal bond yields rising 5, 6, 6, and 7 bps at 2, 5, 10 and 30 years, outperforming US Treasuries across the curve. US Treasury yields were up 9, 11, 10 and 8 bps at 2, 5, 10 and 30 years.
- AAA Muni/Treasury ratios were 1% lower at 2 years and unchanged across the remainder of the curve, ending the week at 64%, 59%, 59% and 84% at 2, 5, 10 and 30 years. AA Muni/AA Corporate ratios were unchanged across the yield curve to end the week at 64%, 58%, 56% and 76% respectively.
- For the weekly period ending April 17, municipal bond open end funds reported outflows of $658 million while ETFs reported outflows of $815 million.
- The muni new issue calendar is expected to be $13.9 billion this week.
Our take: US Treasury and municipal bond yields continued higher based on continuing indications of persistent inflation pushing the Federal Reserve easing cycle expectations further out. The timeline for the Federal Reserve to begin cutting Fed Funds rates has now been pushed out to the December FOMC meeting. Municipal bonds remain rich relative to US Treasuries, and a larger new issue calendar will put upward pressure on ratios and yields if fund flows don’t turn positive.
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