Commentary published on September 12, 2022
August 2022 Market Commentary
- U.S. Treasury Curve: U.S. Treasury rates were higher, especially on the short end, and the curve remained inverted out to 10-years (See Figure 1).
- Municipal Market Technicals: August issuance was nearly $34 billion, up almost 24 percent over the prior month, but fell 23 percent year-over-year driven by lower taxable and refunding supply. Mutual funds saw outflows of about $4.3 billion.
- Corporate Market Technicals: Investment grade (IG) fixed-rate bond issuance for August was nearly $135 billion. IG bond funds reported $13 billion of inflows during the month.
- Securitized Trends: Mortgage-Backed Securities (MBS) underperformed Treasuries on a total and excess return basis. The asset-backed securities (ABS) index earned positive excess returns, with a solid contributions from auto loan ABS, while total returns were negative.
(The following commentary is a summary of discussions among members of the Breckinridge Capital Advisors Investment Committee as they reviewed monthly activity in the markets and investment returns. The members of the Investment Committee under the leadership of Chief Investment Officer Ognjen Sosa, CAIA, FRM, are Co-Head of Portfolio Management, Matthew Buscone; Senior Portfolio Manager Sara Chanda; Co-Head of Research, Nicholas Elfner; Co-Head of Portfolio Management, Jeffrey Glenn, CFA; Head of Municipal Trading, Benjamin Pease; and Co-Head of Research, Adam Stern, JD.)
After July’s respite from year-to-date negative returns and rate volatility, both returned in August. While rates increased overall, the inversion that emerged in mid-July in the short to intermediate segment persisted and increased (See Figure 1).
Treasury yields surged in August with the 2-year jumping over 60 basis points (bps) to close at 3.55 percent while the 10-year spiked over 50bps to 3.20 percent, marking a 2-month high.
Investors appeared to be growing more concerned about a potential recession. Comments of Federal Reserve (Fed) Chairman Jerome Powell at the end of the month indicated to many a reaffirmation of restrictive interest rate policies until inflation is lowered closer to the Fed’s 2 percent target. “While higher interest rates, slower growth, and softer labor market conditions will bring down inflation,” he said on August 26, “they will also bring some pain to households and businesses.”
The ICE/Bank of America Merrill Lynch MOVE Index1 fell from its July year-to-date highs through early August, then spiked in the second half of the month (See Figure 2). Chair Powell said in July that the Fed will be providing less forward guidance between meetings—the next scheduled Federal Open Market Committee meeting is September 20 and 21—indicating the Fed will be more data dependent in deciding future rate increases.
Data hit some discordant notes during August. For example, while inflation numbers released during the month moderated somewhat from 8 and 9 percent year-over-year increases seen earlier this year, key jobs data continued to exceed expectations. Job growth indicated sustained upward pressures on wages and prices.
A substantive driver of improved consumer confidence readings from the University of Michigan and the Conference Board appeared to be lower gas prices, which can change quickly. Institute of Supply Management and Purchasing Managers Index data in August remained in expansionary territory.
Housing starts and existing home sales offset those favorable growth indicators, trending lower in July. In contrast, as of September 1, the Federal Reserve Bank of Atlanta’s GDPNow estimate of the growth rate of real gross domestic product (GDP) for the third quarter was 2.6 percent.
It would appear that a data dependent decision in September will depend on which data is considered.
In the face of uncertainty, investors tend to retrench. During July, the S&P 500 Index fell 4.2 percent. The Bloomberg U.S. Treasury Bond Index declined 2.48 percent. The Bloomberg U.S. Aggregate Bond Index (the Aggregate) dropped 2.83 percent.
Although the advantage was small—3 basis points (bps) over AAA-rated bonds and 1bp over AA-rated bonds)—bonds rate BBB were the best performers in the Aggregate index and shorter maturities outperformed longer maturities.
Municipal Market Review
Municipal yields tracked Treasuries and increased across the curve during the month (See Figure 3). Yields rose nearly 70bps in 2-years and more than 50bps in 5-years, while the 10- and 30-year spots closed the month 38 to 40bps higher. The municipal bond yield curve inverted briefly in mid-August, as short-term yields surged. The one- to five-year inversion of five basis points happened only 10 times during the past 41 years, according to The Bond Buyer.
The curve flattened by 30bps between 2- and 10-year maturities (the 2s/10s curve), and by 28bps for the 2s/30s curve. Municipal/Treasury (M/T) ratios improved across most of the curve; the exception was 10-year where it tightened 1 ratio. (See Figure 4).
Municipal bond issuance rebounded in August more than $6 billion month-over-month but remains about 23 percent lower on a year-over-year basis, according to The Bond Buyer.
New money issuance year-to-date was 5 percent higher in August 2022 compared with the same period last year. Year-to-date refundings were off 81 percent from last year, based on data from The Bond Buyer. Mutual fund outflows remained elevated at approximately $4 billion, per Lipper/Refinitiv.
The Bloomberg Managed Money Short/Intermediate (1-10) Index declined 1.85 percent and the Bloomberg 1-10 Year Blend Index was down 1.55 percent. Shorter-maturity bonds outperformed longer-maturity issues. A rated bonds fell 2 percent but outperformed other rating categories by 15 to 46bps.
Corporate Market Review
IG corporate bond spreads tightened by 3bps, per Bloomberg data, ending August at 140bps. The Bloomberg U.S. Corporate Investment Grade (IG) Index retreated 2.93 percent on a total return basis and delivered a positive excess return of 0.08 percent compared with duration-matched Treasuries.
Reporting of quarterly corporate earnings drew to a close during August. As of August 7, Forbes, reported that companies missing estimates are unchanged this season, while those exceeding estimates gained 2.1 percent, based on FactSet data. Blended earnings, which combine actual with estimates of companies yet to report, were higher than forecasts on June 30. Six of 12 sectors, including energy, industrials, technology, health care, utilities, and consumer staples, were expected to post higher earnings when all reports have been announced. Blended revenues at the same date showed nine of 12 sectors having better results than they estimated than at the end of the quarter.
For the month of August, the best-performing sectors were airlines, financial companies, life insurance, and sovereigns. The worst-performing sectors were pharmaceuticals, health insurance, restaurants, wirelines, and media entertainment. Bonds rated AA+ fared the best and shorter maturities outperformed longer maturities.
Index-eligible IG bond issuance in August, per Bloomberg, was $134.7 billion, about $36 billion higher than July’s issuance. Net issuance, after redemptions, was $79 billion. According to Emerging Portfolio Fund Research, IG bond funds reported approximately $13 billion of inflows.
Securitized Market Review
Within securitized markets, auto loan ABS delivered a positive excess return of 42bps. Credit card ABS negative excess return was 1bp.
Following up on July’s best-ever monthly excess returns, MBS had negative excess returns when measured against duration matched Treasuries of 1 percent, according to the Bloomberg MBS Passthroughs Index. The conventional 3.5 percent coupon MBS was the worst-performing segment and the conventional 5 percent coupon, with positive excess returns of 7bps, was the best-performing segment. Conventional MBS are issued by the Federal National Mortgage Association (Fannie Mae) or the Federal Home Loan Mortgage Corporation (Freddie Mac).
Within Commercial Mortgage-Backed Securities (CMBS), agency-CMBS underperformed, with negative excess returns of 30bps, while non-agency had another strong month producing 26bps in excess returns. CMBS with 1 to 3.5 percent coupons and those rated A were the best-performing market segments.
 The MOVE Index measures U.S. interest rate volatility by tracking the movement in U.S. Treasury yield volatility implied by current prices of one-month over-the-counter options on 2-year, 5-year, 10-year and 30-year Treasuries. Historically, the index rises as concerns grow that interest rates are moving higher.
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