August 2022 | Fixed Income Markets Recap
Fixed income markets reversed the July rally as yields rose and prices fell across all maturities. Most segments of the bond market peaked on the first trading day of August. U.S. Treasury maturities in the 3- to 6-year range saw a substantial increase in yields of approximately 65 basis points. The curve flattened as the Fed raised rates in late July by 75 basis points, with the market impact of that move reaching well into August. This was the 4th increase in the Fed Funds rate in 2022, with the last two being 75 basis points each. Investment grade credit remained firm in August while high yield credit spreads widened measurably over recession concerns. International bond market returns were worse than U.S. bond markets in August as concerted efforts by other major central banks to raise their rates combined with a firmer dollar pushed prices lower.
he Treasury yield curve inversion between 2- and 10-year notes depicted in the accompanying graph ended August at -34 basis points, completing the 8th consecutive week with 2-year yields above 10-year yields. For historical context, yield curve inversions are rare, occurring in 13.5% of all weekly observations since June 1976, as illustrated in the graph below. Excluding the most recent 8-week period the yield curve has been inverted just 4.7% of the time over the previous 20 years. The relationship between short and long rates is driven by monetary policy set by the Federal Reserve at the short end and market expectations about the path of the economy and inflation at the long end. Assuming inflation will begin to decline later this year the yield curve and will only revert to a normal upward sloping shape after the Fed begins to lower rates. The tone of the guidance from several FOMC committee members demonstrates a clear commitment to raising rates and holding at a high level until there is compelling evidence of falling prices. Prior to the recent guidance, the market anticipated the Fed Funds rate to fall in the 1st half of 2023, an expectation now pushed into the 2nd half of next year or later into 2024. These statements have overshadowed the recent data on improvement in the supply chain and falling input prices, both of which are critical to a sustained decline in inflation.
The 2nd accompanying chart shows the prices paid index of the ISM has moved sharply lower since March without an equally sized decline in the New Orders component of the manufacturing ISM. Although this is scant, a thin reed of a “softish landing” in the economy, it is an encouraging data point which could mark the beginning of accumulating evidence the worst of the inflationary pressures are behind us.
The Treasury yield curve inversion between 2- and 10-year notes ended August at -34 basis points completing the 8th consecutive week with 2-year yields above 10-year yields. For historical context, yield curve inversions are rare, occurring in 13.5% of all weekly observations since June 1976, as illustrated in the graph below. In addition, excluding the most recent 8-week period, the yield curve has been inverted just 4.7% of the time over the previous 20 years. The relationship between short and long rates is driven by monetary policy set by the Federal Reserve and will only regain a normal upward-sloping shape after the Fed begins to lower rates. Language from several Fed officials on the FOMC committee showed a clear intent on raising rates and holding at a level for a period until there was compelling evidence of falling prices. Prior to these statements, the market anticipated the Fed Funds rate to fall in the 1st half of 2023, an expectation now pushed into the 2nd half of next year or later into 2024. These statements have obscured recent data on improvement in the supply chain and falling input prices which is critical to a sustained drop in inflation. The 2nd accompanying chart shows the prices paid index of the ISM has moved sharply lower since March without an equally sized decline in the New Orders component of the manufacturing ISM. Although this is scant, a thin reed of a “softish landing” in the economy, it is an encouraging data point which could mark the beginning of accumulating evidence the worst of the inflationary pressures are behind us.
Notes & Disclosures
Index Returns – all shown in US dollars
All returns shown trailing 8/31/2022 for the period indicated. “YTD” refers to the total return as of prior-year end, while the other returns are annualized. 3-month and annualized returns are shown for:
- The Barclay’s US Aggregate Index, a broad-based unmanaged bond index that is generally considered to be representative of the performance of the investment grade, US dollar-denominated, fixed-rate taxable bond market.
- The ICE BofAML Emerging Markets Sovereign Bond Index is a subset of The BofA Merrill Lynch World Sovereign Bond Index excluding all securities with a country of risk that is a member of the FX G10, all Western European countries, and territories of the U.S. and Western European countries. The FX G10 includes all Euro members, the U.S., Japan, the U.K., Canada, Australia, New Zealand, Switzerland, Norway, and Sweden.
- The Bloomberg Barclays Global Aggregate Index, which measures global investment grade debt from twenty-four local currency markets. This multi-currency benchmark includes treasury, government-related, corporate and securitized fixed-rate bonds from both developed and emerging markets issuers.
- The S&P Global Developed Sovereign Bond index includes local-currency denominated debt publicly issued by governments in their domestic markets.
- S&P Eurozone Developed Sovereign Bond – seeks to measure the performance of Eurozone government bonds.
- The S&P Pan-Europe Developed Sovereign Bond Index is a comprehensive, market-value-weighted index designed to track the performance of local currency-denominated securities publicly issued by Denmark, Norway, Sweden, Switzerland, the U.K. and developed countries in the Eurozone for their domestic markets.
- ICE BofAML Emerging Markets Sovereign Bond – tracks the performance of US dollar (USD) and Euro denominated emerging markets non-sovereign debt publicly issued within the major domestic and Eurobond markets.
- The Bloomberg Barclay’s US Corporate Bond Index (AA), which measures the investment grade, fixed-rate, taxable corporate bond market. It includes USD denominated securities publicly issued by US and non-US industrial, utility and financial issuers.
- The Bloomberg Barclay’s US Corporate High Yield Index, which covers the USD-denominated, non-investment grade, fixed-rate, taxable corporate bond market.
- Bloomberg Barclay’s Global Aggregate Securitized- US Mortgage-Backed Securities, which is a component of the Bloomberg Barclay’s US Aggregate Index and measures investment grade mortgage backed pass-through securities of GNMA, FNMA, and FHLMC.
- Bloomberg Barclay’s Global Aggregate Securitized- US Asset-Backed Securities, which is a component of the Bloomberg Barclay’s US Aggregate Index and includes the pass-throughs, bullets, and controlled amortization structures of only the senior class of ABS issues.
- The Blomberg Barclay’s US Floating Rate Notes (<5 Yr) Index, measures the performance of U.S dollar-dominated, investment grade floating rate notes with maturities less than 5 years.
- The Bloomberg Barclay’s Municipal Bond Index, which measures investment grade, tax-exempt bonds with a maturity of at least one year.
- The S&P/ LSTA Leveraged Loan Index is designed to reflect the performance of the largest facilities in the leveraged loan market.
An index is a portfolio of specific securities, the performance of which is often used as a benchmark in judging the relative performance to certain asset classes. Index performance used throughout is intended to illustrate historical market trends and performance. Indexes are managed and do not incur investment management fees. An investor is unable to invest in an index. Their performance does not reflect the expenses associated with the management of an actual portfolio. No strategy assures success or protects against loss. There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk. All investing involves risk including loss of principal. Investing in stock includes numerous specific risks including: the fluctuation of dividend, loss of principal, and potential liquidity of the investment in a falling market. Past performance is no guarantee of future results.
Key Rates are shown for US Treasuries and London Interbank Offered Rate (LIBOR), the interest rate at which banks offer to lend funds (wholesale money) to one another in the international interbank market. LIBOR is a key benchmark rate that reflects how much it costs banks to borrow from each other. “Current” refers to the percentage rate as of 6/30/2018, while the rates of change are stated in basis points.
Credit Spreads shown comprise the Option-Adjusted Spread of the indices indicated, versus the US 10-Year Treasury Yield. “Current” refers to the spread as of 6/30/2018, while the rates of change are stated in basis points.
Key Indicators correspond to various macro-economic and rate-related data points that we consider impactful to fixed income markets.
- 2s10s (bps)/ 10 Yr vs 2 Yr Treasury Spread, which measures the difference between yields on 10-Year Treasury Constant Maturity Securities and 2-Year Treasury Constant Maturity Securities.
- West Texas Intermediate, which is an oil benchmark and the underlying asset in the New York Mercantile Exchange’s oil futures contract.
- Core Consumer Price Index, which measures the consumer price index excluding food and energy prices. Shown as of the prior month-end.
- Breakeven Inflation: 5 Yr %/ bps, which uses a moving 30-day average of the 5-Year Treasury Constant Maturity Securities and 5-Year Treasury Inflation–Indexed Constant Maturity Securities to derive expected inflation.
- Breakeven Inflation: 10 Yr %/ bps, which uses a moving 30-day average of the 10-Year Treasury Constant Maturity Securities and 10-Year Treasury Inflation–Indexed Constant Maturity Securities to derive expected inflation.
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