Bonds Commentary
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Seasonality a Potential Bond Boon

September 2018

Bond yields moved very little during the month of August, with the 2-year U.S. Treasury yield opening the month at 2.67% before closing the month at 2.62%, while the 10-year U.S. Treasury yield opened at 3% before trading down to 2.82% mid-month and closing out August at 2.86%. The relative calm across U.S. interest rates allowed the majority of fixed income indices we track to post positive returns for the month. The Bloomberg Barclays U.S. Aggregate Bond Index generated a return of 0.6% during the month, but the Index remains down by 0.9% on a total return basis year-to-date. High yield corporate bonds had another good month, rising 0.7%, and the Bloomberg Barclays U.S. Corporate High Yield Index was up 2% on a total return basis year-to-date through August. Indices tracking convertible bonds, floating rate products, and mortgage-backed securities rose between 0.2% and 2.2% during the month.

As we move into September, bond yields have again made a run at the upper bound of their recent range, with the 10-year Treasury yield hovering around 2.95% on the heels of August’s payroll report which showed average hourly earnings growth of 2.9% year over year. The U.S. dollar has strengthened throughout 2018, leading the U.S. to import more deflation from abroad, tamping down inflationary pressures and pulling down bond yields in the process. While positive movement on trade has occurred between the U.S., Mexico, and Canada, tariff-related saber rattling and ongoing discussions with China aren’t likely to yield a deal prior to November’s mid-term elections, keeping a bid under bonds as uncertainty persists. With September and October being notoriously poor months for equity returns and mid-term elections generating significant “noise” for the markets to digest, we’re likely entering a good spot in the calendar to be a bondholder as the 10-year yield is knocking on the door of 3%, and bonds maturing inside of one year now yield more than the S&P 500 for the first time since 2008.

We’ve been focused on diversification within our fixed income portfolios in an effort to generate a positive total return this year in an environment characterized by rising interest rates and low yields across sub-asset classes, regions or categories. We’ve allocated toward a dedicated manager in the structured products space and another that specializes in U.S. dollar-denominated emerging markets debt. While exposure to mortgage-backed securities and other structured products has proven to be additive, our decision to allocate to emerging market debt has proven to be early as Argentina and Turkey experienced currency-related crises causing other currencies to weaken relative to the USD in sympathy. We continue to believe that exposure to emerging market bonds, as well as equities, will be rewarded over the longer-term, but we acknowledge that in the near-term more uncertainty is likely and additional pain may be felt.

Source: Bloomberg

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