By Komson Silapachai and Christina Ellis
The euphoria in December around a Fed pivot has resulted in some pushback from Fed Chair Jerome Powell and other Fed speakers, who have largely ruled out a rate cut in March while emphasizing patience on the commencement of rate cuts. Bond yields across the curve have shifted higher in response.
Despite the high volatility environment for bond yields to begin the year, investor appetite for yield is showing no signs of abating. The backup in yields resulted in strong demand for last week’s Treasuries auctions. The Treasury issued a record $121 billion across 3-year, 10-year, and 30-year Treasuries, all of which saw solid demand, ultimately clearing at a higher price/lower yield than at the time of the auction, and all of which had above-average non-dealer bidding.
The US corporate sector has been issuing bonds in early 2024 at a breakneck pace. In January, the gross issuance for investment grade corporates totaled $184.4 billion, which sets a record for January corporate bond issuance, exceeding the prior record (2023) by 30%!
Typically, periods of large corporate supply would align with wider spreads, as bonds must cheapen to account for the higher level of issuance. That was not the case in January as investors easily digested the record supply. In fact, the IG corporate credit spread tightened on the month by 3 bps to 96 bps. While credit spreads this low have historically resulted in sub-par excess returns, the phenomenon reflects the extent to which investors care about all-in yield regardless of the low level of credit risk premium.
We remain cautious on corporate credit at the current level of valuation, preferring instead to look at “defensive spread” through agency MBS. While credit spreads have little room to tighten from here, flow dynamics remain extremely strong as investors are keen to capture the high level of yield before the Fed presumably embarks on a rate-cutting cycle. This dynamic should continue to provide support to all fixed income.
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