What happened last week?

Central banks

In the U.S., Fed Governor Powell affirmed that the Federal Reserve should maintain its current interest rates at the upcoming FOMC meeting, while keeping the door open to further tightening if economic data indicate ongoing robust growth. Powell also suggested that the recent increase in the U.S. term premium might be linked to fiscal deficits and quantitative tightening. Other Fed speakers, such as Fed Vice Chair Jefferson, viewed the rising long-term yields as a form of tightening financial conditions, which they believe should be considered in upcoming decisions. Currently, the market assigns a negligible probability for a rate hike at the November FOMC meeting and only an 18% chance by the year's end. In Europe, ECB President Lagarde expressed concerns regarding the Israel-Palestine conflict and its potential ramifications on both growth and inflation outlooks if the conflict escalates. Meanwhile, ECB members seem to be convinced of the downward trend in European inflation. They were likely reassured by the Eurozone HICP figures, which indicated that almost 80% of the components are decelerating, an unprecedented situation. Nevertheless, the market appears confident that we have reached the peak of interest rates, with only a 14% probability of a rate hike by the year's end. In the UK, Bank of England Governor Bailey is maintaining vigilance concerning inflation. He has drawn attention to wage growth and food prices as areas of concern, particularly as the UK economy shows signs of weakening, notably the recent sharp drop in September's retail sales. Bailey has also raised the alarm about the specter of stagflation looming over the UK economy.


In the U.S., the credit synthetic market is displaying signs of vulnerability as the CDX HY index, tracking the 5-year single CDS of HY issuers, has surged by more than 100bps in the past month, closing the week at 525bps, marking its highest level since the SVB crisis. In the cash market, the spreads of U.S. high-yield bonds widened by 25bps to 435bps, resulting in a total return performance of -1.2% over the week. The technical factors are unlikely to improve, with the amount of outstanding junk bonds maturing in 18 to 36 months soaring to 20%, levels last observed in 2007. U.S. investment-grade corporate bonds also faced negative performance, with spreads expanding by 6bps to 130bps, a level not seen since June. The Bloomberg U.S. corporate bonds index fell by 2% during the week. In Europe, the credit market is also indicating signs of softening, as the Itraxx Xover index has widened to 472bps, its highest level since March 2023. The European high-yield cash market is also under pressure, with spreads widening to nearly 500bps. Despite a modest performance in interest rates, the Bloomberg European high-yield bonds index lost 1% over the week. European investment-grade corporate bonds dipped by 0.6% over the week, primarily driven by a 5bps spread widening. Prior to the release of European banks' Q3 earnings, subordinated banking debt outperformed this week, with the ICE BofA Contingent Capital Index posting a marginal loss of -0.4% over the week.


The 10-year US Treasury yield rose to 4.99% earlier this week but closed the week at 4.92%. The yield curve steepened once more, with the spread between the 2-year and 10-year US Treasury yields reaching -16bps, marking its highest level since 2022. Fed Governor Powell highlighted that the rise in the US term premium is primarily due to the imbalance between supply (driven by an unexpected increase in Treasury issuance volume) and demand (aggravated by QT). Additionally, the foreign share of US T-notes has decreased from 63% in 2009 to 33% at present. While there was a rebound in foreign investors purchasing US Treasury notes in August, recent figures for September indicate that China continues to reduce its UST holdings. The high volatility in the back end of the US yield curve, as reflected by the MOVE index hitting 135, hasn't provided much reassurance to investors. Interestingly, we have reached a point where the 10-year US Treasury note could still deliver a positive return for a 1-year holding period even if yields were to widen by 50bps. In Europe, the steepening of the German yield curve (2s10s) persists, reaching -23bps, marking its highest level in 2023. The 10-year German yield is nearing its cycle peak, ending the week at 2.9%, which is a 15bps increase over the week. On the other hand, the 2-year German yield remained flat at 3.12% throughout the week. Despite some softening in European equities and rising real rates, peripheral spreads remained relatively steady over the week. Italy's 10-year yield closed the week at 203bps over the German 10-year yield. In the UK, the emerging signs of stagflation are well reflected in bond valuations. The nominal yield of a 5-year UK bond is only decomposed by 0.6% of real yield, while the UK breakeven, indicating market-implied inflation expectations, is approaching 4%. Concurrently, the yield on the 30-year UK bond hit 5.16% during the week, surpassing the peak observed during Truss meltdown and reaching the highest level since 1998. In Japan, the gradual rise in yields continues as the 10-year Japan yield reached 0.85% for the first time since 2013.

Emerging market

This week, emerging markets faced headwinds from a sell-off in long-term rates and waning investor sentiment. The entire emerging market fixed income sector experienced declines, with the most significant drop (-1.5% over the week) occurring in the sovereign EM hard currency index. EM corporate bonds also faced losses of more than 1%, while local currency debts retraced by 0.6%. Since the start of the Israel-Palestine conflict, 5-year CDS for Middle East sovereign bonds have seen substantial increases, with the 5-year Qatar CDS surging from 30bps to 66bps. Companies like Teva (-6 pts) were not immune to the conflict's impacts, even though their revenues are not highly derived from Israel. In India, the Adani Group is closing in on a $3.5 billion loan to refinance debt, signaling growing confidence among creditors in the group. This marks a shift from the group's earlier challenges, which included a scathing short seller attack at the beginning of 2023. In China, September new home sales declined by -14.2% YoY (compared to -18.3% in August). Meanwhile, September new home prices remained flat MoM in tier-1 cities, while tier-2 and tier-3 cities saw a further decline. The Chinese regulator continued to ease the real estate sector by guiding localities to remove land price caps amid weak national land sales. Discussion regarding a potential Country Garden default swirled as the offshore debt deadline passed. S&P further downgraded Egypt to B-, reflecting ongoing delays in implementing monetary and structural reforms. Finally, the Bank of Indonesia surprised markets by hiking rates by 25bps to 6%. The Asian region, particularly countries like Indonesia, felt the pinch of rising oil prices due to their heavy dependence on oil imports. Despite low inflation, central banks had to take action to shore up their currencies.

Our view on fixed income (October)


We recommend gradually extending duration, as there is an attractive asymmetry in rates, supported by expected moderation in growth and inflation. High real rates and elevated long-term inflation expectations contribute to this favorable outlook. However, we exercise caution given the ongoing reduction of the Fed's balance sheet, which affects liquidity and rate dynamics, and the anticipation of higher supply that could trigger ST shock.

Investment Grade

We favor from 0 to 10 years segments due to the steepness of the credit spread curve which fully offset the inverted U.S. Treasury yield curve. Absolute yields are still offering attractive long term entry point. Focus on high quality corporate bonds that have proven their robustness even if money market funds compete the entire credit spectrum.

High Yield


High yield bonds could come under pressure in this very uncertain environment. Recession fears, expectations of higher default rates and one of the most aggressive monetary policies are expected to weigh on this segment. The current valuation of U.S. high yield spreads implies modest default rates and the absence of inflation slippage, or a near-term recession.


In Emerging Market debt, we maintain a vigilant stance due to valuation and potential risk considerations. Higher oil prices and a strong US dollar pose challenges for oil-importing EM nations, especially Asian countries, while some Latin American countries may benefit.

The Chart of the week

The Impact of G4 Central Bank Balance Sheet Reduction on Fixed Income!


Source: Bloomberg

In a rare move since 2020, G4 central banks have shrunk their balance sheets to 45% of GDP, and this transformation has had a profound effect on global interest rates. It's most evident in the Bloomberg Global Aggregate index, which has touched a 4.5% yield for the first time in 15 years. The delicate balance between fiscal spending (supply) and demand is exerting significant pressure on yields.


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