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AAM Viewpoints – Corporate Bonds: A Colorful Start to 2018

It has been a very colorful start to the year. Interest rates rose consistently for the first seven weeks of the year with the 10-year Treasury yield rising from 2.41% at year-end 2017 to 2.95% on February 21, 2018. Equity markets had a jackrabbit start before staging a major correction at the end of January and have seen big volatility since. The strong rise in interest rates, aided by sizable withdrawals from bond ETFs (Exchange-Traded Funds) resulted in bond indices posting modest losses year to date. The increase in market volatility was punctuated by trade war concerns that hit the market when tariffs were announced on imported steel and aluminum on March 1. It is also important to note that the volatility of equities resulted in the 10-year U.S. Treasury yield pulling back to 2.81% in a traditional flight to quality despite forecasts for yields to rise past 3% headed toward 3.5%.

Fundamentals for Corporate bond credit quality remain strong. Equity values are still near all-time highs, default rates remain near lows and the recent corporate income tax cut will increase cash flow available for debt service. While there have been recent fund flows out of bond ETFs there has also been a noticeable slowdown on new issuance as a result of the volatility. Investment Grade new issuance is down 17% year over year helping to keep supply and demand better balanced. While the overall bias is to higher interest rates due to the U.S. Federal Reserve’s plans for further increases in the overnight Federal Funds rate they set, prospects for material increases in longer-term interest rates should be restrained by both the actual inflation level, the CPI (Consumer Price Index) was most recently at 2.1% and the significantly lower global sovereign rates such as the German 10-year yield still being below 0.65%. Investment Grade corporate bonds continue to present high credit quality, a potential for a good source of current income and perhaps more importantly right now, a liquid diversification for investors away from an increasingly rough ride in stocks.

 

CRN: 2018-0305-6470 R

This commentary is for informational purposes only. All investments are subject to risk and past performance is no guarantee of future results. Please see the Disclosures webpage for additional risk information at commentary-disclosures. For additional commentary or financial resources, please visit www.aamlive.com.

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Effective, June 10, 2016, please note that Gene Peroni left Advisors Asset Management (AAM) to become President of Peroni Portfolio Advisors, Inc. Peroni Portfolio Advisors, Inc. ("PPA") is an investment advisor independent of AAM.