Macro Monitor

The RAI fell in August and stayed on a “High Risk” signal. We remain cautious and recommend higher quality within fixed income.

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This is consistent with our overall cautious view on credits. Credit spreads continued narrowing despite higher volatility in the bond markets.

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On the positive side, the fundamental picture is still healthy for most U.S. high yield issuers, and defaults are expected to be low. On the negative side, weakening inflation expectations is a divergence that bears close monitoring. We will exercise patience and wait for a better entry point.

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Their relative cheapness, combined with the prospect of higher tax rates, certainly makes Munis more attractive now. But we’ll wait for interest rate volatility and outflows to subside before turning bullish on Munis.

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If interest rates keep going higher from here, we would run the risk of derailing a still-fragile recovery. As long as the Fed tapering uncertainty exists, we expect higher volatility on the 10-year yield to persist in the mean time.

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A closer look at the dollar’s two main counterparts, the euro and the yen, reveals a regime shift in both cases, but for different reasons.

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The RAI fell in July and stayed on a “High Risk” signal. We remain cautious and recommend higher quality within fixed income.

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Despite the exodus from all bond classes in the last few months, longer term demand for safe spreads is likely to remain strong and investment grade issuance has dropped significantly.

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Over the past few months we’ve seen the largest high yield bond fund outflow since 2000. We will exercise patience for now and wait for a better entry point.

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The relative cheapness combined with the prospect of higher tax rates certainly makes us much more interested in Munis now. But we’ll exercise patience, waiting for the negative headlines to fade and interest rate volatility to subside before turning bullish on Munis.

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Although the fundamental picture remains healthy for most U.S. High Yield issuers and defaults are expected to be low, the reversal of a crowded trade could lead to further substantial losses on these bonds.

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We believe the sell-off in Munis is overdone in the short-term and these bonds look attractive relative to Treasuries. But in the medium-term the tapering risk will linger; this is a big negative for long maturity credits like Munis.

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The longer term demand for safe spreads is likely to remain strong once yields normalize and volatility recedes.

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The RAI rose again in June and stays on a “High Risk” signal. June saw an acute case of carry trade reversal; we remain cautious and recommend higher quality within fixed income.

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We think 3% is the upper bound in the short term. However, we believe it will settle back closer to 250 bps by the end of the year.

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For the first half of the year, QE tapering disrupted the usual patterns for most interest rate related markets but equities are largely on track. In the second half, the common message seems to be higher volatility and lower returns.

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20 Year T-Bond: 5 3/8’s, Maturity: 2/15/2031, YTM 2.88% (vs. April 30th YTM at 2.39%)

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High yield bonds are not immune to the tapering of QE.

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Inflows into Muni bond funds turned negative; higher interest rates currently the biggest risk.

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Consistent with our overall cautious view on credits, we still like “safe spreads”.

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