Corporate Bonds

Fed policymakers will soon shift their focus toward the strong employment and inflation data and stress that further rate hikes this year are likely. This will stem the rally in risk assets and cap the upside in long-dated yields.

The relief rally is not over, and could benefit from commodity and currency market movements. Oil prices likely are banging out a bottom. In general, however, a healthy dose of caution is warranted. Our bias is to sell into, rather than chase, rallies in risk assets.

The Treasury market is now discounting too slow a pace of Fed tightening, while junk spreads are discounting too rapid an increase in the default rate. This week we examine the risk/reward proposition of temporarily leaning against some prevailing long-run macro trends.

The deeply negative momentum in oil prices is fading, setting up the possibility of a counter-trend rebound in global inflation expectations and perhaps even the beaten-up U.S. High-Yield bond market.

The agreement to freeze oil production should reduce tail risks, even if it does not improve overall corporate sector health and profits.

Value in the U.S. Treasury market is rapidly deteriorating, and the 10-year Treasury yield is now consistent with our fair value projections. Investors should shift from an above-benchmark to a benchmark duration stance.

Maintain an above-benchmark portfolio duration since, favoring markets with the highest real yields that stand out in a world where 65% of Developed Market government bonds trade with a negative yield.

Spread product performance has been foreshadowing changes in market rate hike expectations since early last year, and the recent bout of weakness means it is probably time for the Fed to temper its hawkishness.

The U.S. corporate re-leveraging cycle is far more advanced than is widely believed. Corporate health looks only mildly better excluding the troubled energy and materials sectors. Mushrooming leverage ratios are not restricted to junk issuers either.