What happened last week?

  • Central banks: The release of the U.S. PPI has put the Fed members under pressure. It seems that they are considering a new tightening round by pushing the terminal rate higher than initially expected. Indeed, some of them are half-heartedly admitting that they could raise rates by a larger amount or several times in a row. By the end of the week, the market was no longer expecting a rate cut over the summer (but still expecting a cut by the end of the year).
  • Rates: The U.S. Treasury yield curve is flirting with 4% again. For the first time this year, the 5-year U.S. Treasury ended the week above 4%. While the Bloomberg U.S. Treasury Index was up more than 3% y/y in early February, it has nearly erased all of its gains (+0.6% y/y now) in two weeks. The recent spike in U.S. rate volatility, with the MOVE index back above 110, has added pressure to the U.S. yield curve. In Europe, the situation is quite similar as German government bonds went from being up over 4% to being up less than 1% y/y at Friday's close. The German 2-year bond yield continues to climb to a new high of 2.88%, the highest level since 2008.
  • Credit: U.S. corporate bonds continue to underperform, with an average loss of about 2.5%, due to the negative performance of the long end of U.S. Treasury yields, while credit spreads have widened only slightly. Fundamentals remain strong for investment grade (IG) companies and the impact of higher yields should not be significant. Indeed, according to Bank of America, refinancing maturing debt at the current IG index yield of 5.4% would bring the coverage ratio to 11.5x by 2026, which remains above the historical median. U.S. high yield fell another 1% last week, with spreads at 426 bps at week's end. In Europe, high yield bonds continue their resilient performance, slightly negative last week but still up over 4% year-to-date. The iTraxx Xover is trading around 400 bps, its lowest level since April 2022.
  • Emerging market: While emerging market debt has enjoyed strong inflows since December, last week's outflows ended that trend, with the largest weekly outflow since December 21. The primary market also came to a halt, with only a few transactions printed since the beginning of February. Negative sentiment also affected the performance of emerging market corporate bonds, which lost 0.7% last week as the credit spread widened 10 bps to 330 bps.

Our view on fixed income (February):

The front end offers a decent carry and low-rate sensitivity, while the historical level of yield curve inversion argues for staying away from the long end. Recent positive economic surprises in the US, analysis and recent deterioration in liquidity could also argue for further upward pressure on long-term yields.




Despite the recent tightening of spreads, the risk/reward remains attractive due to the high level of carry and lower rate volatilityexpectations. While we were already positive on the front end of the credit yield curve, we are moving to longer investments in the 5-10 year segments. 



Emerging market bonds have rallied impressively, outperforming investment grade US corporate bonds by more than 5% over the past six months. But rising idiosyncratic risks and the tight premium to investment grade bonds make us tactically cautious.


The contrarian view: 
subordinated debt!

One of our favorite fixed income segments, offering attractive valuation (in relative terms) despite the recent rally. The sector continues to benefit from strong capital position, low non-performing loan ratios and balance sheets that remains well provisioned.

The Chart of the week:

The gap is closed between the 6m T-Bill and the S&P 500 index!

Picture1Source: Bloomberg

The yield differential between the 6-month Treasury bill and the S&P 500 is at its lowest level since 2001. This shows how the fixed income asset class has been repriced during this inflation cycle.


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