What's next for bonds? What's next for bonds? http://www.federatedinvestors.com/static/images/fhi/fed-hermes-logo-amp.png http://www.federatedinvestors.com/daf\images\insights\article\finance-banking-euro-small.jpg January 21 2020 August 1 2019

What's next for bonds?

Considerations for a changing rate environment.
Published August 1 2019
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As expected, the Federal Reserve has lowered the benchmark U.S. interest rate to support continued economic growth and insure against downside risks. Market Strategist William Ehling offers perspective on likely fixed-income impacts and what it means for investors.

Q: Do you expect further rate cuts in 2019? If so, how much lower could rates go? 

Further rate cuts are contingent upon the three factors Fed Chair Powell mentioned in his communique: global growth, trade policy’s uncertain impact on global growth and inflation. Given what we know now, rates could probably move 25 to 50 basis points lower given the Fed’s view that this is a “mid-cycle adjustment to policy.”

Q: What’s your outlook for various bond sectors for the rest of 2019?

During past “insurance” cuts, the rates markets have generally traded in a range waiting for more substantive data to gauge policy’s impact on growth. The credit markets also trade in a range. Unless there’s a deterioration in the factors the Fed has mentioned, credit generally outperforms in an environment where carry, or coupon income, is a main driver of bond returns.

Q: Any sectors you would particularly favor in this environment?

Overall, in the taxable space, we’re recommending higher-quality portfolios of intermediate duration (4-6 years). If the Fed cuts further, the yield curve will steepen and the belly of the curve will hold its valuation. The short end of the curve will rally but distribution yields will fall. We’re scaling out of our credit bets because valuations are expensive from a historical perspective.

At this point in the cycle, we believe higher-quality, multi-sector portfolios are worth focusing on. In those portfolios, we’re reducing credit exposure, emphasizing Treasuries, agencies and investment-grade corporate bonds. While it’s possible to use high-quality portfolios in a core satellite approach with high yield, we are mindful that the spread sectors of the market are expensive.

On the tax-exempt side, municipal bonds look somewhat rich after a year of a record inflows. As a result, outperformance on a nominal basis relative to Treasuries is unlikely. But for highly-taxed individuals, tax-exempt bonds still are in demand given the value of the tax exemption on income and their low- volatility and high-quality nature, both of which help produce low correlations to stocks.

Tags Fixed Income .

Views are as of the date above and are subject to change based on market conditions and other factors. These views should not be construed as a recommendation for any specific security or sector.

Bond prices are sensitive to changes in interest rates, and a rise in interest rates can cause a decline in their prices.

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