To get the Best of the Bond Market delivered to your email daily click here.
The bond market is eagerly awaiting the conclusion of this months FOMC meeting on Wednesday, in which the Fed could announce a reduction in its $85 billion monthly bond-buying program.
The general consensus seems to be that tapering will wait until the New Year, when incoming Fed President Janet Yellen has firmly got her feet under the table.
But whatever the decision, there are signs that the bond market is looking past the taper. Peter Boockvar, chief market strategist at the Lindsey Group says. “The market is anticipating a taper, and whether it’s tomorrow, whether it’s January or March, the process has begun.
So investors need to take the analysis one step further, and see whether the Fed is looking at this as a one-and-done … or if this is the beginning of the end” of QE.
Yields on the 10-year note were trading at around 2.85 today, close to the level they were at in September, the last time tapering was on the table. Lawrence McDonald, U.S. credit, equity and policy strategist at Newedge, says that if the bond market was focused solely on tapering, yields would be higher still. “Based on strong economic data, the 10-year yield should be at 3 percent,” McDonald said.
But as he sees it, the bond market is looking beyond the beginning of the taper and paying attention to actions the Fed could take to calm the market in the case of a $10 billion or so reduction in asset purchases.
“There are two new weapons behind the scenes,” said McDonald, speaking on CNBC. “One is the unemployment threshold being lowered from 6.5 percent down to 6, maybe 5.75 percent, which would be massively dovish. Secondly, I think they’re going to drop a bomb in the next two to three months and start to invoke a 1 percent inflation floor.”
A lower threshold or a floor on inflation would “open up a whole new world,” he said. “The problem with the taper is that the entire Street all says that the Fed will be done by the end of the year. But if you bring in this element of the inflation floor, that means it could take them a year and a half to unwind.”
Todays Other Top Stories
Douglas Albo: – CEF Strategies: The sad state of municipal bond CEFs. – No CEF sector has contributed more to the fallout in CEF valuations this year than the municipal bond sector. If you want to be reminded of what it’s like to live 2008 all over again, just look at what has happened to municipal bond CEFs in 2013. Though it’s been a tough year for most all fixed-income investments, it gets magnified in CEFs because of their use of leverage as well as the panicky nature of individual investors in these funds.
WSJ: – Volcker rule shows its wide reach. – Unforeseen consequences of the Volcker rule already are rippling into the furthest corners of the economy and financial markets. Financial institutions and investors are scrambling to line up a new way to finance Municipal-bond investments, with the week-old rule set to curtail banks’ dealings in so-called tender-option bonds—a $75 billion niche of the market for debt issued by cities, states and local governments.
Federal Reserve Bank of St Louis: – Could rising municipal securities holdings increase community banks’ risk profiles? – Community banks in the U.S. have significantly increased their municipal securities holdings since the onset of the financial crisis. Increased holdings of municipal bonds mean possible increases in interest rate risk, credit risk and liquidity risk. Without a well-considered asset/liability management strategy, these risks may manifest themselves at just the wrong time.
Income Investing: – Taxable Munis: “Best value in fixed income”. – As noted in this morning’s roundup, this has a boom year for corporate bonds as huge supplies of new issues have been met with strong demand. That’s despite historic low yields and tight spreads over benchmark Treasuries, which have investors hunting for values in bond land.
About.com: – Why high yield municipals are better bet than high yield corporates in 2014. – If you’re in the market for investment income, high-yield municipal bonds warrant a close look in 2014. The asset class offers the combination of attractive tax-equivalent yields and compelling valuations, and it may prove to be a much better bet than high-yield corporates in the year ahead. The case for high-yield munis has several components.
WSJ: – Citi to sell new muni bonds through UBS brokers. – Citigroup Inc., which no longer owns a retail brokerage through which it can sell new issues of municipal bonds, is opening a new sales channel through Swiss banking giant UBS AG.
Reuters: – Puerto Rico bond buyers want more yield as economic clouds gather. – Tax-free bond investors are demanding fatter yields for Puerto Rico debt, pushing prices for the Caribbean island’s battered municipal bonds lower after Moody’s Investors Service warned it may knock its credit rating below investment grade.
ValueWalk: – Muni Bonds yields drop despite heavy issuances, doubled outflows. – Muni bonds ought to have had a rough week, with outflows more than doubling from $875 million to $1.9 billion and more than $11 billion in new issuing, but a Volcker Rule exception and a few other positive trends actually caused them to recover.
WSJ: – In Bankrupt Detroit, the bills are piling up. – The growing tab for municipal bankruptcy [in Detroit] is quickly becoming among the nation’s priciest, drawing scrutiny from the judge in the case and some creditors who have to foot their own bills.
Focus on Funds: – Kass likes muni CEFs’ ‘attractive upside’ and ‘limited downside’. – Your blogger has been beating this drum all week, so put me firmly in the “It’s a great time to buy CEFs” box. But here’s Seabreeze Partners chief Douglas A. Kass telling clients Tuesday much the same thing. Kass is focused on munis.
LearnBonds: – 3Twelve Total World Bond™ – A map of all major bond categories in the world. – The 3Twelve Total World Bond™ map may be the most complete compilation of world bond totals available. We are delighted to publish this exclusively with LearnBonds — the most comprehensive source for fixed-income.
Money Matters 360: – What are junk bonds? – Junk bonds are an interesting investment vehicle that are better suited to more seasoned investors comfortable with taking risk as opposed to beginners who are new to investing. The common question to ask at this point is obviously, what is a junk bond?
ETF Trends: – Low inflationary pressures left TIPS ETFs feeling the pinch. – Treasury Inflation Protected Securities exchange traded funds have underperformed traditional Treasuries, with TIPS set to see their worst annual decline since they first began trading, as inflation failed to rear its ugly head.
WSJ: – China adds to U.S. Treasury holdings. – China scooped up more U.S. Treasury debt in October than any other foreign investor, a sign that the government shutdown and threat of default that month didn’t diminish the market’s status as a global haven. China boosted its holdings by $10.7 billion in October to $1.3045 trillion, according to the latest monthly data released by the Treasury Department on Monday.
Morningstar: – Is your inflation protection really protecting you? – Many investors who own Treasury Inflation-Protection Securities (TIPS) and TIPS mutual funds don’t realize that they may be taking a significant amount of interest-rate risk in exchange for their inflation protection.
Sober Look: – Is the treasury market oversold? – When it comes to treasuries, there is no shortage of bearish news. The budget deal is done, the third quarter GDP was better than expected (inventory build issue aside), and the US labor markets are supposedly getting better. Expectations of an “early taper” are running high, with the Fed poised to pull the trigger on cutting back securities purchases sooner than was originally thought. Moreover, bond funds outflows continue, with many investors dumping anything that has a fixed coupon. And if the fundamentals aren’t bad enough, technicals for treasuries look terrible as well. Moving averages and other technical indicators are all screaming “sell”.
FT: – U.S. corporate debt deals to slow in 2014. – The prodigious level of activity in the global corporate bond market, where record debt sales in the past 12 months have been matched by rapacious demand, looks set to slow next year on fears of higher borrowing costs.
FT: – Edmonds sticks with EM debt in spite of poor year. – Ian Edmonds has overhauled the emerging market debt portion of his Legg Mason Global Multi Strategy Bond fund after the position dragged on performance this year.
Emerging Markets Daily: – Why invest in EM bond closed-end funds? – Why do we want to know about closed-end funds when there are plenty of options in ETFs and open-end mutual funds? Closed-end funds are less liquid. During times of market distress – which we expect as the Fed taper looms – share price of those funds can diverge from the net asset values (NAV), giving us an opportunity to bottom fish.
Bloomberg: – Emerging-market ETF declines before Fed as turkey tumbles. – The iShares MSCI Emerging Markets Index exchange-traded fund fell, snapping a two-day advance, ahead of the Federal Reserve’s policy statement tomorrow. Turkey’s stocks led world losses amid corruption arrests.
ETF Trends: – Rising rates and soaring stocks: Time for convertible bond ETFs. – The market has seen a sudden surge in convertible bond investing owing to the growing concerns of rising rates that hit the conventional debt markets. Meanwhile, stock markets set new highs last month and with decent economic fundamentals, this type of bond is back in the limelight.
Bloomberg: – Goldman Sachs wins bond investors to flexible mutual fund. – Goldman Sachs Group Inc. (GS) is drawing record deposits into a bond mutual fund that’s making money even as interest rates rise, giving the bank a boost in one of the few Wall Street businesses it hasn’t dominated.
WSJ: – Bonds not shaken or stirred by Fed meeting. – With the Federal Reserve starting a pivotal two-day meeting Tuesday, it seems as if nearly everyone in financial markets is trying to handicap whether it will curb bond purchases now or early next year. The odds seem slightly in favor of waiting. But what does the smart money think? Surprisingly, it may not care much one way or the other.
James Picerno: – The wide, wide world of performance for U.S. bonds. – Bloomberg reminds us that “Treasuries were the world’s worst-performing bonds this year before the Federal Reserve starts a two-day meeting today to decide whether to reduce its debt-buying program.” How much performance blood is on the streets? Let’s take a look at the carnage.
Strong 2-yr auction demand ahead of the #Fed. Likely reflects need for liquid bonds over thinly traded holiday markets
— AnthonyValeri (@Anthony_Valeri) December 17, 2013