Weekly Fixed Income Commentary (November 7, 2024)
Economic Commentary
- Donald Trump won the presidential election, and Republicans are set to have a majority in the Senate. As of writing, the House is not yet settled but the chances of a Red sweep have increased.
- The ISM services headline index rose from 54.9 to 56.0, ahead of the 53.8 estimate. The prices paid component declined from 59.4 to 58.1. The ISM manufacturing index dipped to 46.5 in October, from 47.2, below the consensus, 47.6.
- The 30yr UST auction went surprisingly well, alleviating some of the fears of bond investors.
- Further examination of last week’s payrolls report suggests more underlying weakness, as employment outside leisure and hospitality was only 69k, half of the average increase over the last year. Additionally, the response rate was only 47%, well below recent trends, and downward revisions have been the norm as the additional responses come in later.
- Average hourly earnings rose 0.4%, likely reflecting the lower-paid workers displaced by the storm, which boosts the average of those still able to work. The year-on-year rate of hourly earnings growth ticked up to 4.0%.
- The Boeing strike probably knocked around 50,000 from payrolls last month and hurricanes around 30,000, although we may have more clarity following next week’s state-level employment data. That would imply an underlying increase in private payrolls well below 100,000, bolstering the case for continued Fed easing.
- The Federal Reserve cut interest rates another 25 basis points, as was widely expected, and gave no indication on December or any future pace of rate cuts.
Our take: The impact of the election has been the dominant driver of UST trading, and rightfully so. The potential impact of a red sweep could be significant. Mitigating this are the likelihood that a republican majority in both houses would be narrow, and we’re not quite sure exactly which policies may be prioritized, attempted, and eventually passed either by executive order or through congress. Rates have moved significantly higher since the first FOMC rate cut in mid-September. Where they go from here will be determined by both economic conditions and the impact of fiscal policy on deficits, inflation, and term premium demanded by bond investors to hold long dated treasuries. With all of this in mind, rates have risen to levels that are much more balanced in terms of risk and reward, and all-in yields are now more compelling, so adding a bit more to intermediate duration makes sense.
Corporate Bond Market Commentary
- IG spreads widened 1bp to +86bp and higher UST yields pushed IG total returns down -1.17%.
- Fund flows were +$3.2 billion.
- IG bond yields at ~5.25% are at their highest since July.
- New issuance this week is zero after $27.5 billion last week.
- HY spreads were 6bp tighter at +283bp and total returns were +0.05% on outsized spread compression and carry from CCCs (+1.04%) versus BBs (-0.12%) and Bs(-0.05%). CCCs are now up 17.30% year-to-date.
- New issuance was $3.69 billion.
- Fund outflows were $817 million.
Our take: Corporate bonds continue to be resilient, with further spread tightening and compression of lower rated credit into higher rated credit. This lower credit quality segment of the market correlates with equities, so this performance is not out of context with equity markets up 25+% year to date. The recent significant rise in interest rates makes the all-in yields on higher rated bonds more compelling; at the same time, lower rated credit will have to suffer the burden of these higher interest rates on their debt-heavy capital structures, and with spreads crunched in so tightly, scope for significant future performance seems more limited. Shifting some allocation up in quality seems prudent, while being ready to rotate back into single Bs or CCCs on a correction.
Municipal Bond Market Commentary
- US Treasury and muni yields continued to move higher for the week ending November 1. AAA muni yields were up 3, 4, 3, and 1 bp at 2, 5, 10 and 30 years while US Treasury yields were up 10, 16, 14, and 8 bp at 2, 5, 10 and 30 years.
- Muni bonds outperformed Treasuries, moving AAA Muni/Treasury ratios lower by 1% at 2 and 5 years and 2% at 10 years and 30 years to end the week at 64%, 65%, 69% and 84%. AA Muni/AA Corporate ratios were also down, 1% at 2 and 10 years, 2% at 5 years, and unchanged at 30 years to end the week at 65%, 63%, 66% and 78% at 2, 5, 10 and 30 years.
- For the period ending October 30 municipal bond funds had inflows of $658 million, the 18th consecutive week of reported inflows.
- With the election and FOMC there is a very light new issuance calendar, expected to be less than $1 billion.
Our take: Markets continue to watch economic numbers, especially those related to employment and inflation, trying to divine signs of economic slowdown and the timing of future Fed rate cuts now that the easing cycle has begun. On the heels of last week’s weaker than expected nonfarm payroll numbers, the election and November FOMC meeting are clearly the focus of the week. Analysts are predicting municipal bonds will likely outperform US Treasuries for the remainder of the year since the supply/demand technical are expected to flip to net demand with lower issuance, increased reinvestment dollars, and strong recent fund flows.
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