Fixed Income
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Article
Monthly fixed income update
5 September 2024
Key takeaways
Fixed income markets continued to perform well as data indicated further cooling of the economy.
Fed Chairman Powell largely confirmed that US rates would be cut in mid-September.
As rates are cut and yield curves steepen, investors are likely to favour longer maturities and increasing interest rate risk.
Fixed Income Performance
August was another positive month for bond markets. The US employment report released at the start of August provided further evidence that the labour market is weakening with both the headline Non-Farm Payrolls and wage growth data undershooting market expectations, while the unemployment rate ticked up to 4.3%. This drove US Treasury yields lower, with the move being exacerbated by a sharp unwind of Yen carry trades following a hawkish rate decision by the Bank of Japan causing the Japanese currency to strengthen.
Later in the month, Fed Chairman Powell’s remarks at the Jackson Hole Symposium that “the time has come for policy to adjust”; signalling that the question for the September Federal Reserve meeting is no longer whether rates will be cut but instead by how much.
Fixed Income ETF Flows
Flows into fixed income ETFs slowed in August to $5.6bn, still a robust pace given the holiday season, taking the year-to-date total above $44bn. Although 'safe-haven' asset classes remained in demand, there was a notable increase in flows into investment-grade credit ETFs. This followed a sharp widening of credit spreads caused by risk-off sentiment, which was triggered by weaker economic data and the disorderly unwinding of the Yen carry trade.
US Dollar denominated investment grade credit was the strongest category for inflows in August, taking in $1.5bn, while EUR credit NNA topped $1bn for the month. Cash Management ($1.5bn), US Treasuries ($1.1bn), and EUR Govts ($0.5bn) complete the top five themes seeing inflows. Inflation (-$0.9bn), EM government bonds (-$0.4bn) and China Bond ETFs (-$0.3bn) were the categories that saw the highest net outflows.
The benchmark 10-year US Treasury yield rallied to 3.67% - the lowest level for over a year - following the US employment report and the hawkish announcements from the Bank of Japan, before giving up some gains later in the month as volatility declined. However, the outlook for bond markets remains positive. Fed Chairman Powell’s comments were more dovish than expected with a rate cut all but guaranteed at the next meeting in mid-September. Meanwhile, both the European Central Bank and the Bank of England have already started to ease policy and are likely to cut rates further in coming months. While monetary policy easing should drive yields on government bonds lower, provided central banks manage to create a “soft landing”, it should also provide a very supportive environment for credit markets too.
Cash management ETFs have seen the strongest inflows so far this year with relatively flat credit yield curves meaning that, from a yield perspective, there has been little reason to take on additional interest rate risk in credit allocations. Meanwhile, government bond yield curves have been inverted, meaning investors in longer maturities are having to give up some yield if they want to increase duration risk. However, as rates are cut, yield curves are likely to steepen making yields on longer maturities more attractive relative to short maturities which, along with interest rate risk being more attractive at this stage of the cycle, should see investors switching longer in the fixed income allocations.
Fixed income investing with ETFs
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Investment risks
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The value of investments and any income will fluctuate (this may partly be the result of exchange rate fluctuations) and investors may not get back the full amount invested.
Important information
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All data and charts sourced from Invesco, Bloomberg, as at 31 August 2024. All figures in USD
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EMEA3831527/2024
