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Weekly Investment Commentary: Markets hang on as summer rumbles along
Bottom line up top:
- Markets aren’t just going through the motions. Extreme thrill ride enthusiasts might beg to differ, but for risk assets, especially U.S. equities, this summer’s market action has proved to be more “coaster” than coasting. That’s a notable change from this past spring: In the eight weeks leading up to June, the S&P 500 Index recorded just one weekly move of 1% or more in either direction. But since then, that smooth ride has gotten bumpier, with the index making moves of that scope in eight of the past 10 weeks.
- More ups than downs. Investor optimism has climbed amid a steady stream of data supporting the disinflationary trends of 2023. Last week’s Consumer Price Index (CPI) report for July was the most recent highlight, confirming a welcome year-over-year deceleration in shelter costs, one of inflation’s stickiest components, to the lowest rate of increase since August 2022. And while gasoline prices jumped 5% from June to July, the cost of rent and used car prices continued to ease. Good news on inflation, combined with healthy consumer balance sheets and rising business confidence, suggest there could still be a soft landing at the end of this ride. In fact, the latest NFIB Small Business Optimism Index showed that “interest rates” and “poor sales” ranked among the least of small-business owners’ concerns (Figure 1).
- The Fitch downgrade isn’t a scream-worthy plunge. While any lowered assessment of the U.S. government’s creditworthiness by a major ratings agency should be taken seriously, Fitch’s action need not cause undue alarm. Government debt and fiscal responsibility may be a perennial topic of debate for pundits and politicians, but in our view, monetary policy is a more important and impactful driver of financial markets. Although U.S. equities have been more volatile and U.S. Treasury yields have moved higher since the downgrade, resilient economic growth and deep, liquid capital markets continue to underpin the U.S. government’s ability to meet its debt obligations. This should ultimately inspire more confidence than consternation.
“Good news on inflation, combined with healthy consumer balance sheets and rising business confidence, suggest there could still be a soft landing at the end of this ride.”
Portfolio considerations
Demand despite downgrade should remain strong. We don’t think the U.S. will struggle to find buyers for Treasury securities, which could cause yields to rise. U.S. Treasuries still represent the world’s largest, most liquid core fixed income market. Nor do we expect the Fitch decision to prompt the four largest holders of U.S. government debt, listed below, to alter their rationale for holding these securities:
- The U.S. Federal Reserve is under no obligation to adjust its holdings based on credit ratings.
- U.S. banks hold Treasuries to satisfy regulatory capital requirements and now must meet higher minimum levels following the collapse of several regional banks earlier this year.
- Non-U.S. corporations often purchase Treasuries with proceeds generated from doing business with U.S. customers, and we anticipate they’ll continue to do so.
- Private investors will likely maintain their appetite for Treasuries, particularly as a safe-haven asset during times of market stress.
Still giving credit its due. The underlying growth outlook for the U.S. economy remains positive, thanks to financially healthy consumers and solid levels of business investment — a combination that should keep corporate defaults low. These sound fundamentals, along with attractive yields, are why we continue to favor credit sector exposure across taxable fixed income. We are focused specifically on credits with durable free cash flow and solid balance sheets in high yield corporates, senior loans, emerging markets debt and preferred securities. Mid-quality segments (rated BBB and BB) are the most compelling.
Munis maintain their fundamental yield appeal. Municipal bonds — such as those that finance infrastructure projects — are issued and funded at the local, not federal, level. Since they have no connection to the U.S. government, their creditworthiness and demand/supply dynamics shouldn’t be affected by the Fitch downgrade. In the municipal space, we especially like credit exposure and extending duration. The AAA municipal curve on a taxable-equivalent yield (TEY) basis is steeper than the U.S. Treasury curve. We believe this makes the case for longer-duration, higher-yielding exposure (Figure 2).
“In the municipal space, we especially like credit exposure and extending duration.”
Nuveen’s Global Investment Committee (GIC) brings together the most senior investors from across our platform of core and specialist capabilities, including all public and private markets.
Regular meetings of the GIC lead to published outlooks that offer:
- macro and asset class views that gain consensus among our investors
- insights from thematic “deep dive” discussions by the GIC and guest experts (markets, risk, geopolitics, demographics, etc.)
- guidance on how to turn our insights into action via regular commentary and communications
Endnotes
Sources
All market and economic data from Bloomberg, FactSet and Morningstar.
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