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- Risk-on was the sentiment of the month as global high yield, loans and emerging markets outperformed treasuries and investment grade corporates
- High quality government bonds declined (yields increased) as global macro threats de-escalated (China trade tariffs at 10% not 25%, NAFTA agreement reached)
- September was a month of recovery within EM corporates following an eventful summer dominated by idiosyncratic geopolitical events
- The European Central Bank (ECB) reaffirmed its commitment to end its bond-buying program and the Federal Reserve increased the Federal Funds rate as expected in September
Risk-on was the sentiment of the month in September as high yield, loans and equities outperformed Treasuries and investment grade corporates. US Treasuries declined (yields increased) as global macro threats de-escalated (China trade tariffs at 10% not 25%, NAFTA agreement reached). On the technical side, high yield benefitted from lighter than expected new issuance as modest outflows were offset by coupon income. The Federal Reserve (Fed) increased the Federal Funds rate as expected in September. The market (Bloomberg data) is assigning a 72% probability that the Fed will increase rates at its December meeting. The market anticipates two further rate increases for 2019 while the Fed dot plots seem to indicate the potential for three increases. While the short end of the curve moved higher this month, so did the long end – a parallel shift upwards. As the yield curve has historically been predicative of an impending recession, a parallel shift – as opposed to an inversion – is noteworthy as it would indicate no recession yet. While the Fed appears committed to increasing the short-end, what will happen on the long-end? Movements in the long-end are more difficult to anticipate. Do investors want to hold Treasuries? The largest owner of Treasuries, the Fed, will continue to reduce its balance sheet as more bonds roll-off without their proceeds being reinvested. This could potentially put upward pressure on the long-end of the curve. What other Treasury investors do – and by extension – what happens to long-term rates, remains to be seen.
There was a bifurcation within the performance of the European credit market during September with high yield bonds producing strong returns, boosted by increased activity in the primary market, while investment grade credit felt the impact of rates pressures. Following a quiet summer, issuance picked up steam in September with notable high yield deals from Akzo Nobel and Thomson Reuters, which saw strong demand. Other, smaller deals came to the market priced at relatively tight levels, supported by investors who were keen to participate after several months of much lighter supply. The European Central Bank reaffirmed its commitment to end its bond-buying program, reducing its monthly purchases to €15bn from €30bn until the end of the year, although emphasized the continuation of loose monetary policy. Eurozone economic data prints continued to show a weakening of the economy, as the impact of the US/China trade war began to bite. The Italian budget dominated news flow towards the end of the month. While the final budget is not expected until later in October, the preliminary numbers emphasized a higher than expected deficit. This sent yields on Italian government debt higher amid fears of contagion into Italian financials and thus more broadly into the wider European financials landscape.
September was a month of recovery within emerging market (EM) corporates, following an eventful summer dominated by idiosyncratic geopolitical events. By region, some of the strongest returns came from Europe and the CEEMEA region, while returns from Asia were flat. In terms of sector performance, financials and oil & gas credits did well, with the latter boosted by higher oil prices. In terms of credit rating, high yield outperformed investment grade over the month. The countries that had made headlines earlier in the summer – Argentina and Turkey – were among the strongest performers in September as both countries made steps towards economic reforms. In Argentina, investors welcomed an amended deal with the IMF, which increased the size and speed of disbursements of the package. Meanwhile in Turkey, the central bank raised rates 600bps to 24%, a move designed to highlight the bank’s independence from the government and an attempt to anchor the currency and prevent further deterioration. Towards month end, the Turkish finance minister also announced an economic plan to help the country move forward after the recent currency crisis. In Brazil, the presidential election campaign continued to gain momentum with the polarisation of voters made evident in the increasing popularity of far right and far left candidates in early polls. Two rounds of voting will occur in October and a new president will be elected by the end of the month.