To get the Best of the Bond Market delivered to your email daily click here.
As investors look at their returns for the first quarter, they may be surprised to see that bonds have outperformed stocks. Wait a minute that wasn’t supposed to happen! So what’s happening?
Thomas Kenny from About.com says that “the combination of slower-than-expected economic growth, instability in emerging markets, and investors’ growing comfort with the U.S. Federal Reserve’s decision to taper its quantitative easing policy all contributed to increased demand for bonds.”
But that’s not the only anomaly currently affecting the bond market. Investors were warned to expect rising rates in the long term, and to weight portfolios firmly in the short term end of the spectrum to weather the storm. But first quarter returns have favoured long term bonds over short. So what’s happening here?
Morningstar’s Eric Jacobson says, it’s important to remember that whatever news there is about tapering and how it affects the market is very dependent on expectations before the news comes out. If the market, for example, expects her to say that tapering is going to continue at a particular pace and has already “priced that in,” then you wouldn’t expect to see a big reaction.
But when you look at the year-to-date performance, a lot of what you’re seeing here actually is the result of the fact that the market and the Fed were expecting arguably a little bit more economic growth and potential inflation over the course of this year, and the latest numbers that have come out actually have illustrated that the economy is growing slower than expected.
This in turn has had a very positive effect on the long-term part of the market, because the expectations for inflation and rising long-term yields were dampened significantly as that news came out.
Which brings us to the third anomaly affecting the bond market this quarter. If economic growth has not been that great, why have credit-sensitive bonds done so well?
Jacobson said “I think that to some degree it’s actually almost a pooling effect in the sense that the highest-quality bonds rallied a lot. At some point, there is some sensitivity to that on the part of corporate debt, and especially high-grade corporate debt. Because when their yields get closer and closer to the highest-quality bonds, like Treasuries, they actually start to become more highly correlated, because their yields are so much closer.”
All this begs the question. Is this the new normal, or will bonds return to type in the next quarter?
Jacobson says to some degree all this concern about rising yields savaging bond portfolios is a little bit … overhyped. That doesn’t mean that interest rates won’t go up and that bond prices won’t go down eventually at some point.
There are however, signs that bonds are reverting to script. Bonds have sold off for the 4th day with the long end taking the brunt of it, and the yield curve is steepening as a result of better growth being priced in again. Data over the next few weeks will be key to how bonds perform in the second quarter.
Todays Other Top Stories
Income Investing: – Munis lead a strong first quarter for bonds. – So far in 2014 bonds have defied preseason expectations by posting some strong first-quarter gains, led by many of last year’s worst-performing sectors.
Bloomberg: – Muni bonds extend 2014 rally with first March gain in six years. – The $3.7 trillion municipal market gained in March for the first time in six years, extending a 2014 advance as localities slowed bond offerings.
BondBuyer: – Muni market should be wary of GOP budget’s take on tax reform. – Municipal market participants should be concerned about the House Republican fiscal 2015 budget plan unveiled by Rep. Paul Ryan on Tuesday because it calls for substantially lowering the individual and corporate tax rates, which would put at risk many tax expenditures such as the tax exemption for municipal bonds, several muni experts said.
Reuters: – Citi top muni bond underwriter in Q1 amid lagging supply. – Citigroup was the top underwriter of U.S. municipal bonds in the first quarter of 2014 as total supply shrank to $60.4 billion, down 25.7 percent from the same period in 2013, Thomson Reuters reported on Tuesday.
Reuters: – Detroit skips payment on GO bonds as revised plan comes under fire. – Detroit on Tuesday missed a second payment on its outstanding general obligation bonds as the city continues to face opposition from major creditors to its plan to restructure $18 billion of debt and exit municipal bankruptcy.
Crains Detroit Business: – Bonds that unbind: Flint takes next step in pipeline project that would turn off tap from Detroit. – The biggest municipal bond sale in Michigan since Detroit’s bankruptcy will allow another locality under emergency management to sever ties with the Motor City’s water and sewer system.
FT: – Rate rise pattern is different this time. – The US Federal Reserve’s forward guidance last May that it would soon begin to “taper” its asset purchases marked the start of a new phase of global monetary normalisation.
WSJ: – For borrowers, bonds are beautiful. – Highly rated firms sold about $317 billion in the U.S. during the first quarter—the second-highest quarterly figure ever and the most since the $347 billion logged in the first quarter of 2009, according to Dealogic data going back to 1995.
MarketWatch: – One bond-fund type you don’t want to miss. – Bond mutual funds and exchange-traded funds have benefited so far this year from stalled stocks, severe winter weather that delayed consumer spending and home-building, China’s economic chill, and Russian saber-rattling.
Yahoo Finance: – Flight from quality: Investment rally is great news for high yield. – The below graph reflects changes in popular fixed income ETFs since the 2008 crisis. As the bond market rally had softened and interest rates rose post-2013, long-duration bonds, as reflected in the iShares 20 Year plus ETF (TLT) have weakened.
BlackRock: – High yield bonds and loans: Still have legs. – In the five years since the beginning of the financial crisis, high yield bonds and loans have been among the best-performing asset classes in global financial markets. And they delivered that performance with much less volatility than the other top performers. While high yield bonds and loans trailed high-flying equities in 2013, they were the best-performing sectors in fixed income. This success has led many to question whether it’s time to sell and move on, or do high yield bonds and loans continue to play a valuable role in investor portfolios?
ETF Daily News: – State street introduces international junk bond ETF. – Bond investing in the U.S. was down last year on a global sell-off thanks to the Fed’s taper concerns and the resultant rise in long-term interest rates. The trend should remain the same this year too, as the Fed finally started on its QE pullback process. In such a backdrop, yield-hungry investors focused on junk bonds have turned their focus to the international market.
ETF Trends: – ETF Spotlight: International junk bonds. – ETF Spotlight on the SPDR International High Yield Bond ETF (NYSEArca: IJNK), part of an ongoing series.
FT Adviser: – Legg Mason’s Zelouf buys big stake in emerging market debt. – The Legg Mason Western Asset Macro Opportunities Bond fund has built up a large stake in emerging market debt on the view an attractive entry point exists in the asset class.
Businessweek: – Coutts says investors pouring money into emerging market bonds. – Coutts & Co., the wealth management unit of Royal Bank of Scotland Group Plc, said investors are seeking emerging market bonds as they hunt for yield.
Bond Vigilantes: – The emerging markets rebalancing act. – Over the past year, investors’ perception towards emerging market bonds changed from viewing the glass as being half full to half empty. The pricing-in of US ‘tapering’ and higher US Treasury yields largely drove this shift in sentiment due to concerns over sudden stops of capital flows and currency volatility. For sure, emerging market economies will need to adjust to lower capital flows, with this adjustment taking place on various fronts over several years.
Digital Journal: – Catastrophe bond market off to a record start in 2014, says Artemis. – Record first-quarter issuance as investors continue to be attracted to cat bonds and insurance-linked securities.
LearnBonds: – Investment strategies – Diversified bond portfolios. – Diversification is a commonly utilized strategy that seeks to minimize the risk of loss by spreading one’s investable assets amongst a variety of securities. The general theory is that the more diverse a portfolio is, the less impact one or several underperforming positions can have on the overall portfolio pie. Thus, the “safest” of portfolios will have more, rather than less positions spread amongst a variety of asset types, industries, market capitalizations, global and domestic geographic regions.
Donald van Deventer: – The 20 best value bond trades with maturities of 10 years or more. – 64 bond issues met our trading volume criterion of $5 million or more. The best-value non-call senior fixed rate bond trades with maturities of 1 to 5 years on March 31, 2014 were issues by these firms.
The StarPhoenix: – Making wise preparations for higher bond yields. – The U.S. Federal Reserve’s objective to gradually and slowly remove monetary stimulus may be clear, but its time frame and conviction are not, which is why Dynamic Funds’ fixed-income team anticipate higher bond yields coming in the next couple of years.
AllianceBernstein: – Rising Rates: Time to position, not panic. – In our view, it will likely take several years for rates to rise back to normal levels. We think this is a good time for investors to re-fit their bond portfolios to be less sensitive to U.S. rates. There are several ways investors can do this.
Reuters: – Pressure rises on Gross as investors pull $3.1 bln from Pimco’s flagship fund. – Investors pulled another $3.1 billion from Pimco’s flagship fund in March, the 11th straight month of outflows from the world’s largest bond fund, and its performance on the month lagged 95 percent of its peers due to a spate of wrong calls by long-time manager Bill Gross.
ETF.com: – Pimco’s BOND Still Bleeding Assets. – The Pimco Total Return ETF (BOND | B) has now seen net asset outflows every month for the past 11 consecutive months, facing redemptions of $1.59 billion in the period. The bleeding initially began following the Federal Reserve’s first suggestion that “tapering” of quantitative easing was on the way last May, and the asset losses have continued despite a prevailing risk-off sentiment in the market so far this year.
Janney: The week’s light municipal new issue calendar is heavy with higher education issues, taxable and tax free #muniland
— Cate Long (@cate_long) April 2, 2014
Post April 15th tax deadline collateral is expected to be tight. Late May tbills trading around 1bp
— Ed Bradford (@Fullcarry) April 2, 2014
Bonds selling off for 4th day led by the 30yr. Yield curve steeper as better growth being priced in again. #Jobs report may confirm tomorrow
— AnthonyValeri (@Anthony_Valeri) April 2, 2014