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Weekly Fixed Income Commentary: Treasury yields hold steady as U.S. virus cases rise further
Highlights
- Credit sectors delivered the strongest performance, led by high yield.
- The municipal market continued to grind richer.
- The global aggregate sector delivered positive total and relative returns, led by the U.S. and Pan-European region.
U.S. Treasury yields traded in a tight range and ended the week slightly lower.1Investors weighed concerns about the rising number of U.S. coronavirus cases versus optimism over a potential vaccine. The European Central Bank indicated it plans to purchase the full value of its pandemic emergency purchase program. Markets await further word from the U.S. Federal Reserve (Fed) when it meets next week.
Treasury yields tread water
Treasury yields traded in a fairly tight range last week, with yields across maturities declining by 2 basis points (bps) or less.1 The market continues to balance concerns over rising U.S. coronavirus cases with optimism over a vaccine.1
The European Central Bank (ECB) kept rates unchanged at its meeting on Wednesday. During the post-meeting press conference, ECB President Christine Lagarde asserted that, barring a significant upside surprise, the ECB plans to use the full €1.35 trillion pandemic emergency purchase program. The ECB has purchased €360 billion through the end of June. But similar to the U.S. asset purchase programs, its pace has slowed due to financial market stabilization.
All U.S. taxable sectors, except mortgage-backed securities, posted positive total returns last week.1 Credit sectors delivered the strongest performance, led by high yield corporates, as spreads declined.1 The high yield and investment grade credit sectors have returned more than 2% so far in July.1 All sectors except mortgage-backed securities also outperformed similar-duration Treasuries.1 The outperformance of the high yield sector was broad-based, with all sub-sectors except restaurants outperforming.1 Emerging markets debt also posted positive total returns and outperformed similar-duration Treasuries.1 The global aggregate sector delivered positive total and relative returns, led by the U.S. and the Pan-European region.1
All taxable sectors, except mortgage-backed securities, outperformed similar-duration Treasuries.
Municipal market continues to see positive flows
The municipal market continued to grind richer last week, while U.S. Treasuries remained range bound.1 Robust municipal new issue supply was priced to sell and well received.2 Fund flows were positive for the ninth consecutive week at $857 million.3 This week’s new issue supply is expected to be $7.7 billion ($3.2 billion taxable).2
Fixed income in general has a very good tone. The Fed signaled it will keep rates low throughout 2020, and nothing on the inflation front suggests that rates should rise. Municipal demand continues to outstrip the new issue supply expected throughout the summer. Thus, we expect rates in general – and municipals in particular – to remain lower for longer.
The Cities of Dallas and Fort Worth issued $395 million in revenue bonds for Dallas Fort Worth International Airport (rated A1/A).4 The deal was well received and traded at a slight premium in the secondary market. It reflects how investors are requiring more yield to compensate for the possible risks due to coronavirus. For example, the 10-year bonds were priced at a yield of 1.44%, which is substantially greater than risk-free rate of 10-year U.S. Treasury (0.6%) and AAA MMD bonds (0.8%).1
High yield municipal yields decreased by 12 bps on average last week, with the average credit spread standing at nearly 340 bps.1 High yield municipal fund flows accelerated for the tenth consecutive week of inflows.3 This week’s expected new issuance remains sparse, as economic uncertainty is impacting project financing in general.2 However, this week’s calendar is due to be headlined by a large $225 million refunding deal for Navistar and a $68 million deal for Renaissance Charter Schools in Florida, one of the country’s largest charter school networks.4
High yield corporates are the week's top performer, further trimming year-to-date losses
High yield corporate bonds led all fixed income sectors last week, turning in their best weekly performance since early June.1 Spreads tightened by 41 bps and fund inflows continued.1 Trading volumes were light given the summer calendar. After last week’s gains, the loss for the overall asset class now stands at just -1.70% this year – a remarkable recovery from late March, when high yield corporates were down nearly -20%.1 Within high yield, BB rated securities beat lower-quality (B and CCC) credits for the week and have turned positive for the year.1
Investment grade corporates delivered solid results for the third consecutive week.1 Their returns have been remarkably consistent during this stretch, rising approximately 0.70% each week.1 Corporate spreads narrowed by 7 bps last week, and yields fell to a record-low 1.98%.1 Market technicals were strong amid more Fed buying ($780 million), further inflows (+$4.5 billion) and muted new issuance (+$9.5 billion).2,3
Corporate spreads narrowed by 7 bps, and yields fell to a record-low 1.98%.
Emerging markets (EM) debt extended its winning streak to 12 weeks and 13 of the last 15.1 Sovereign bonds outperformed corporate and local-currency issues. Favorable fund flows (+$1.6 billion), tighter spreads (-7 bps) and optimistic headlines on a potential coronavirus vaccine helped mitigate risk-off sentiment driven by resurgent coronavirus cases.1,2 Late-week profit-taking tempered gains.
In focus: Tax filing extension affects the muni market
To relieve taxpayers impacted by business shutdowns in light of the coronavirus pandemic, the U.S. Treasury Department and IRS extended the deadline for filing federal income taxes from April 15 to July 15. Additionally, many states followed suit and extended their deadlines.
This three-month extension affected usual seasonal dynamics of the municipal bond market. The annual softness typically experienced in tax season is now behind us, and the market appears technically strong.
Municipal-to-Treasury ratios remain elevated above historical averages, drawing interest from crossover buyers. But as demand is increasing, supply is shrinking in light of bond redemptions. Historically, we see substantial bond redemptions from June through August, as heavy bond maturities and calls remove supply from the municipal bond market. Additionally, the amount of tax-exempt paper overall is decreasing. New issue supply is increasingly taxable, with taxable municipal issuance up 271% year over year.2
SIFMA, the most common measure of short-term tax-exempt rates, rose by 10 bps (to 21 bps) in response to increased demand for liquidity to make tax payments.1 However, we expect this rate to drop again. Inflows will likely continue, given the market’s recent strong performance and spread tightening.
1 Bloomberg L.P.
2 The Bond Buyer, 17 Jul 2020.
3 Lipper Fund Flows.
4 Market Insight, MMA Research, 15 Jul 2020.
Any reference to credit ratings refers to the highest rating given by one of the following national rating agencies: S&P, Moody’s or Fitch. Credit ratings are subject to change. AAA, AA, A and BBB are investment grade ratings; BB, B, CCC, CC, C and D are below-investment grade ratings.
Bloomberg Barclays Municipal Index covers the USD-denominated tax-exempt bond market. Bloomberg Barclays High Yield Municipal Index covers the USD-denominated, below investment grade tax-exempt bond market. S&P Short Duration Municipal Yield Index tracks the municipal bond market with maturities from 1 to 12 years. Bloomberg Barclays Taxable Municipal Bond Index is a rules-based, market-value-weighted index engineered for the long-term taxable bond market. Bloomberg Barclays U.S. Aggregate Bond Index covers the U.S. investment grade fixed rate bond market. Bloomberg Barclays U.S. Treasury Index includes public obligations of the U.S. Treasury. Bloomberg Barclays U.S. Government-Related Indexincludes debt guaranteed, owned and sponsored by the U.S. government; it does not include debt directly issued by the U.S. government. Bloomberg Barclays U.S. Corporate Index is a broad-based benchmark that measures the investment grade, fixed-rate, taxable corporate bond market. Bloomberg Barclays U.S. Mortgage-Backed Securities Index is the MBS component of the U.S. Aggregate index and includes the mortgage-backed pass-through securities of Ginnie Mae (GNMA), Fannie Mae (FNMA), and Freddie Mac (FHLMC). Bloomberg Barclays CMBS ERISA-Eligible Index is the CMBS component of the U.S. Aggregate index and includes CMBS investment grade securities that are ERISA eligible under the underwriter’s exemption. Bloomberg Barclays Asset-Backed Securities Index is the ABS component of the U.S. Aggregate index and includes credit and charge cards, autos and utilities. ICE BofA Merrill Lynch U.S. All Capital Securities Index is a subset of the BofA Merrill Lynch U.S. Corporate Index including all fixed-to-floating rate, perpetual callable and capital securities. Bloomberg Barclays High Yield 2% Issuer Capped Index measures the market of USD-denominated, non-investment grade bonds and limits each issue to 2% of the index. The Credit Suisse Leveraged Loan Index is designed to mirror the investable universe of the U.S. dollar-denominated leveraged loan market. Loans are added to the index if they qualify according to the following criteria: The highest Moody’s/S&P ratings are Ba1/BBB+, only funded term loans are included, and the tenor must be at least one year. Bloomberg Barclays Emerging Market USD Aggregate Index is a flagship hard currency Emerging Markets debt benchmark that includes USD denominated debt from sovereign, quasi-sovereign, and corporate EM issuers. Bloomberg Barclays Global Aggregate Unhedged Index measures the performance of global bonds. It includes government, securitized and corporate sectors and does not hedge currency. One basis point equals .01%, or 100 basis points equal 1%.
A word on risk
Investing involves risk; principal loss is possible. Debt or fixed income securities are subject to market risk, credit risk, interest rate risk, call risk, derivatives risk, dollar roll transaction risk and income risk. As interest rates rise, bond prices fall. Below investment grade or high yield debt securities are subject to liquidity risk and heightened credit risk. Preferred securities are subordinated to bonds and other debt instruments in a company’s capital structure and therefore are subject to greater credit risk. Foreign investments involve additional risks, including currency fluctuation, political and economic instability, lack of liquidity and differing legal and accounting standards. Asset-backed and mortgage-backed securities are subject to additional risks such as prepayment risk, liquidity risk, default risk and adverse economic developments. The value of convertible securities may decline in response to such factors as rising interest rates and fluctuations in the market price of the underlying securities. Senior loans are subject to loan settlement risk due to the lack of established settlement standards or remedies for failure to settle. These investments are subject to credit risk and potentially limited liquidity, as well as interest rate risk, currency risk, prepayment and extension risk, and inflation risk.
Investors should contact a tax advisor regarding the suitability of tax-exempt investments in their portfolio. If sold prior to maturity, municipal securities are subject to gain/losses based on the level of interest rates, market conditions and the credit quality of the issuer. Income may be subject to the alternative minimum tax (AMT) and/or state and local taxes, based on the state of residence. Income from municipal bonds held by a portfolio could be declared taxable because of unfavorable changes in tax laws, adverse interpretations by the Internal Revenue Service or state tax authorities, or noncompliant conduct of a bond issuer. It is important to review your investment objectives, risk tolerance and liquidity needs before choosing an investment style or manager.
This information represents the opinion of Nuveen, LLC and its investment specialists and is not intended to be a forecast of future events and or guarantee of any future result. Information was obtained from third party sources which we believe to be reliable but are not guaranteed as to their accuracy or completeness. There is no assurance that an investment will provide positive performance over any period of time.
The investment advisory services, strategies and expertise of TIAA Investments, a division of Nuveen, are provided by Teachers Advisors, LLC and TIAA-CREF Investment Management, LLC. Nuveen Asset Management, LLC, Symphony Asset Management LLC and NWQ Investment Management Company LLC are registered investment advisers and investment specialists of Nuveen, LLC.