Insight – Page 11 – Cincinnati Asset Management

11 Apr 2023

Insight, Investment Grade Quarterly Josh Adams - Portfolio Manager 0 comment

2023 Q1 Investment Grade Quarterly

Click here to read the Spanish version / Haga clic aquí para leer la versión en español

Investment grade credit posted solid positive total returns to start 2023. During the first quarter, the Option Adjusted Spread (OAS) on the Bloomberg US Corporate Bond Index widened by 8 basis points to 138 after having opened the year at 130. With wider spreads, positive performance during the quarter was driven by coupon income and a rally in Treasuries with the 10yr Treasury finishing the quarter at 3.47%, 41 basis points lower year‐to‐date.

During the first quarter the Corporate Index posted a total return of +3.50%. CAM’s Investment Grade Program net of fees total return during the quarter was +3.41%.

Investment Grade is Fashionable Again

In our last commentary we wrote that total returns for investment grade credit may be poised to rebound from the depths. The Corporate Index has now posted two consecutive quarters of positive total returns with 4Q2022 and 1Q2023 coming in at +3.63% and +3.50%, respectively. 2022 was the worst full year total return for IG credit on record (‐15.76%) and November 7th was the bottom from a performance perspective. Since November 7th the Corporate Index has posted a positive total return of +8.89%, illustrating just how quickly market temperament can change; which is one of the reasons we caution against trying to time the market.

Short term Treasuries are currently available at some of the highest yields in years. The 2‐year Treasury closed the first quarter of 2023 at 4.03% and we believe that short duration Treasuries are an attractive cash alternative. While short term rates may be an attractive place to park some cash, we do not believe that they are a suitable replacement for an intermediate corporate bond portfolio for most investors due to the high degree of reinvestment risk incurred. When the Federal Reserve pivots and begins to cut its policy rate short term Treasury yields are likely to follow. At that point, an investor looking to replace their short‐term Treasuries may find that intermediate credit has since rallied significantly on a relative basis making the entry point for IG credit potentially less attractive than it is today. By eschewing intermediate corporates and limiting fixed income allocations to short duration assets an investor risks giving up a meaningful amount of total return potential. For certain asset classes, tactical positioning and attempts at market timing may well be a beneficial endeavor. However, we do not think that Investment Grade credit is one of those asset classes. We instead maintain that it is more effective for investors with medium or longer term time horizons to view IG credit in a strategic manner, and to give the asset class a permanent allocation of capital within a well‐diversified investment portfolio.

Money & Banking

Given the turmoil in the Banking industry we thought it would be instructive to comment on CAM’s exposure and investment philosophy as it pertains to the Financial Institutions sector.

The Finance sector comprises a large portion of the Corporate Index, with a 33.07% weighting within the index at the end of the first quarter 2023. Banking was the largest industry within the Finance sector with a 23.22% index weighting. The remaining industries that make up the balance of the Finance sector are Brokerage & Asset Managers, Finance Companies, Insurance, REITs and Other Finance. CAM has always sought to limit each client portfolio to a 30% (or less) weighting within the Finance sector to ensure that each portfolio is properly diversified from a risk management standpoint. At the end of the first quarter, CAM’s portfolio had just under a 20% exposure to the Banking industry while the rest of our Financial sector exposure was comprised of P&C Insurance (three companies) and REITs (two companies).

As far as exposure to the Banking industry is concerned, CAM is highly selective with investments in just 11 banks at the end of the first quarter 2023. Our disciplined approach to the Banking industry has always been to focus on well managed highly capitalized institutions that have broadly diversified revenue streams and geographically diverse lending footprints. The fundamental nature of CAM’s investment philosophy and bottom up research process excludes specialty banks and regional banks because their loan portfolios have outsize exposure to particular industries or their footprints are too concentrated. We apply the same type of rigorous analysis to our Finance exposure in both the Insurance and REIT industries. As a result, we have a high degree of confidence in our investments within the Financial Institutions sector.

Aversion to Inversion

We continue to receive questions from investors about the inverted yield curve and its impact on the portfolio. There are two major themes to discuss.

For new accounts, the inversion has brought good fortune, creating an attractive entry point; and seasoned accounts enjoy this same benefit as they make additional purchases. The inverted curve has consistently created situations where it is opportunistic to buy shorter intermediate bonds that we believe are likely to perform well as the curve normalizes over time. We have been able to purchase bonds that mature in 7‐8 years at prices that are attractive relative to 9‐10 year bonds. This results in a lower overall duration for the client portfolio and less interest rate risk. These types of opportunities are much more fleeting during environments with normalized upward sloping Treasury curves.
For seasoned accounts or those that are fully invested, they will find that our holding period will be longer than usual. This is because the yield curve inversion has resulted in less attractive economics for extension trades. Rather than selling bonds at the 5‐year mark, as we typically would, we will continue to hold those bonds and collect coupon income while we wait for curve normalization. We will exude patience, constantly monitoring the landscape for extension opportunities to present themselves, meaning we are likely to hold existing bonds until there are 3 or 4 years left to maturity so long as the curve remains inverted.

Treasury curves will normalize –they always have. Historically, curve inversions have been brief in nature with the longest period of inversion on record for 2/10s being 21 months from August 1978 until April 1980.ⁱ The current 2/10 curve inversion began on July 5 2022 and was at its most deeply inverted point of ‐107 bps on March 8, 2023 before sharply reversing course to finish the quarter at ‐55 bps. The most likely catalyst for an upward sloping yield curve is a Fed easing cycle and a decrease in the Federal Funds Rate. The mere anticipation of a pause in the hiking cycle could be enough for the market to begin the process of returning to a more normalized Treasury curve.

Market Conditions & New Issuance

Demand for investment grade credit has been consistently strong to start the year. According to sources compiled by Wells Fargo, IG funds reported $62.1bln of inflows year‐to‐date through March 15.ⁱⁱ We have observed this demand and its associated impact on pricing in the primary market, from large institutional buyers in particular. Our invest‐up period for a new account averages 8 to 10 weeks. For new accounts we historically have been very consistent in that we have been able to find compelling opportunities in the primary market so that a new account could expect to have 30‐35% of its portfolio populated by new issuance. Seasoned accounts too could expect to purchase new issuance from time to time as coupon income is received within those accounts and cash builds to the point that the account is ready to make a purchase.

Let’s walk through the mechanics of what we are currently observing within the primary market:

A company and its investment bankers, in a normalized market with a balanced level of demand, could expect to pay what we call a “new issue concession” to investors in order to incentivize them to purchase a newly issued bond. For example, if a company has a 9‐year bond outstanding that trades at a spread of 100/10yr then it would be entirely reasonable for an investor to expect to be paid 115/10yr to compensate for the additional duration incurred as well as some compensation in the form of extra spread to incent the investor to buy the new bond. New issue concessions change frequently and are based on market dynamics including the state of the economy, geopolitical issues, overall demand for credit, as well as characteristics of the issuing company and prevailing opinion of its’ credit worthiness. Sometimes new issue concessions can be very attractive and other times they can be flat or even negative.

Throughout the first quarter we observed a high frequency of flat/negative new issue concessions which made for situations where the secondary bonds of a given issuer were more attractive than the new bonds. Sometimes this meant that the secondary bonds were an opportunistic investment relative to the new bond but other times it meant that both secondary and the new bonds were fairly or overvalued based on our analysis. The reasoning to purchase a 10yr bond that offers less yield than an 8yr bond may seem counterintuitive, but the rationale lies in how we consider the constraints placed upon investors in the corporate bond market. Bonds are finite, trade over the counter (not on an exchange) and are less liquid than equities. There is a major problem that a willing buyer of a bond may face from time to time –what if there are no willing sellers? Complicating matters for the buyer in our example –what if the buyer has a lot of cash that needs to be invested? This is the phenomenon that we are observing currently; very large buyers that are willing to “pay‐up” in order to get money to work. The large buyer cannot just go out and buy $10-$50mm of the secondary bond because there simply aren’t enough willing sellers. Instead the large buyer must pay a premium in order to put its money to work by paying too much (in our view) to buy a bond in the primary market. This is not a problem for CAM and highlights one of our comparative advantages. As a boutique manager we are still small enough that we can freely operate and buy what we need in an opportunistic manner in order to fill client accounts. If given the choice to buy a shorter bond at a higher yield than a longer bond of the same issuer, then we will buy the short bond all day long as long as the bond math makes economic sense. While the newer bond will likely have a higher coupon because it is being priced off of a higher Treasury rate than the 8yr bond that was priced two years, coupon alone does not tell the entire story. Spread and the amount of yield per turn of duration is the real key to generating total return, not coupon. The following example is a real‐world one that we observed in early February of this year:

The new bond was from an issuer that we hold in high regard and a company that we currently invest in for client accounts (note: we have omitted the name of the company as this is not a recommendation to buy or sell a specific security). The initial price for the new issue was +170bps/10yr, a level that we considered to be attractive given the credit worthiness of the issuer and its relative value within the market at that time, but that price was merely a starting point. For new issues, the initial price will change in response to the strength of demand and it is a very fluid process that occurs over the course of a few hours. In this particular instance, we would have been willing to purchase the new bond at a spread of +160bps or better but given very strong buyer demand, the syndicate was able to move the pricing in to +143bps at which point we declined to participate. Thus in this scenario, given the option between buying the new bond and the secondary bond, we would most certainly choose the secondary bond for a variety of reasons. The secondary bond offered 2bps more yield, required an upfront investment of $14 less because of its discounted price, and it was 29 months shorter in maturity than the new bond, offering meaningfully more yield per turn of duration. As it turns out we elected not to purchase the secondary bond in this example as we considered it to be fully valued at that time and not an opportunistic way to deploy capital for clients. If the bond would have been trading at a spread of +150 we would have purchased it. This is just but one example of our investment discipline in how we approach the decisions we are making for clients on a daily basis. Hopefully this is helpful in explaining some of the dynamics that we have been seeing in the market to start the year and how we think about managing risk and opportunities for client accounts.

What Will The Fed Do?
We know that the Fed can’t raise its policy rate forever. We have already seen the consequences of this unprecedented hiking cycle as cracks have emerged in some corners of the banking industry and we believe it is becoming increasingly clear that monetary policy is beginning to slow the economy. At the end of the first quarter of 2023 Fed Funds Futures were pricing a +25bp rate hike at the May meeting and a 43% chance of a +25bp hike at the June meeting. Perhaps more surprising is that futures were also predicting three policy rate cuts in the last three months of the year. We have since received a weak job openings report on the morning of April 4 that showed that labor demand and job openings have cooled with US job openings dipping below 10 million for the first time since May of 2021.iii The next big data point will be the March Employment Report which will be released on April 7th. We think that the Fed will continue to use data as its guide, particularly as it relates to employment. If the labor market cools significantly then the current hiking cycle could have already reached its peak. If the labor market is resilient then we foresee another 1‐2 hikes and possibly more if needed. At present, we have a difficult time envisioning cuts in 2023 and we think a multi‐month pause is the more likely path.

We continue to believe that the Fed has little choice –it has to tighten conditions by too much or for too long which in all likelihood will lead to recession. Predicting the timing or depth of any recession is difficult so we find it more productive to focus on the risks that we can measure and best control within our portfolio and credit risk is the one variable where we can exert the most influence. We believe we are well equipped to manage and evaluate credit risk for client portfolios through the work of our deeply experienced team. A recession is not generally good for risk assets but it is not a death knell for investment grade credit. These companies are investment grade for a reason and if we have done our job and populated the portfolio appropriately then we believe our portfolio will perform well regardless of the economic environment. We look for companies that have resilient business models and highly competent management teams as well as significant financial wherewithal and cushion. We believe IG credit would outperform the majority of risk assets if we end up in a Fed‐drive recession scenario.

Time Marches On

Credit is off to a good start in 2023 but there is still plenty of work to do to erase the negative returns of 2022. Thankfully, time is the biggest friend of bond investors. Bonds have a stated maturity and those that are trading at a discount will move closer to par with the passage of time. Time also allows investors to reap coupon income. We believe the future is bright for bond investors that are in it for the long haul. Risks remain, to be sure, and we are particularly concerned with geopolitical risks. We also can’t help but wonder what stones have yet to be uncovered as it relates to the speed with which the Fed has increased its policy rate. We will continue to grind away for you and for the rest of our clients doing our best to earn a superior risk adjusted return. Thank you for your continued interest and for your confidence in us as a manager.

This information is intended solely to report on investment strategies identified by Cincinnati Asset Management. Opinions and estimates offered constitute our judgment and are subject to change without notice, as are statements of financial market trends, which are based on current market conditions. This material is not intended as an offer or solicitation to buy, hold or sell any financial instrument. Fixed income securities may be sensitive to prevailing interest rates. When rates rise the value generally declines. Past performance is not a guarantee of future results. Gross of advisory fee performance does not reflect the deduction of investment advisory fees. Our advisory fees are disclosed in Form ADV Part 2A. Accounts managed through brokerage firm programs usually will include additional fees. Returns are calculated monthly in U.S. dollars and include reinvestment of dividends and interest. The index is unmanaged and does not take into account fees, expenses, and transaction costs. It is shown for comparative purposes and is based on information generally available to the public from sources believed to be reliable. No representation is made to its accuracy or completeness. Additional disclosures on the material risks and potential benefits of investing in corporate bonds are available on our website: https://www.cambonds.com/disclosure‐statements/.

The information provided in this report should not be considered a recommendation to purchase or sell any particular security. There is no assurance that any securities discussed herein will remain in an account’s portfolio at the time you receive this report or that securities sold have not been repurchased. The securities discussed do not represent an account’s entire portfolio and in the aggregate may represent only a small percentage of an account’s portfolio holdings. It should not be assumed that any of the securities transactions or holdings discussed were or will prove to be profitable, or that the investment decisions we make in the future will be profitable or will equal the investment performance of the securities discussed herein.

i St. Louis Fed, 2022, “10‐Year Treasury Constant Maturity Minus 2‐Year Treasury Constant Maturity”
ii Wells Fargo Securities, March 16 2023, “Credit Flows | Supply & Demand: 3/9‐3/15”
iii Bloomberg, April 4 2023, “US Job Openings Fall Below 10 Million for First Time Since 2021”

11 Apr 2023

High Yield Quarterly, Insight Rich Balestra - Portfolio Manager 0 comment

2023 Q1 High Yield Quarterly

In the first quarter of 2023, the Bloomberg US Corporate High Yield Index (“Index”) return was 3.57%, and the S&P 500 stock index return was 7.48% (including dividends reinvested). Over the period, while the 10 year Treasury yield fell 41 basis points, the Index option adjusted spread (“OAS”) tightened 14 basis points moving from 469 basis points to 455 basis points.

All ratings segments of the High Yield Market participated in the spread tightening as BB rated securities tightened 12 basis points, B rated securities tightened 24 basis points, and CCC rated securities tightened 34 basis points. The chart below from Bloomberg displays the spread moves in the Index over the past five years. The average level over the five years is 406 basis points.

The Brokerage, Consumer Cyclical, and Transportation sectors were the best performers during the quarter, posting returns of 5.02%, 4.80%, and 4.75%, respectively. On the other hand, Banking, Communications, and REITs were the worst performing sectors, posting returns of ‐0.40%, 0.78%, and 1.18%, respectively. At the industry level, leisure, building materials, and healthcare all posted the best returns. The leisure industry posted the highest return of 9.38%. The lowest performing industries during the quarter were office REITs, wirelines, and retail REITs. The office REITs industry posted the lowest return of ‐7.16%.

The primary market remained very subdued during the first quarter. Several factors were at play keeping issuance to a minimum: increase in rates volatility, general market uncertainty, and previously refinanced capital structures. Of the issuance that did take place, Discretionary took 26% of the market share followed by Industrials at a 16% share.

The Federal Reserve continued lifting rates in 2023. The Fed held two meetings this quarter and raised the Target Rate by 0.25% at both the February and March meetings. These increases were on top of the 425 basis points of raises the Fed completed in 2022. “We are committed to restoring price stability,” Chair Jerome Powell said at a press conference following the Fed’s two‐day meeting in March. “It is important that we sustain that confidence with our actions as well as our words.” The March hike took place in the midst of a banking sector scare. Powell did comment that the banking turmoil is “likely to result in tighter credit conditions for households and businesses, which would in turn affect economic outcomes,” but added, “It’s too soon to tell how monetary policy should respond.”ⁱ The Fed has spoken at length about the tightness in the labor market. After 475 basis points of raises, the tightness continues. In fact, the unemployment rate is currently at 3.6%, the same level at the start of the hiking cycle. It is likely that some cracks in labor will need to emerge prior to any Fed pivot to lower rates.

Intermediate Treasuries decreased 41 basis points over the quarter, as the 10-year Treasury yield was at 3.88% on December 31st, and 3.47% at the end of the first quarter. The 5‐year Treasury decreased 43 basis points over the quarter, moving from 4.00% on December 31st, to 3.57% at the end of the first quarter. Intermediate term yields more often reflect GDP and expectations for future economic growth and inflation rather than actions taken by the FOMC to adjust the Target Rate. The revised fourth quarter GDP print was 2.6%(quarter over quarter annualized rate). Looking forward, the current consensus view of economists suggests a GDP for 2023 around 1.0% with inflation expectations around 4.3%.ⁱⁱ

Being a more conservative asset manager, Cincinnati Asset Management Inc. does not buy CCC and lower rated securities. Additionally, our interest rate agnostic philosophy keeps us generally positioned in the five to ten year maturity timeframe. After the negative performance of last year, Q1 closed positive across each rating category. The lowest bucket of CCC did perform best over the quarter due to returns built up in January and February. With the banking scare in March, the CCC category returned ‐1.37% relative to the Index return of 1.07%. The quality focus that CAM is known for was a benefit in March. Given the positive quarterly return of the Index, our natural cash position was a drag on performance for Q1. Our credit selections within communications and consumer cyclicals were also a drag to performance. Benefiting our performance this quarter was our underweight in wirelines and communications and our credit selections in consumer noncyclicals, technology, and transportation.

The Bloomberg US Corporate High Yield Index ended the first quarter with a yield of 8.52%. Treasury volatility, as measured by the Merrill Lynch Option Volatility Estimate (“MOVE” Index), has picked up quite a bit the past 15 months. Over that timeframe, the MOVE has averaged 121 relative to a 62 average over 2021. The banking turmoil several weeks ago had the MOVE spike up to almost 200 and the 2 year Treasury had the widest intraday range since the early 1980s.ⁱⁱⁱ The first quarter had four bond issuers default on their debt, taking the trailing twelve month default rate to 1.27%.^iv The current default rate is relative to the 0.23%, 0.86%, 0.83%, 0.84% default rates from the previous four quarter end data points listed oldest to most recent. The fundamentals of high yield companies still look good considering the economic backdrop. From a technical view, fund flows were negative in each month of the quarter totaling ‐$24.3 billion.^v No doubt there are risks, but we are of the belief that for clients that have an investment horizon over a complete market cycle, high yield deserves to be considered as part of the portfolio allocation.

The Fed will continue to remain a large part of the story throughout this year. While their message currently remains steadfast, market participants are pricing in a possible transition later this year. Although moving in the right direction, inflation is still too high, and the labor market is still too tight from the Fed’s point of view. This led the Fed in keep increasing rates in the face of the recent banking sector trouble. Market participant’s bets of a transition are suggesting that after a year of aggressive increases, there is not much further the Fed can push. The recession probability forecast currently stands at 65%. There are plenty of reasons to be cautious as lending standards have tightened, defaults are on the rise, and trouble brewing in the commercial real estate market is now on many investors’ radars. That said, supply chains are easing, demand is resilient, high yield maturities are low, and good fundamentals are still providing cushion. Our exercise of discipline and selectivity in credit selections is important as we continue to evaluate that the given compensation for the perceived level of risk remains appropriate. As always, we will continue our search for value and adjust positions as we uncover compelling situations. Finally, we are very grateful for the trust placed in our team to manage your capital.

i Bloomberg March 22, 2023: Powell Stresses Commitment to Cooling Prices as Fed Hikes Rates
ii Bloomberg April 4, 2023: Economic Forecasts (ECFC)
iii Bloomberg April 4, 2023: Riding Brutal Yield Swings
iv JP Morgan April 3, 2023: “Default Monitor”
v CreditSights March 30, 2023: “Credit Flows”

10 Apr 2023

Insight, Investment Grade Quarterly CAM Team 0 comment

2023 Q1 COMENTARIO DEL PRIMER TRIMESTRE

El crédito con grado de inversión (en inglés IG) registró rendimiento total positivo estable a partir de 2023. Durante el primer trimestre, el diferencial ajustado por opciones (OAS) en el Índice de Bonos Corporativos de EE. UU. de Bloomberg se amplió en 8 puntos básicos y llegó a 138 después de haber comenzado el año en 130. Con diferenciales más amplios, el rendimiento positivo durante el trimestre se vio impulsado por los ingresos por cupones y un repunte en los bonos del Tesoro, con el título a 10 años cerrando el trimestre en 3.47 %, 41 puntos básicos menos en lo que va del año.

Durante el primer trimestre, este Índice registró una rentabilidad total del +3.50 %. La rentabilidad total sin comisiones del programa de grado de inversión de CAM durante el trimestre fue del +3.41 %.

El grado de inversión vuelve a estar de moda

En nuestro último comentario, escribimos que el rendimiento total del crédito con grado de inversión podría estar a punto de rebotar. El Índice Corporativo ahora ha publicado dos trimestres consecutivos con rendimiento total positivo: el cuarto trimestre de 2022 y el primer trimestre de 2023 con +3.63 % y +3.50 %, respectivamente. 2022 fue el peor año en cuanto a rentabilidad total para el credito con grado de inversión registrado (-15.76 %), y el 7 de noviembre llegó al valor más bajo desde el pun o de vista de la rentabilidad. Desde el 7 de noviembre, el Índice Corporativo ha registrado una rentabilidad total positiva del +8.89 %, lo que ilustra la rapidez con la que puede cambiar el temperamento del mercado.

Los bonos del Tesoro a corto plazo ofrecen actualmente algunos de los rendimientos más elevados de los últimos años. El bono a 2 años cerró el primer trimestre de 2023 en 4.03 % y creemos que los de corta duración son una alternativa atractiva frente al efectivo. Aunque las tasas de corto plazo pueden resultar atractivas para colocar algo de efectivo, no creemos que sean un sustituto adecuado para una cartera de bonos corporativos de mediano plazo para la mayoría de los inversores, debido al alto grado de riesgo de reinversión que presentan. Cuando la Reserva Federal gire y comience a recortar la tasa de referencia, es probable que el rendimiento de los bonos del Tesoro de corto plazo tomen la misma dirección. En ese momento, un inversor que busque reemplazar sus bonos del Tesoro de corto plazo puede encontrarse con que el crédito de mediano plazo ha repuntado de forma significativa desde entonces en términos relativos; lo que podría hacer que el punto de entrada para el crédito con grado de inversión resultase menos atractivo de lo que es hoy. Al evitar los bonos corporativos de mediano plazo y limitar las asignaciones de renta fija a activos de corta duración, el inversor posiblemente corre el riesgo de renunciar a una buena cantidad de rentabilidad total. Para ciertas clases de activos, el posicionamiento táctico y la búsqueda del momento justo en el mercado pueden ser un esfuerzo beneficioso. Sin embargo, no creemos que el crédito con grado de inversión sea de ese tipo. En cambio, sostenemos que es más eficaz para los inversores con horizontes de medio o largo plazo considerar el crédito con grado de inversión de manera estratégica y asignarle una posición de capital permanente en una cartera de inversión bien diversificada.

Dinero y banca

Dada la agitación bancaria, pensamos que sería ilustrativo comentar la exposición y la filosofía de inversión de CAM en lo que respecta al sector de las instituciones financieras.

El sector financiero comprende una gran parte del Índice Corporativo, con una ponderación del 33.07 % al cierre del primer trimestre de 2023. La banca fue la industria más grande dentro del sector financiero, con una ponderación del 23.22 %. El resto de las industrias que componen la balanza del sector financiero son agentes de bolsa y administradores de activos, empresas financieras, aseguradoras, fideicomisos de inversión inmobiliaria (o REIT) y otras finanzas. CAM siempre ha tratado de limitar la cartera de cada cliente a una ponderación del 30 % (o menos) dentro del sector financiero para garantizar una diversificación adecuada desde el punto de vista del riesgo. A finales del primer trimestre, la cartera de CAM tenía una exposición ligeramente inferior al 20 % en la banca, mientras que el resto de la exposición en el sector financiero se componía de tres empresas de seguros de propiedad y siniestros (P&C) y dos empresas de REIT.

En cuanto a la exposición en el sector bancario, CAM es muy selectiva, con inversiones en apenas 11 bancos a fines del primer trimestre de 2023. Con un enfoque disciplinado en esta industria, siempre nos hemos centrarnos en instituciones bien administradas y de alta capitalización con flujos de ingresos muy diversificados y huella crediticia en diferentes regiones. El carácter fundamental de la filosofía de inversión de CAM y su proceso de análisis particular excluyen a bancos especializados y a bancos regionales porque tienen carteras de préstamos demasiado expuestas a determinados sectores o porque sus huellas están demasiado concentradas. Aplicamos el mismo tipo de análisis riguroso a nuestras exposiciones financieras en seguros y REIT. Como resultado, tenemos un alto grado de confianza en nuestras inversiones en el sector de instituciones financieras.

Aversión a la inversión

Seguimos recibiendo preguntas de los inversores sobre la curva de rendimiento invertida y su impacto en la cartera. Hay dos grandes temas para analizar.

Para las cuentas nuevas, la inversión es auspiciosa, y genera un atractivo punto de entrada; mientras que las cuentas más antiguas pueden disfrutar de este mismo beneficio cuando realizan nuevas compras. La curva invertida ha creado de manera sistemática situaciones en las que resulta oportuno comprar bonos de mediano a corto plazo que, en nuestra opinión, probablemente tengan buen desempeño a medida que la curva se normalice con el tiempo. Pudimos comprar bonos que vencen en 7-8 años a precios que son atractivos en relación con los bonos de 9-10 años. Esto se traduce en una menor duración global para la cartera de clientes y un menor riesgo de la tasa de interés. Este tipo de oportunidades son mucho más pasajeras en entornos con curvas de bonos del Tesoro normalizadas al alza.
Para las cuentas más antiguas o con inversión completa, el período de tenencia será más largo de lo habitual. Esto se debe a que la curva de rendimiento invertida ha dado lugar a una economía menos atractiva para las operaciones de extensión. En lugar de vender bonos a los 5 años, como haríamos normalmente, seguiremos conservándolos y cobrando los cupones mientras esperamos la normalización de la curva. Tendremos paciencia y estaremos atentos al panorama para ver si se presentan oportunidades de extensión; lo que significa que es probable que mantengamos los bonos existentes hasta que queden 3 o 4 años para su vencimiento, siempre que la curva permanezca invertida.

Las curvas del bono del Tesoro se normalizarán, siempre lo han hecho. Históricamente, las curvas invertidas han sido breves; la mayor duración registrada para 2/10s fue de 21 meses, de agosto de 1978 a abril de 1980.ⁱ La curva invertida actual 2/10 comenzó el 5 de julio de 2022 y alcanzó su punto más marcado de -107 pb el 8 de marzo de 2023 antes de revertir bruscamente su curso para terminar el trimestre en -55 pb. El catalizador más probable de un ascenso en la curva de rendimiento es un ciclo de relajación de la Reserva Federal y una disminución en la tasa de fondos federales. La mera anticipación de una pausa en el ciclo de alzas podría bastar para que el mercado iniciara el proceso de vuelta a una curva más normalizada para los bonos del Tesoro.

La demanda de crédito con grado de inversión se ha mantenido fuerte a principios de año. Según fuentes compiladas por Wells Fargo, los fondos con grado de inversión registraron $62,100 millones de entradas en lo que va del año hasta el 15 de marzo. Hemos observado esta demanda y el impacto asociado en los precios en el mercado primario, en particular, de los grandes compradores institucionales. En nuestro caso, el período de inversión para una cuenta nueva es de 8 a 10 semanas en promedio. En el caso de las cuentas nuevas, históricamente hemos sido muy consistentes en buscar oportunidades atractivas en el mercado primario, de modo que se podría esperar que entre el 30 % y el 35 % de la cartera estuviera compuesta por nuevas emisiones. Las cuentas más antiguas también podrían comprar nuevas emisiones ocasionalmente, a medida que reciben ingresos por cupones y se acumula efectivo al punto de que la cuenta está lista para realizar una compra.
Repasemos la mecánica de lo que observamos en la actualidad en el mercado primario:
Una empresa y la banca de inversión, en un mercado normalizado con una demanda equilibrada, podrían estar dispuestos a pagar lo que llamamos una “concesión por nueva emisión” a los inversores para incentivarlos a comprar un bono recién emitido. Por ejemplo, si una empresa tiene un bono en circulación a 9 años que se negocia con un diferencial de 100/10 años, sería totalmente razonable que un inversor esperara que le pagaran 115/10 años para compensar la duración adicional, así como alguna otra compensación en forma de diferencial para incentivarlo a comprar el nuevo bono. Las concesiones por nuevas emisiones cambian con frecuencia y se basan en la dinámica del mercado, como la situación de la economía, las cuestiones geopolíticas, la demanda global de crédito, así como las características de la empresa emisora y la opinión generalizada sobre su solvencia crediticia. A veces, las concesiones por nuevas emisiones pueden ser muy atractivas y otras veces pueden ser fijas o incluso negativas.
A lo largo del primer trimestre, observamos con mucha frecuencia concesiones por nuevas emisiones fijas o negativas, por lo que los bonos secundarios de un emisor determinado resultaron más atractivos que los nuevos. En ocasiones, se debió a que los bonos secundarios eran una inversión oportunista en relación con los bonos nuevos, pero en otras se debió a que tanto los bonos secundarios como los nuevos estaban valorados de manera razonable o sobrevalorados según nuestro análisis. El razonamiento para comprar un bono a 10 años que ofrece menos rendimiento que un bono a 8 años puede parecer poco sensato, pero la lógica reside en cómo consideramos las limitaciones impuestas a los inversores en el mercado de bonos corporativos. Los bonos son finitos, se negocian en el mercado extrabursátil (no en bolsa) y son menos líquidos que las acciones. Hay un problema importante al que puede enfrentarse de vez en cuando un interesado en comprar un bono: ¿qué pasa si no hay quien esté dispuesto a vender? Para complicar más aún al comprador de nuestro ejemplo, ¿qué sucede si dispone de mucho dinero en efectivo que necesita invertir? Este es el fenómeno que estamos observando actualmente; compradores muy grandes que están dispuestos a “pagar bien” para que el dinero rinda. El comprador grande no puede salir y comprar $10-$50 millones del bono secundario porque, sencillamente, no hay suficientes vendedores. En cambio, el comprador grande debe pagar una prima para que su dinero rinda y pagar demasiado (en nuestra opinión) por un bono en el mercado primario. Esto no es un problema para CAM y destaca una de nuestras ventajas comparativas. Como administrador boutique, aún somos lo bastante pequeños como para poder operar con libertad y comprar lo que necesitamos de forma oportunista para cubrir las cuentas de los clientes. Si nos dan la opción de comprar un bono más corto con un rendimiento más alto que un bono más largo del mismo emisor, compraremos el corto siempre y cuando den los números desde el punto de vista económico. Aunque es probable que el bono más reciente tenga un cupón más alto porque su precio se basa en una tasa del Tesoro más alta que el bono a 8 años, cuyo precio se fijó hace dos, el cupón por sí solo no lo es todo. El diferencial y el rendimiento por duración es la verdadera clave para generar rentabilidad total, no el cupón. El siguiente es un ejemplo real que observamos a principios de febrero de este año:

El nuevo bono procedía de un emisor que tenemos en alta estima y una empresa en la que actualmente invertimos para cuentas de clientes (nota: no mencionamos el nombre de la empresa porque no se trata de una recomendación para comprar o vender un título-valor específico). El precio inicial de la nueva emisión era de +170 pb/10 años, un nivel que consideramos atractivo dada la solvencia del emisor y su valor relativo en el mercado en aquel momento, pero ese precio era solo un punto de partida. En el caso de las emisiones nuevas, el precio inicial cambia en respuesta a la solidez de la demanda y es un proceso muy fluido que se produce en unas pocas horas. En este caso particular, hubiéramos estado dispuestos a comprar el nuevo bono a un diferencial de +160 pb o superior, pero dada la fuerte demanda de compradores, el sindicato logró mover el precio a +143 pb, momento en el que dejamos de participar. Por lo tanto, en este escenario, dada la posibilidad de comprar el nuevo bono y el bono secundario, sin duda elegiríamos el bono secundario por varias razones. El bono secundario ofrecía 2 pb más de rendimiento, requería una inversión inicial de $14 menos por su precio con descuento, y su vencimiento era 29 meses menor que el del nuevo bono, con un rendimiento significativamente mayor por duración. Resulta que, en este ejemplo, decidimos no comprar el bono secundario porque consideramos que estaba muy valorado en ese momento y no era una oportunidad para invertir el capital de nuestros clientes. Si el bono se hubiera negociado con un diferencial de +150, lo hubiéramos comprado. Este es solo un ejemplo de nuestra disciplina de inversión, en cómo abordamos las decisiones que tomamos para los clientes a diario. Esperamos que esto sea útil para explicar algunas de las dinámicas que hemos estado viendo en el mercado para comenzar el año y cómo encaramos la administración de riesgos y las oportunidades para las cuentas de clientes.

¿Qué hará la Reserva Federal?

Sabemos que la Reserva Federal no puede aumentar su tasa de referencia monetaria para siempre. Ya hemos visto las consecuencias de este ciclo de alzas sin precedentes, como las grietas que han aparecido en algunos rincones de la banca, y creemos que cada vez es más evidente que la política monetaria está empezando a frenar la economía. A finales del primer trimestre de 2023, los futuros de fondos federales preveían un alza en las tasas de +25 bp en la reunión de mayo y un 43 % de probabilidades de un alza de +25 bp en la reunión de junio. Quizá lo más sorprendente sea que los futuros también preveían tres recortes en la tasa de interés de referencia en los tres últimos meses del año. Desde entonces hemos recibido un magro informe de ofertas de empleo en la mañana del 4 de abril que mostró que la demanda laboral y las ofertas de empleo se han enfriado en EE. UU. con una caída de 10 millones por primera vez desde mayo de 2021.ⁱⁱ El próximo gran dato será el informe de empleo de marzo, que se publicará el 7 de abril. Creemos que la Reserva Federal seguirá guiándose por los datos, sobre todo en lo que respecta al empleo. Si el mercado laboral se enfría de forma significativa, el actual ciclo de alzas podría haber alcanzado ya su punto álgido. Si el mercado laboral lo resiste, prevemos una o dos alzas más y posiblemente más si es necesario. En la actualidad, nos resulta difícil prever recortes en 2023 y creemos que lo más probable es una pausa de varios meses.

Seguimos creyendo que la Reserva Federal no tiene muchas opciones: tiene que endurecer demasiado las condiciones o durante demasiado tiempo, lo que seguramente conducirá a una recesión. Predecir el momento o la profundidad de cualquier recesión es difícil, por lo que consideramos más productivo centrarnos en los riesgos que podemos medir y controlar mejor dentro de nuestra cartera, y el riesgo de crédito es la variable en la que podemos ejercer mayor influencia. Creemos que estamos bien equipados para administrar y evaluar el riesgo crediticio de las carteras de clientes gracias a nuestro equipo de gran experiencia. En general, una recesión no es buena para los activos de riesgo, pero no es una sentencia de muerte para el crédito con grado de inversión. Estas empresas tienen grado de inversión por una razón, y si hemos hecho nuestro trabajo y hemos surtido la cartera de forma adecuada, creemos que se desempeñará bien con independencia del entorno económico. Buscamos empresas que presenten modelos de negocio resilientes y equipos de dirección muy competentes, así como con gran capacidad financiera y margen de maniobra. Creemos que el crédito con grado de inversión podrá superar a la mayoría de los activos de riesgo si acabamos en un escenario de recesión impulsado por la Reserva Federal.

El tiempo sigue avanzando

El crédito se inicia con viento a favor en 2023, pero aún queda mucho por hacer para saldar los rendimientos negativos de 2022. Afortunadamente, el tiempo es el mejor aliado de los inversores en bonos. Los bonos tienen un vencimiento establecido y los que cotizan con descuento se acercarán a la par con el paso del tiempo. El tiempo también les da a los inversores la oportunidad de obtener ingresos por cupones. Creemos que el futuro es prometedor para los inversores en bonos a largo plazo. Los riesgos persisten, sin duda, y estamos particularmente preocupados por la situación geopolítica. Tampoco podemos dejar de preguntarnos qué nos resta aún conocer en cuanto a la velocidad con la que la Reserva Federal ha aumentado la tasa de referencia. Seguiremos trabajando sin descanso para usted y para el resto de nuestros clientes, haciendo todo lo posible para obtener una rentabilidad superior ajustada al riesgo. Gracias por su continuo interés y por su confianza en nosotros como administradores.

Esta información solo tiene el propósito de dar a conocer las estrategias de inversión identificadas por Cincinnati Asset Management. Las opiniones y estimaciones ofrecidas están basadas en nuestro criterio y están sujetas a cambios sin previo aviso, al igual que las declaraciones sobre las tendencias del mercado financiero, que dependen de las condiciones actuales del mercado. Este material no tiene como objetivo ser una oferta ni una solicitud para comprar, mantener ni vender instrumentos financieros. Los valores de renta fija pueden ser vulnerables a las tasas de interés vigentes. Cuando las tasas aumentan, el valor suele disminuir. El rendimiento pasado no es garantía de resultados futuros. El rendimiento bruto de la tarifa de asesoramiento no refleja la deducción de las tarifas de asesoramiento de inversión. Nuestras tarifas de asesoramiento se comunican en el Formulario ADV Parte 2A. En general, las cuentas administradas mediante programas de firmas de corretaje incluyen tarifas adicionales. Los rendimientos se calculan mensualmente en dólares estadounidenses e incluyen la reinversión de dividendos e intereses. El índice no está administrado y no considera las tarifas de la cuenta, los gastos y los costos de transacción. Se muestra con fines comparativos y se basa en información generalmente disponible al público tomada de fuentes que se consideran confiables. No se hace ninguna afirmación sobre su precisión o integridad. En nuestro sitio web se encuentran disponibles las divulgaciones adicionales sobre los riesgos materiales y los beneficios potenciales de invertir en bonos corporativos: https://www.cambonds.com/disclosure-statements/.

La información proporcionada en este informe no debe considerarse una recomendación para comprar o vender ningún valor en particular. No hay garantía de que los valores que se tratan en este documento permanecerán en la cartera de una cuenta en el momento en que reciba este informe o que los valores vendidos no hayan sido vueltos a comprar. Los valores de los que se habla no representan la cartera completa de una cuenta y, en conjunto, pueden representar solo un pequeño porcentaje de las tenencias de cartera de una cuenta. No debe suponerse que las transacciones de valores o tenencias analizadas fueron o demostrarán ser rentables, o que las decisiones de inversión que tomemos en el futuro serán rentables o igualarán el rendimiento de la inversión de los valores discutidos en este documento.

i Reserva Federal de St. Louis, 2022, “10-Year Treasury Constant Maturity Minus 2-Year Treasury Constant Maturity”
ii Wells Fargo Securities, 16 de marzo de 2023, “Credit Flows | Supply & Demand: 3/9-3/15”
iii Bloomberg, 4 de abril de 2023, “US Job Openings Fall Below 10 Million for First Time Since 2021”

31 Mar 2023

High Yield Weekly, Insight Rich Balestra - Portfolio Manager 0 comment

CAM High Yield Weekly Insights

(Bloomberg) High Yield Market Highlights

US junk bonds are headed to close the month with modest gains even after a tumultuous two-week stretch fueled by instability in the banking industry. All told, junk bonds have managed to rebound from February losses that were spurred by fears that aggressive interest-rate hikes would trigger a recession. Spreads tightened and yields dropped in the last two weeks, helped by market expectations that the Fed’s policy-tightening campaign has peaked. Spreads fell from 509 bps to 472, a 37 bps fall since March 17. Yields tumbled from near 9% to 8.75% over the same period.
The recent banking turmoil, however, has bifurcated the market into high- and low-risk segments, with BBs, the highest rating in the junk universe, poised to post gains of 1.16% as yields tumbled 14 bps month-to-date to around 6.99%.
CCC spreads, the riskiest of junk bonds, were still in the distress zone of +1,005. They are on track to post the biggest monthly loss since September of last year. The month-to-date losses are 2.12%. Yields jumped 50bps month-to-date to close at 13.82%.
As spreads and yields stabilized after the banking turmoil, the primary market doors cracked open with a bit on new issuance.
All told, US junk bonds are headed to end the quarter with gains of 2.71%. Despite a loss for the month, CCCs are still ready to close the quarter with the biggest gains since the second quarter 2021, thanks to an earlier advance in January.
The first quarter supply is at $38.875b, the lowest since first quarter of 2016. March priced $4.8b, the lowest March tally since 2020.
The market may extend the rally on a broader risk-on move as US equity futures climb and stocks were headed for a second quarterly gain, underscoring investor optimism in the face of banking turmoil and elevated interest rates.

17 Mar 2023

High Yield Weekly, Insight Rich Balestra - Portfolio Manager 0 comment

CAM High Yield Weekly Insights

Fund Flows & Issuance: According to a Wells Fargo report, flows week to date were -$1.9 billion and year to date flows stand at -$12.6 billion. New issuance for the week was nil and year to date issuance is at $38.5 billion.

(Bloomberg) High Yield Market Highlights

The turmoil in the US regional banking industry and the near-collapse of the Swiss bank Credit Suisse Group AG caused investors to spurn risk and pull funds out of the asset class. CCCs, the riskiest segment of the US junk bond market, were headed toward the biggest weekly loss since September of last year. The week-to-date losses in CCCs stood at 1.76% as spreads moved to the distress zone and closed at +1,014bps. The upheaval caused by fears of contagion in the banking sector and renewed concerns about Fed rate decisions in the upcoming meeting brought the primary market to a screeching halt.
The consumer price index, excluding food and energy, increased 0.5% last month according to a report on Tuesday. That’s the most in five months, forcing the Fed to consider pressing its inflation fight even while mending the regional banking industry.
Moody’s expects the Federal Reserve to raise the federal funds rate by 25bps at its March 22 meeting, Madhavi Bokil wrote on Wednesday.
“Broader tightening of bank lending conditions will factor into decisions as to how high the rate should go to bring down inflation,” she wrote.
The tumult with Credit Suisse seems to have stopped on Thursday, after the firm opened a 50 billion Swiss franc ($54 billion) credit line with the Swiss National Bank.
But Credit Suisse came soon after the collapse of regional US lenders including Silicon Valley Bank late last week and Signature Bank this week fueling concerns about financial stability.
Yields surged to 9% for the first time this year, and spreads breached the +500 level for the first time since October but calmed down after interventions and closed at 8.93% and +485bps, respectively.
Junk bonds rebounded across the board on Thursday. The broader high yield index posted modest gains 0.41%. But it is headed toward second straight week of losses. The week-to-date losses are 0.28%.
Elevated volatility, continuing uncertainty about economic growth, concerns about sticky inflation and the pace of rate hikes have kept junk bond borrowers on the sidelines.

(Bloomberg) Dash for Cash by Banks Fuels Signs of Tension in Funding Markets

There are some signs of increased pressure within US dollar funding markets as fears grow around the outlook for the banks and the turmoil drives lenders to shore up their own cash buffers.
With global financial markets reeling in the wake of Silicon Valley Bank’s bank-run-fueled failure last week, worries about the future of Credit Suisse Group AG have amped up global concern. That sent short-end debt-market rates plummeting again Wednesday as investors radically shifted their outlook for central bank policy and flocked to haven assets.
Dollars continue to flow through the pipes of the interbank lending system, but there are indications that the cost of funding is ticking up and that institutions are taking the precaution of building up their cash piles.
Rates on overnight repurchase agreements moved higher for a period on Wednesday, pointing to stronger demand and general jitteriness. And a number of other market indicators, including the gap between forward-rate agreements and overnight index swaps, are also indicating heightened tension. Activity around the Federal Home Loan Banks system in recent days is suggestive of banks looking to ensure they have enough cash.
Here are some of the funding-market indicators to look at for signs of pressure.
The rate on repurchase agreements for US dollars, a key funding market, moved higher Wednesday. The general collateral overnight repo rate first traded with a bid-ask spread of 4.67%/4.66%, according to ICAP. That compares with around 4.45% at the end of Tuesday.
“If we do start to see a broad based increase in repo rates that will get the market and perhaps the Fed more concerned about the overall health of the banking system,” BMO Capital Markets Strategist Ian Lyngen said in a phone interview.
The gap between direct forward-rate agreements and index-tied ones — often used as a measure of the difficulty banks have in getting access to funds — has swelled. It this week moved to levels last seen around the early stages of the Covid pandemic in 2020.
The Federal Home Loan Banks system, which provides funding to commercial banks and other members via so-called advances, has been increasing the amount of funds it has on hand, suggesting that it has seen a dramatic uptick in demand for dollars. In an unusual move, the FHLBs on Monday raised an unprecedented $88.7 billion through floating-rate notes, followed by another $19 billion on Tuesday. It has also raised some $22.87 billion via term discount notes and has overnight funding on top of that, which reached $67.55 billion on Monday.
The total amount of advances to members, which is published quarterly, had already more than doubled to $819 billion last year as increased Fed interest rates helped put pressure on deposits and this latest episode may push them higher still.
Another sign of the FHLBs needing to filter more money to its members is in its apparent pullback from the fed funds market. It’s the biggest player in that market, a place it tends to park its extra cash, so a pullback in fed funds activity — as has been witnessed this week — is indicative of the FHLBs channeling more money to other places.
One area that market participants will be keeping a keen eye on is the usage of various official backstop facilities from the Fed. This past weekend saw US authorities introduce a new backstop for banks, the Bank Term Funding Program. Borrowing from the emergency bank facility will be disclosed each Thursday in the Fed’s regular balance sheet update, but individual borrowers won’t be named for two years.

17 Mar 2023

Insight, Investment Grade Weekly Josh Adams - Portfolio Manager 0 comment

CAM Investment Grade Weekly Insights

Investment grade credit spreads will finish the week wider amid an extremely volatile tape. The Bloomberg US Corporate Bond Index closed at 143 on Thursday March 16 after having closed the week prior at 136. The 10yr Treasury is wrapped around 3.46% as we go to print which is 23 basis points lower than where it closed the prior week. Through Thursday the Corporate Index had a YTD total return of +1.69% while the YTD S&P500 Index return was +3.6% and the Nasdaq Composite Index return was +11.9%.

The volatility over the past week has really been something to behold. Few things are worse for risk assets than problems in the banking sector, which is the foundation of the global economy. The failures of Silicon Valley Bank and Signature Bank are highly idiosyncratic in nature and not representative of systemic issues in our view. Treasury Secretary Janet Yellen put it best in her testimony yesterday when she remarked that those particular banks had been grossly mismanaged. As far as our banking exposure is concerned, we have a high degree of confidence in the banks that populate our investment grade portfolio. Our approach to the banking industry has always been to focus on well capitalized institutions that have broadly diversified revenue streams and geographically diverse lending footprints. The very nature of our methodology excludes regional banks and specialty banks because their loan portfolios are either too specialized or the footprint is too concentrated. All of CAM’s banking exposure is confined to the 15 largest banks in the U.S. We believe that the Federal Reserve will do whatever it takes to restore confidence and stability in the banking sector.

The primary market was totally closed this week which is unsurprising given the volatility in spreads and rates. According to Bloomberg, this was the first week with no investment grade primary deals since June of 2022. This is a testimony to how infrequently the IG market is “closed” to issuers. We actually believe high quality companies could have issued this week if they had wanted to as demand for credit in the secondary market was still quite good but there was little incentive for corporate treasury departments and CFOs to stick their neck out and try to print a deal in a market where Treasuries and credit spreads were moving in double digit increments intraday. We would expect to see some higher quality issuance next week if volatility subsides.

Investment grade credit reported its first weekly outflow of the year. Per data compiled by Wells Fargo, outflows for the week of March 9–15 were -3.8bln which brings the year-to-date total of positive inflows to +$62.1bln.

03 Mar 2023

Insight, Investment Grade Weekly Josh Adams - Portfolio Manager 0 comment

CAM Investment Grade Weekly Insights

Investment grade credit spreads are set to finish the week tighter amid a strong market tone this Friday morning. The fact that spreads moved tighter this week is an impressive feat amid higher Treasury yields and an extremely active primary market. The Bloomberg US Corporate Bond Index closed at 122 on Thursday March 2 after having closed the week prior at 123. The 10yr Treasury closed above 4% for the first time this year on Thursday but it has since fallen below that threshold as we go to print on Friday morning. Through Thursday the Corporate Index had a YTD total return of -0.05% while the YTD S&P500 Index return was +4.0% and the Nasdaq Composite Index return was +9.7%.

The slate of economic data this week was lighter relative to recent weeks but the data flow continued to have market participants erring on the side of caution with regard to Fed policy. We would argue that this should have always been the case but many prognosticators seemed to be holding on to the belief that the Fed would be delivering rate cuts in the second half of 2023. Although a reversal in policy later this year cannot be ruled out we think the prevailing mood has shifted over the past two weeks and at this point the consensus view is that the Fed will indeed be hesitant to slash its policy rate until it is very clear that inflation will not be a longer term concern. Again, we think the Fed has been transparent about how this process would play out, but the market sometimes hears what it wants to hear. Fed officials continued to be hawkish in interviews and speeches this week which should reinforce this view.

The primary market remains healthy as it had its busiest week of the year, not in terms of volume but in terms of the number of deals and tranches. Volume too was impressive at just over $46bln printed relative to the high end of estimates which was $40bln. Year to date, $310.74bln of new debt has been priced. Syndicate desks are estimating $35bln in supply for the week ahead.

Investment grade credit reported its largest inflow in almost two months. Per data compiled by Wells Fargo, inflows for the week of February 23–March 1 were +5.0bln which brings the year-to-date total to +$50.4bln.

03 Mar 2023

High Yield Weekly, Insight Rich Balestra - Portfolio Manager 0 comment

CAM High Yield Weekly Insights

Fund Flows & Issuance: According to a Wells Fargo report, flows week to date were -$2.1 billion and year to date flows stand at -$10.4 billion. New issuance for the week was $6.9 billion and year to date issuance is at $37.9 billion.

(Bloomberg) High Yield Market Highlights

US junk bonds dropped heading into the end of the week, eroding earlier gains, as anxious investors pulled cash out for the third week in a row. The losses reached across ratings after data showed a strong jobs market and manufacturing shrinking less than expected, renewing concerns about inflation and more restrictive monetary policy.
Strong economic data led Fed officials to again reiterate that the central bank may have to raise interest rates by more than previously expected.
Price pressures remain firm, disrupting the dis-inflationary narrative, Brad Rogoff and Dominique Toublan from Barclays wrote on Friday. The market may be capitulating toward a higher terminal rate, but elevated yields and a lack of near-term catalysts for material de-risking should keep spreads range-bound in the medium term, they wrote.
US junk bond yields rose for the second day in a row Thursday to close 8.72%.

(Bloomberg) Fed Officials Warn They May Need to Lift Rates to a Higher Peak

Two Federal Reserve policymakers cautioned that recent stronger-than-expected readings on the US economy could push them to raise interest rates by more than previously expected.
In remarks Thursday, Governor Christopher Waller said that if payroll and inflation data cool after hot prints in January, “then I would endorse raising the target range for the federal funds rate a couple more times, to a projected terminal rate between 5.1% and 5.4%.”
“On the other hand, if those data reports continue to come in too hot, the policy target range will have to be raised this year even more to ensure that we do not lose the momentum that was in place before the data for January were released,” Waller said in remarks prepared for delivery at an event hosted by the Mid-Size Bank Coalition of America.
Waller’s speech followed comments by Atlanta Fed President Raphael Bostic, who told reporters that he still favored raising rates by 25 basis points in March but was open to lifting borrowing costs higher than he had envisioned if the economy remained so robust.
“I want to be completely clear: There is a case to be made that we need to go higher,” Bostic said. “Jobs have come in stronger than we expected. Inflation is remaining stubborn at elevated levels. Consumer spending is strong. Labor markets remain quite tight.”
Officials next meet March 21-22, and by then they will have seen fresh reports on employment and inflation. Recent incoming data has been surprisingly strong: Employers added 517,000 new workers in January while inflation remains well above the central bank’s 2% target.
Waller said the payroll report, together with a decline in the unemployment rate in January to 3.4%, showed “that, instead of loosening, the labor market was tightening.”
Fed officials are discussing their evolving outlook, which may include holding the policy rate higher for longer than they expected when they published their last forecast in December.
Fed Chair Jerome Powell will have a chance to update lawmakers on the outlook when he heads to Capitol Hill next week to deliver his semi-annual testimony to Congress. He appears before the Senate Banking Committee on Tuesday and the House Financial Services Committee Wednesday.

24 Feb 2023

High Yield Weekly, Insight Rich Balestra - Portfolio Manager 0 comment

CAM High Yield Weekly Insights

Fund Flows & Issuance: According to a Wells Fargo report, flows week to date were -$6.5 billion and year to date flows stand at -$8.3 billion. New issuance for the week was nil and year to date issuance is at $31.0 billion.

(Bloomberg) High Yield Market Highlights

US junk bonds are headed toward the biggest monthly loss since September as investors pull back on renewed speculation that the Federal Reserve will hold interest rates high all year to drag down inflation. US junk bond investors pulled more than $6 billion from US high-yield funds for week, the third biggest weekly withdrawal on record and the second straight outflow. Yields are up by 51bps this month to 8.65%, the biggest jump since September.
The moves reverse what had been a strong start to the year and were spurred as a series of Fed officials lined up day after day to reiterate that interest rates need to move higher for longer than the market was pricing in at the start of the year.
But the market’s downturn paused on Thursday, when yields dropped the most in three weeks and the junk bond index posted the biggest one-day gains in three weeks, with returns of 0.58%.
That came after the FOMC minutes from the February meeting signaled that central bank policy makers aren’t likely to step up the pace of its hikes.

(Bloomberg) Fed Inclined Toward More Hikes to Curb Inflation, Minutes Show

Federal Reserve officials continued to anticipate further increases in borrowing costs would be necessary to bring inflation down to their 2% target when they met earlier this month, though almost all supported a step down in the pace of hikes.
“Participants observed that a restrictive policy stance would need to be maintained until the incoming data provided confidence that inflation was on a sustained downward path to 2%, which was likely to take some time,” according to the minutes of the Jan. 31-Feb. 1 gathering released in Washington on Wednesday.
The minutes also said “almost all” officials agreed it was appropriate to raise interest rates by 25 basis points at the meeting, while “a few” favored or could have supported a bigger 50 basis-point hike.
US central bankers raised interest rates by a quarter-point, moderating their action after a half-point hike in December and four consecutive jumbo-sized 75 basis-point increases. The move lifted the benchmark policy rate into a range of 4.5% to 4.75%. Both Chair Jerome Powell and the minutes indicated that officials are prepared to raise rates further to produce a broader slowdown in the economy that tamps down inflation.
“Participants generally noted that upside risks to the inflation outlook remained a key factor shaping the policy outlook, and that maintaining a restrictive policy stance until inflation is clearly on a path toward 2% is appropriate from a risk-management perspective,” the minutes said. A number of officials said that an “insufficiently restrictive” policy stance could stall recent progress on moderating inflation pressures, according to the minutes.
Following the release of the minutes, swaps traders kept steady their conviction that the Fed will keep pushing rates higher, with the market indicating that 25 basis-point hikes are likely coming at the March, May and June meetings. Investors lifted expectations for where rates will peak to around 5.36%.

17 Feb 2023

High Yield Weekly, Insight Rich Balestra - Portfolio Manager 0 comment

CAM High Yield Weekly Insights

Fund Flows & Issuance: According to a Wells Fargo report, flows week to date were -$3.0 billion and year to date flows stand at -$1.8 billion. New issuance for the week was $3.5 billion and year to date issuance is at $31.0 billion.

(Bloomberg) High Yield Market Highlights

US junk bonds are headed toward their second consecutive week of losses after declining in nine of the last 12 sessions. The losses spanned across all high yield ratings on worries strong data – including retail sales and rising consumer prices – will keep the Federal Reserve on the path of tight monetary policy for longer than previously expected. The January gains faded after a series of Federal Reserve officials said that interest rates may need to move to a higher level than anticipated. Federal Reserve Bank of Cleveland President Loretta Mester joined the chorus on Thursday saying there was a compelling case for rolling out another 50 basis-point interest-rate hike.
“At this juncture, the incoming data have not changed my view that we will need to bring the fed funds rate above 5% and hold it there for some time,” she said in remarks prepared for an event organized by the Global Interdependence Center and the University of South Florida Sarasota-Manatee.
Federal Reserve Bank of St. Louis President James Bullard said he would not rule out supporting a half-percentage-point interest-rate hike at the Fed’s March meeting, rather than the quarter-point other officials have signaled may be appropriate.
He said he wanted to bring the Fed’s policy rate up to 5.375% as soon as possible.
Mester and Bullard follow a long line of Fed speakers this week – Thomas Barkin, Dallas Fed President Lorie Logan and Philadelphia Fed President Patrick Harker – echoing similar views.
Junk bond yields surged to a six-week high of 8.54% and are on track to rise for the second straight week this month as investors pulled cash out of US high yield funds.
While the broad junk bond rally has lost momentum, CCCs continue to be the best asset class in US fixed income, with year-to-date gains of 6.1% compared with investment grade returns of 1.3%.
As the broader rally wanes, BB yields jumped to a six-week high of 7.10%.

(Bloomberg) US Inflation Stays Elevated, Adding Pressure for More Fed Hikes

US consumer prices rose briskly at the start of the year, a sign of persistent inflationary pressures that could push the Federal Reserve to raise interest rates even higher than previously expected.
The overall consumer price index climbed 0.5% in January, the most in three months and bolstered by energy and shelter costs, according to data out Tuesday from the Bureau of Labor Statistics. The measure was up 6.4% from a year earlier.
Excluding food and energy, the so-called core CPI advanced 0.4% last month and was up 5.6% from a year earlier. Economists see the gauge as a better indicator of underlying inflation than the headline measure.
The median estimates in a Bloomberg survey of economists called for a 0.5% monthly advance in the CPI and a 0.4% gain in the core measure.
Both annual measures came in higher than expected and showed a much slower deceleration than in recent months.
The figures, when paired with January’s blowout jobs report and signs of enduring consumer resilience, underscore the durability of the economy — and price pressures — despite aggressive Fed policy. The data support officials’ recent assertions that they need to hike rates further and keep them elevated for some time, and possibly to a higher peak level than previously expected.
The path to stable prices will likely be both long and bumpy. The goods disinflation that has driven the slide in overall inflation in recent months appears to be losing steam, and the strength of the labor market continues to pose upside risks to wage growth and service prices.
The details of the report showed shelter was “by far” the largest contributor to the monthly advance, accounting for almost half of the rise. Used car prices — a key driver of disinflation in recent months — fell for a seventh month. Energy prices rose for the first time in three months.
Shelter costs, which are the biggest services component and make up about a third of the overall CPI index, rose 0.7% last month. Owners’ equivalent rent and rent of primary residence increased by the same amount, while hotel stays also climbed.
Because of the way the housing metrics are calculated, there’s a significant lag between real-time price changes and the government statistics.
The January report incorporated new weights for the consumer basket to try to more accurately capture Americans’ spending habits. The shelter components are now a larger share of the overall index while used cars make up a smaller portion.
Americans have been shifting more of their spending toward services, and the Fed — particularly Chair Jerome Powell — closely looks at those excluding energy and shelter as a sign of more durable inflation.
So-called core services ex-housing rose 0.3%, a slight easing from the prior month, according to Bloomberg calculations. Wages are thought to be a key driver of growth in this category.
While a strong jobs market has underpinned wage growth in recent months, inflation eroded those gains at the start of the year. A separate report Tuesday showed inflation-adjusted average hourly earnings fell 0.2% from the prior month, the biggest drop since June. Pay is down 1.8% from a year earlier.
Economists largely expect the CPI to fall rather sharply by the end of 2023, but forecasters are split as to whether such a decline can occur without tipping the economy into recession. Much of that hinges on just how far the Fed will go. Policymakers will have February’s CPI and jobs report in hand before they meet next month.

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