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Global market outlook
- The fourth quarter turned in one of the stronger bond market performances ever as rates retraced the path they took the previous quarter. Ironically, the 10-Year US Treasury ended 15 basis points (bps) higher than where it began the year. The debate continues around inflation, as well as around the strength of labor markets, term premia, r*, depletion of excess savings, strength of the US economy and the forthcoming supply of government bonds. We anticipate continued volatility.
- Investors have adjusted their expectations for corporate earnings in light of economic uncertainty.
- Global growth has been stronger than anticipated yet varies with monetary and fiscal policy responses, depending on country dynamics and policy goals. China remains a source of consternation as the housing market continues to struggle and the policy response remains limited.
Developed markets: Global inflation rates continue to be above central bank targets on a year over-year basis, which should limit how aggressively central banks can cut in 2024 outside of recessionary conditions. Given recent moves, valuation analysis, and expectations of lower inflation and growth, we are modestly constructive on duration.
High Yield: The combination of technical market factors, diminishing evidence of a pending recession, and an election year with additional fiscal support available make us turn more constructive on the high yield sector. While we still want to avoid CCC issuers, we’re willing to extend into more idiosyncratic risk.
Investment Grade: Investment-grade (IG) credit rallied significantly in Q4 with a total return of 8.5%. IG breakevens are at 72 bps (yield cushion), which is in the 86th percentile. Spread curves have flattened significantly, which limits roll down opportunities. With an inverted Treasury yield curve, short-end credit is still attractive.
Securitized Products: As markets adjust to a higher for longer interest rate regime, we reiterate our preference to position up in credit and short in duration. We remain constructive on selective credits, particularly floating rate credit risk transfer (CRT) securities.
Emerging Markets: Attractive nominal and real yields still available in Latin America, remaining historically wide to the overall index. We are monitoring the policy responses from developed market central banks to project carry opportunities as well as in China where improving growth would be constructive for emerging markets.
Read the full PDF for our perspectives on performance and opportunities for global fixed income markets by segment.
Definitions:
"AAA" and "AA" (high credit quality) and "A" and "BBB" (medium credit quality) are considered investment grade. Credit ratings for bonds below these designations ("BB," "B," "CCC," etc.) are considered low credit quality, and are commonly referred to as "junk bonds."
A basis point (bps) is one one-hundredth of one percentage point (1/100% or 0.01%).
Pioneered by Freddie Mac in 2013, credit risk transfer (CRT) programs structure mortgage credit risk into securities and (re)insurance offerings, transferring credit risk exposure from US taxpayers to private capital.
Commercial Mortgage-Backed Securities (CMBS) are a type of mortgage-backed security that is secured by the loan on a commercial property.
“R-star” or r* refers to the real short-term interest rate expected to prevail when an economy is at full strength and inflation is stable, according to economic models described in studies by Laubach-Williams (“LW”) and Holston-Laubach-Williams (“HLW”)
The term premium is the amount by which the yield on a long-term bond is greater than the yield on shorter-term bonds. Term premia is the plural term for more than one term premium.
WHAT ARE THE RISKS?
All investments involve risks, including possible loss of principal. Please note that an investor cannot invest directly in an index. Unmanaged index returns do not reflect any fees, expenses or sales charges. Past performance is no guarantee of future results.
Equity securities are subject to price fluctuation and possible loss of principal.
Fixed-income securities involve interest rate, credit, inflation and reinvestment risks; and possible loss of principal. As interest rates rise, the value of fixed income securities falls.
US Treasuries are direct debt obligations issued and backed by the “full faith and credit” of the US government. The US government guarantees the principal and interest payments on US Treasuries when the securities are held to maturity. Unlike US Treasuries, debt securities issued by the federal agencies and instrumentalities and related investments may or may not be backed by the full faith and credit of the US government. Even when the US government guarantees principal and interest payments on securities, this guarantee does not apply to losses resulting from declines in the market value of these securities.