Monthly fixed income update
Source: Bloomberg, Invesco, as at 31 May 2024
May was another strong month for fixed income ETFs with net inflows of $7.0bn taking the year-to-date total to $24.8bn. Safe-haven asset classes of US Treasuries ($2.4bn), Cash Management ($1.9bn) and EUR Governments ($0.6bn) were in three of the top five categories for the month. Interestingly, inflation which has been out of favour for some time, saw a resurgence of interest last month with $0.7bn NNA making it the third most popular fixed income category. Aggregate ($0.6bn) and Fixed Maturity ($0.5bn) continued to see strong inflows in May. EUR IG Credit (-$0.7bn) was the only category to experience heavy selling during the month.
Having sold off during the first four months of the year, bond markets have been rangebound over the last few weeks, responding to economic data and central bank commentary but without being particularly directional. The ECB have indicated they will cut rates in their June meeting but have not yet provided much guidance with regards to further easing. Meanwhile, the first rate cuts from the Bank of England and the Fed are still a little way off with the exact timing being data dependent. However, government bond yields remain towards the higher end of the trading range while credit spreads are currently trading at relatively tight levels. Although the expected easing of monetary policy is likely to support bond markets generally, based on current valuations interest rate risk appears favourable relative to credit risk.
Asset Class Returns
Following the sell-off in April, May was a better month for bond markets, although there were different fortunes between regions and asset classes. US fixed income performed well, supported by weaker economic data earlier in the month, as well as inflation falling short of market expectations. Meanwhile, returns for EUR-denominated fixed income were more subdued. Having held better during April, as the ECB had indicated they would ease rates in June, high quality European bond markets were unable to make much progress in May, although the continuing guidance for a June rate cut provided support for the high yield market.
Source: Bloomberg, Invesco as at 31 May 2024
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Although US and UK government and inflation-linked bond markets performed well in May, returns for the eurozone were slightly negative. This divergence of fortunes appears to have been driven by the US and UK bond markets responding to data releases and central bank comments with regards to the timing and extent of rate cuts. Whereas previous guidance on a likely June rate cut from the European Central Bank (ECB) has provided a higher degree of certainty, and therefore less aggressive yield moves, for investors in EUR-denominated fixed income.
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The US Treasury market rallied early in the month on the back of weaker economic data. In particular, the employment report showed non-farm payrolls undershooting market expectations with the unemployment rate ticking up and earnings data lower than forecast. Additional support for the market came from the Federal Reserve announcing they would reduce the pace at which they will be running down their balance sheet by more than expected. The rally extended further after headline inflation was slightly lower than expectations mid-month, however that turned out to be the low in yields with rates selling off in the second half of the month. Likewise, a jump in consumer confidence pushed yields higher towards month end, nevertheless, the benchmark 10-year Treasury yield ended the month 18bp lower than at the end of April.
US Rates
Source: Bloomberg, Invesco as at 31 May 2024
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While Eurozone rates markets followed a similar path to that of US Treasuries, yields didn’t rally as aggressively in the first half of the month. However, they did keep in step with Treasuries during the selloff in the second half of May, leading to their subdued performance over the month. Additionally, unlike Treasuries which bounced into month end, the stronger than expected eurozone Consumer price index (CPI) data maintained upward pressure on eurozone government bond yields.
Eurozone Rates
Source: Bloomberg, Invesco as at 31 May 2024
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The UK gilt market also followed a similar path, with buoyant economic data largely offset by indications that the Bank of England are getting closer to the first rate cut. Data releases showed that GDP had bounced strongly in the first quarter as the economy rebounded from the shallow recession experienced in the second half of 2023.Inflation data was higher than markets had expected however, while the Bank of England held rates in their May meeting, at 7-2 the vote showed there are now two committee members in favour of a 25bp cut. Particular significance came from the additional vote for easing from deputy governor Dave Ramsden. This, alongside inflation forecasted to undershoot targets based on current market rate expectations over the horizon period, was taken as a sign that the Bank are getting closer to cutting rates.
UK Rates
Source: Bloomberg, Invesco as at 31 May 2024
Keep an eye on…...central bank commentary about the timing and extent of rate cuts.
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Although already at relatively tight levels, investment grade credit spreads continued to grind tighter during May. Risk assets rallied as data continued to indicate the global economy is heading for a “soft landing” and central banks getting closer to easing monetary policy once inflation has fallen closer to target, with the S&P 500 index hitting new all-time highs during the month. Investment grade credit spreads for USD, EUR & GBP tightened by 3bp, 4bp and 6bp respectively over the month, with USD-denominated spreads now almost back to the tightest levels seen in the aftermath of the pandemic as central banks employed emergency policies.
Investment Grade Credit
Source: Bloomberg, Invesco as at 31 May 2024
Keep an eye on…...economic data as spreads could be vulnerable to a hard landing.
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Lower rated credit generally performed well in May. Within the hybrid space, USD-denominated AT1 and EUR-denominated corporate hybrid spreads tightened by 17bp and 13bp respectively, helped by the generally positive tone towards risk. EUR-denominated high yield had a very strong month. Spreads tightened by 42bp as it continued to recover from the spread widening in March and April which was caused by some idiosyncratic risks, with the anticipated imminent easing from the ECB also providing support. USD-denominated high yield, however, was the outlier in May with spreads widening by 7bp over the month.
High Yield and Subordinated Credit
Source: Bloomberg, Invesco as at 31 May 2024
Keep an eye on…...the outlook for ratings on high yield issuers.
Related insights
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 May 2024. All figures in USD
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