Market Memo: Beware the secular bond-bear pundits

05-15-2018

With the 10-year Treasury breaching 3% and closing in on the long-term trend line of 3.18-3.25%, we expect even more pundits to declare the definitive end of the 36-year secular bull market in bonds is upon us. We think such talk is premature, though we would agree that, in the context of the current Fed tightening cycle, we are in the midst of a cyclical bear market as the bias on rates is up.

But rather than getting caught up in market guru rate forecasts, we believe fixed-income investors would be better served managing interest-rate risk and weighing the fundamentals. On the former, our duration committee continues to recommend portfolio maturities short of their benchmark and thus less sensitive to rising rates. On the latter, the macro environment remains relatively supportive. Inflation is trending up but not substantially so, global central banks are still easing for the most part and domestic economic growth is solid, aided by the benefits of tax reform.

So as we enter the late spring and summer months, our fixed-income team remains pretty much where it has stood all year, cognizant of geopolitical risks and a less favorable rate environment but still seeing opportunities along the fixed-income front. Specifically, we are:

  • Overweight spread sectors—such as high yield and investment-grade corporate bonds, emerging markets and commercial mortgage-backed securities—only less so primarily on valuation concerns.
  • Neutral the yield curve, looking for entry points in this flattening trend (in place since late 2016) given the historical tendency of curve flattening during Fed tightening.
  • Neutral the dollar because we think that, despite its recent strengthening, it is trading in technical ranges. We are waiting for a narrative based on long-term return potential rather than trading short-term volatility.