Market commentary: insight from Colwyn Investments and Franklin Square Capital Partners.
Market volatility remained elevated this week, with the S&P 500 registering sharp declines and the yield on the 10-year Treasury note slipping to its lowest intraday level since 2012, down more than 70 basis points from when the U.S. Federal Reserve hiked interest rates in December.1 Commodity and banking shares led the equity benchmarks lower amid ongoing oversupply concerns and new concerns that a prolonged period of negative interest rates could hurt bank profitability. While a solid U.S. retail sales report and a late-week rise in oil prices helped to spark a relief rally in U.S. equities on Friday morning, volatility remained elevated with the CBOE volatility index remaining near a one-month high amid ongoing investor uncertainty around global central bank monetary policy and its effect on global currencies.2 Against the backdrop of reduced investor appetite for risk, the S&P 500 has declined more than 10% year-to-date, while the price of gold has risen more than 16% over the same period.3,4
Negative sentiment spilled across the financial markets into the high yield bond space this week, with high yield bond spreads rising 78 basis points week-over-week and the benchmark high yield bond index declining 2.8%.5 Year-to-date, high yield bonds are down approximately 5.1%.5 While new issuance volume has remained somewhat low, an approximately $1 billon outflow from high yield bond mutual funds in the week ended January 10 weighed on overall prices.6 Although bank loan mutual funds registered their 29th consecutive weekly outflow, senior secured loans remained relatively stable compared to either stocks or high yield bonds.6 Senior secured loans returned -0.81% in the week ended February 11, bringing the year-to-date return to -1.59%.7 Again, returns in the corporate credit markets remain bifurcated across ratings categories, with investors showing a strong bias for higher-rated credits. Whereas BB rated bonds have returned -3.65% year-to-date, CCC rated bonds have returned -9.5% over the same period.8 The same dynamic holds true in the senior secured loan market, where BB rated loans and CCC rated loans have returned -0.69% and -5.28%, respectively, over the same period.9
In U.S. Federal Reserve Chair Yellen’s first appearance since December’s rate hike, investors were looking to this week’s testimony before Congress for signs that the Fed may ease off plans to continue raising interest rates this year. While flagging the risk that foreign economies pose to U.S. economic growth, ongoing financial market volatility and low commodity prices, she also pointed to ongoing labor market strength and signs of wage growth as bright spots for the U.S. economy.10 While global financial market volatility remains a cause for investor concern, this week’s retail sales data suggests that U.S. consumers largely looked beyond recent stock market declines and increased their spending in January. Sales at stores and restaurants rose by a better-than-expected 0.2% last month, while December’s number was also revised higher.11 With Friday’s retail report, recent economic data continues to point to a solid start for the first quarter. Following this week’s retail sales figure and last week’s payrolls number, the Federal Reserve Bank of Atlanta revised higher its 1Q 2016 GDP forecast to 2.7% from 2.5%.12
Chart of the Week: Going Negative
- Sovereign debt markets reached a new milestone on Tuesday when yields on 10-year Japanese government debt dropped into negative territory for the first time. Japanese government bonds’ move has perhaps put an exclamation point on the “flight-to-quality” theme that has been prevalent throughout 2016.
- The yield on the 10-year Treasury note, for example, has dropped 57 basis points below where it was on December 16, when the Federal Reserve raised the federal funds rate.13
- And yet U.S. Treasuries remain a source of yield relative to the debt of many other major countries around the world. The chart above shows the yields on shorter, 3-year government debt across a range of countries around the world. As the chart highlights, only U.S. Treasuries and U.K. gilts currently feature positive yields of the countries shown.
- According to Bloomberg, in fact, as much as $7 trillion of global government debt currently offers negative yields while another approximately $9 trillion of government debt yields between zero and 1%.14 At 1.29%, the average yield on the Bank of America Merrill Lynch World Sovereign Bond Index has reached its lowest point since 2005.15
- With investor sentiment currently in cautious-to-negative territory and monetary policy around the world still battling deflationary concerns, investors may continue to face difficulty finding investments that generate adequate income.
- The Wall Street Journal: http://on.wsj.com/1JtE5UP
- The Wall Street Journal: http://on.wsj.com/1F1OFaa
- The Wall Street Journal: http://on.wsj.com/1SLQm1n
- The Wall Street Journal: http://on.wsj.com/1Ll7piY
- Bank of America Merrill Lynch High Yield Master II Index
- Thomson Reuters Lipper
- Credit Suisse Leveraged Loan Index
- Bank of America Merrill Lynch High Yield BB and CCC Index
- Credit Suisse Leveraged Loan Index (BB and CCC component)
- U.S. Federal Reserve: http://1.usa.gov/1nXQkpF
- U.S. Department of Commerce: http://1.usa.gov/Y4FaTF
- Federal Reserve Bank of Atlanta: http://bit.ly/1iOcetF
- Federal Reserve Bank of St. Louis: https://research.stlouisfed.org/fred2/series/DGS10#
- Based on the Bloomberg Global Developed Sovereign Bond Index: http://www.bloomberg.com/news/articles/2016-02-09/world-s-negative-yielding-bond-pile-tops-7-trillion-chart#media-1
- Bloomberg Business: http://www.bloomberg.com/news/articles/2016-02-09/treasuries-climb-as-global-market-turmoil-derails-fed-rate-bets
Market commentary and any accompanying data (“Market Commentary”) is for informational purposes only and shall not be considered an investment recommendation.