Tax-Exempt Strategies: Q2 2023
Taxable Strategies:
Continued Momentum in Credit Powers Fixed Income Returns
Key Points
- The early-year consensus that interest rates would fall has been challenged by price measures that have moved above expectations, creating concern over a second wave of inflation.
- Led by strong performance in leveraged loans and emerging market high yield bonds, opportunistic income thrived.
- Borrowers are taking advantage of increased demand to position for the impact of higher debt costs.
The first quarter of 2024 was characterized by positive economic data, fueling a wide trading range for interest rates. The 10-Year U.S. Treasury yield finished the quarter 0.3% above its 2023 closing level, but fluctuated from a low of 3.8% to a high of 4.4% - a range of 0.6%.1 A portion of the volatility can be attributed to a data-dependent Federal Reserve, which continues to shift the expected timing of rate cuts. The early year consensus that interest rates would fall has been challenged by price measures that have moved above expectations, creating concern over a second wave of inflation. February CPI data marked the largest upside surprise since July 2022.2 In our view, this continues to place a floor on the 10-year U.S. Treasury rate around 4.0%, and we expect a range over 2024 of 4.0% - 4.5%, with an increased probability of testing last year’s 5.0% peak.3
Chart 1:CPI Surprise Index
(3-Month Moving Average)
Source: Bloomberg, as of March 2024. 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.
Turning to performance, the Bloomberg U.S. Aggregate Bond Index, which represents investment grade bonds, fell -0.78%, suffering from the impact of higher interest rates.4 Riskier sectors of the market rose as the economy remained resilient, and high starting yields helped to offset negative price moves. Led by strong performance in leveraged loans and emerging market high yield bonds, opportunistic income thrived. Indices for U.S. High Yield, Leveraged Loans and Emerging Market High Yield climbed substantially during the quarter, up 1.5%, 2.4% and 3.8%, respectively.5
While investors are now positioned for a soft landing, the shifting stance of the Federal Reserve is pointing to fewer rate cuts than expected. This may keep interest rates high, and, despite very little evidence to suggest credit quality is eroding, we are watching the market closely for any signs of weakness as a result. Given that concern, we prefer higher-quality positions across our bond portfolios.
Ultimately, the high yield market is performing well, based on two key factors: below-market fixed coupons locked in prior to the increase in interest rates,7 and the lack of debt maturities in 2024.8 Further, new issue activity in the first quarter jumped significantly, posting $93B in high yield bonds and $332B in Institutional Loans, 120% and 354% over Q1 2023, respectively.9 Borrowers are taking advantage of increased demand to position for the impact of higher debt costs, and we expect the level of defaults to stay below the historical averages of previous credit cycles.
Chart 2: 2024 Issuance Comparisons
Source: Bloomberg, as of March 2024. 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.
1,3 U.S. 10-Year Treasury, Source: Bloomberg, Ticker: GT10 Govt, Closing Levels.
2 U.S. Bureau of Labor Statistics, U.S. Personal Consumption Expenditure Core Price Index YoY, Source: Bloomberg, Ticker: PCE CYOY.
4 Bloomberg U.S. Aggregate Bond Index, Source: Bloomberg, Ticker: LBUSTRUU.
5 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.
7 Bloomberg High Yield Corporate Bond Index coupon field, Source: Bloomberg, Ticker: LF98TRUU, Field: CPN.
8,9 JPM, High-Yield Bond and Institutional Loan Maturity Schedule, as of February 9, 2024.
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.
Important Information
The views expressed represent the opinions of City National Rochdale, LLC (CNR) which are subject to change and are not intended as a forecast or guarantee of future results. Stated information is provided for informational purposes only, and should not be perceived as personalized investment, financial, legal or tax advice or a recommendation for any security. It is derived from proprietary and non-proprietary sources which have not been independently verified for accuracy or completeness. While CNR believes the information to be accurate and reliable, we do not claim or have responsibility for its completeness, accuracy, or reliability. Statements of future expectations,estimates, projections, and other forward-looking statements are based on available information and management’s view as of the time of these statements. Accordingly, such statements are inherently speculative as they are based on assumptions which may involve known and unknown risks and uncertainties. Actual results, performance or events may differ materially from those expressed or implied in such statements.
All investing is subject to risk, including the possible loss of the money you invest. As with any investment strategy, there is no guarantee that investment objectives will be met, and investors may lose money. Diversification may not protect against market risk or loss. Past performance is no guarantee of future performance.
There are inherent risks with fixed income investing. These risks may include interest rate, call, credit, market, inflation, government policy, liquidity, or junkbond. When interest rates rise, bond prices fall.
Municipal securities. The yields and market values of municipal securities may be more affected by changes in tax rates and policies than similar income-bearing taxable securities. Certain investors’ incomes may be subject to the Federal Alternative Minimum Tax (AMT), and taxable gains are also possible. Investments in the municipal securities of a particular state or territory may be subject to the risk that changes in the economic conditions of that state or territory will negatively impact performance. These events may include severe financial difficulties and continued budget deficits, economic or political policy changes, tax base erosion, state constitutional limits on tax increases and changes in the credit ratings.
Index Definitions
The Consumer Price Index (CPI) is a measure of the average change over time in the prices paid by urban consumers for a market basket of consumer goods and services. Indexes are available for the U.S. and various geographic areas. Average price data for select utility, automotive fuel, and food items are also available.
Bloomberg Barclays US Aggregate Bond Index (LBUSTRUU): The Bloomberg Aggregate Bond Index or “the Agg” is a broad-based fixed-income index used by bond traders and the managers of mutual funds and exchange-traded funds (ETFs) as a benchmark to measure their relative performance.
Bloomberg US High Yield Index: The Bloomberg US Corporate High Yield Index measures the performance of non-investment grade, US dollar-denominated, fixed-rate, taxable corporate bonds.
U.S. High grade: This data represents the effective yield of the ICE BofA US High Yield Index, which tracks the performance of US dollar denominated below investment grade rated corporate debt publicly issued in the US domestic market.
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.
Bloomberg Investment Grade Index: The Bloomberg US Investment Grade Corporate Bond Index measures the performance of investment grade, corporate, fixed-rate bonds with maturities of one year or more.
A leveraged loan is a type of loan that is extended to companies or individuals that already have considerable amounts of debt or poor credit history.
The Bloomberg Global High Yield Index is a multi-currency flagship measure of the global high yield debt market. The index represents the union of the US High Yield, the Pan-European High Yield, and Emerging Markets (EM) Hard Currency High Yield Indices.
A collateralized loan obligation (CLO) is a single security backed by a pool of debt.
Non-deposit investment Products are: • not FDIC insured • not Bank guaranteed • may lose value
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