A transition in Fixed Income Markets

Khalid Ataullah, Senior Credit Portfolio Manager of Plenisfer Investments SGR

Fixed income markets are now going through a key transition. 

There’s a tug-o-war between two forces:

1)Major central banks globally (Fed, ECB, BoE etc.) are ‘at’ or ‘close to’ peak policy rates and so the rate hiking cycle is effectively done i.e. another 25 bps on a 4% to 5% base rate, doesn’t materially change the cost of money in the global economy.

2)Inflation remains elevated and even if it’s come down significantly, it cannot be trusted to stay away: ‘higher rates for longer’ is the new paradigm and it’s where global central bankers currently feel safe hanging their hat.

Remarks from Jay Powell & FOMC on 1 November sounded dovish along with a hint that another rate hike may not be needed at all. 

The sharp move in US Treasury 10 year rates, down almost 30 bps from 31 October to 2 November from 4.93% to 4.64%[1], suggests the market has been poised to ‘price in’ the end of the hiking cycle. 

This was also reflected by the sharp move tighter in credit spreads, with both US High Yield and Crossover[2] Indices tighter by 30bps1, and this shows how important the ‘direction of travel’ is for risk assets, rather than just the level of rates.

Fixed income investors have been adding duration for the last 2-3 months on the view that the end of the rate hiking cycle was not far away but that didn’t work well, as mid to long end US rates soared in September and October, adding almost 100 bps. 

Then on 3rd November a soft Non-Farm Payroll number - equal to 150.000 new employees, against an expectation of 180.000 (in September there were 336.000)1 - along with sizeable downward revisions for the prior two months and other soft data, earlier in the same week (e.g. Unit Labor Costs), led to a powerful rally in rates and in turn across all risk markets. This included credit, along with other fixed income assets.

Although there’s now some relief in long end rates, higher interest rates will, over time, slow down the economy and will impact the ability to refinance. 

Being mindful of this, at Plenisfer we will continue to prefer credit of quality companies with solid balance sheets.

[1] Source: Bloomberg

[2] Securities rated between Investment grade and high yield

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