Weekly Fixed Income Commentary (January 19, 2024)
Economic Commentary
- December industrial production rose 0.1%, slightly above the consensus of flat. Net revisions were -0.3%. Manufacturing output rose 0.1%, also slightly above the consensus, 0.0%. The small gain in manufacturing output is largely due to a 1.6% increase in auto production, following a 7.4% leap in November, after UAW strikes ended at the end of October. Manufacturing output ex-autos fell for the third straight month, by 0.1%, and the ISM manufacturing index signals further downside risks.
- December retail sales were stronger than expected, rising 0.6%, above the consensus, 0.4%. Sales ex-autos rose 0.4%, also above the consensus, 0.2%. Control group sales (which feed into GDP calculations) rose 0.8%, significantly above the 0.2% consensus expectation.
- The Atlanta Fed’s estimate for Q4 growth is now +2.391% as of this morning.
Our take: Much of the recent economic data is not evidencing a slowdown, yet. The consumer is still spending, but may be spending beyond their means. Fed governors are pushing back against market expectations for rate cuts as soon as March. We thought that March was a bit too soon and believe that the Fed would rather be late than early, even though rates at current levels are already restrictive as inflation has come down. Waiting until inflation conclusively has actually hit their target, and then proceeding slowly from there, is a recipe for an overcorrection and a harder landing than the near-unanimous goldilocks soft landing/no landing expectation prevailing in the markets today. Keeping positioning relatively neutral and nimble is prudent, ready to pounce on interest rate and economic volatility.
Corporate Bond Market Commentary
- S. High Yield tightened 12 bp last week to an OAS of +356 bp.
- On a total return basis, US HY rose +1% on broad-based positive performance from BBs (+1%), Bs (+1%) and CCCs (+0.7%). On a YTD basis, US HY is down 0.1%.
- HY funds saw $1.091 billion of inflows.
- US HY primary market activity picked up last week with $4.6 billion of total volume. Notable issuers included DirectTV, Hilton Grand Vacations, Antero Midstream, and Chobani. YTD issuance now totals $5.4 billion.
- IG spreads tightened 7bp to +102, the tightest level since January 2022. Total returns were +1.17%.
- IG inflows were robust at +$6.321 billion.
- IG new issue supply was $42.9 billion across 31 issuers, well ahead of the $30 billion estimates.
Our take: IG new issue supply is coming fast and furious, as we expected. Deals are attracting strong order books and pricing without much concession, and overall spreads are holding in well. In high yield, supply is not ramping up as quickly, and as a result, HY funds that had accumulated cash in anticipation of being able to put it to work in primary deals are having to chase some of the mediocre deals that are coming so far. As earnings season progresses, we expect more traditional borrowers to come to the market and new issue concessions to improve, and we are patiently awaiting some of those better entry points.
Municipal Bond Market Commentary
- For the week ending January 12, high grade tax-exempt municipal bond yields rose 9, 3, 1 and 1 bps at 2, 5, 10 and 30 years, underperforming US Treasuries across the curve with US Treasury yields falling by 24, 18, 11 and 3 bp at 2, 5, 10 and 30 years.
- AAA Muni/Treasury ratios cheapened by 5%, 3%, 2% and 1% at 2, 5, 10 and 30 years, ending the week at 64%, 60%, 60% and 84%. AA Muni/AA Corporate ratios were also higher across the curve by 5%, 3%, 1%% and 2% higher at 2, 5, 10 and 30 years, to end the week at 63%, 58%, 54% and 77% respectively.
- For the period ending January 10, municipal bond funds reported inflows of $38 million.
- The muni new issue calendar is expected to be about $6.63 billion this week.
Our take: The muni markets appear to be following the UST markets, albeit several days delayed. Though ratios rose this week, they remain rich across the curve and continue to be supported by negative net visible supply which Bloomberg shows to be -$14.2 billion, though the net supply is widely expected to turn positive early in the new year. The primary direction of the muni market will continue to be dictated by changes to the US Treasury curve, especially as inflation and related data feed into the market’s expectations of Fed rate cuts. Municipal bond yields remain at levels not seen for a decade until recently.
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