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January 2024




Taxable Strategies:
A Record Quarter as Rates Stabilize




Charles Luke Managing Director

Key Points

  • The drop in yields generated one of the best periods on record for fixed income performance.
  • As rates stabilize, markets with longer maturities and higher yields may outperform.
  • Higher rates are likely to have an impact on borrower balance sheets toward the end of 2024.

The fourth quarter of 2023 marked a decisive shift in sentiment toward interest rates. The U.S. 10-Year Treasury Note1 climbed 0.5%, peaking at 5.0%, and abruptly fell by 1.2%, creating one of the best periods of performance for fixed income markets in history. 

The Bloomberg Aggregate Bond Index2 climbed 5.5% over the full quarter but increased 8.0% from the rate peak on October 19 through the end of the year. Bloomberg indices for U.S. High Yield, Leveraged Loans and Emerging Market High Yield also climbed substantially during the quarter, up 6.0%, 3.1% and 5.5%, respectively.3

Chart 1: Bloomberg US Aggregate Fixed Income Index Quarterly Total Returns

Sources: Bloomberg; CNR Research, as of December 31, 2023. Indexes are unmanaged and do not reflect a deduc-tion for fees or expenses. Investors cannot invest directly in an index. Past performance is no guarantee of future results.

 

Areas with floating rate exposure, such as Leveraged Lending and Collateralized Loan Obligations, lagged other markets with longer maturities.4 However, returns remained positive. Given increased interest in private debt markets and the popularity of floating rate instruments, more traditional assets with fixed rates may perform better as rates stabilize.

Fed policy will remain the most important input on interest rates and returns, especially with respect to high yield. The consensus probability for a recession has fallen in 2024,5 and inflation appears to be on a sustained downward trajectory.6 Investors are more heavily positioned for a soft landing. Interest rates in this scenario will continue to fall. However, if the soft landing doesn’t materialize, higher interest rates relative to the era of zero interest rate policy may begin to erode credit quality.



We are surprised that higher interest rates have not hurt profitability, which would result in decreased interest coverage and an increase in leverage ratios. Ultimately, the one factor keeping the high yield market on track is below-market fixed rates7 as well as little need to refinance obligations in the current market.8 This situation appears poised to last until the end of 2024, when debt maturities begin to rise. Nonetheless, at that point, borrowers will have had plenty of time to position for the impact of higher debt costs and we expect the level of defaults to stay below historical averages of previous credit cycles.  

Chart 2: Quarterly HY Bond/Loan Maturities

Sources: J.P. Morgan; S&P/IHS Markit, as of October 10, 2023. Information is subject to change and is not a guarantee of future results.

U.S. High Yield Bonds: Bloomberg: LF98YW Index: The Bloomberg US Corporate High Yield Bond Index measures the USD-denominated, high yield, fixed-rate corporate bond market. Securities are classified as high yield if the middle rating of Moody’s, Fitch and S&P is Ba1/BB+/BB+ or below. Bonds from issuers with an emerging markets country of risk, based on Bloomberg EM country definition, are excluded. “YW” is the ticker to pull the yield-to-worst on the index.

U.S. High Yield Loans: Bloomberg: LF98TRUU Index: The Bloomberg US Corporate High Yield Bond Index measures the USD-denominated, high yield, fixed-rate corporate bond market. Securities are classified as high yield if the middle rating of Moody’s, Fitch and S&P is Ba1/BB+/BB+ or below. Bonds from issuers with an emerging markets country of risk, based on Bloomberg EM country definition, are excluded. This is the total return index level.

1 U.S. 10-Year Treasury, Source: Bloomberg, Ticker: GT10 Govt, Closing Levels

2 Bloomberg U.S. Aggregate Bond Index, Source: Bloomberg, Ticker: LBUSTRUU

3 Bloomberg High Yield Corporate Bond Index, Source: Bloomberg, Ticker: LF98TRUU, Leveraged Loans: Morningstar LSTA Leveraged Loan Index, Source: Bloomberg, Ticker: SPBDAL, Emerging Market High Yield: ICE BofA High Yield U.S. Emerging Markets Liquid Corporate Plus Index, Source: Bloomberg, Ticker: EMHY

4 Morningstar LSTA Leveraged Loan Index (see footnote 3) average duration of 0.25 years vs. Bloomberg U.S. Aggregate Bond Index (see footnote 3) average duration of 6.25 years, Source: Bloomberg, Tickers: Refer to footnote 3.

5 United States Recession Probability Forecast, Source: Bloomberg, Ticker: ECRPUS 1Y

6 U.S. Personal Consumption Expenditure Core Price Index YoY, Source: Bloomberg, Ticker: PCE CYOY

7 Bloomberg High Yield Corporate Bond Index coupon field, Source: Bloomberg, Ticker: LF98TRUU, Field: CPN

8 JP Morgan Bonds and Loans Maturities

Past performance is no guarantee of future results.

Index performance is provided as a benchmark. It is not illustrative of any particular investment. Indices are  unmanaged, and one cannot invest directly in an index. Index returns do not reflect a deduction for fees or expenses.

Indexes are unmanaged and do not reflect a deduction for fees or expenses. Investors cannot invest directly in an index.

 




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