Rates: When Doves Cry

The next 50 basis-point move in the Treasury yield curve is likely to be a steepening.

August 22, 2019


This Rates sector report is excerpted from the Third Quarter 2019 Fixed-Income Outlook.

The doves cried louder in the second quarter. The December 2020 fed funds futures contract traded at an implied yield of 1.89 percent at the end of March, but ended June at an implied yield of 1.32 percent, adding the expectation of at least four rate cuts over the next 18 months. The FOMC also ended the second quarter with a decidedly more dovish outlook, with members lowering their 2019 median target projection for the fed funds rate in 2020. The Fed then proceeded to lower the target range by 25 basis points in July despite a string of solid economic data in the weeks leading up to the meeting. The fed funds futures market is currently pricing in 60 basis points of additional rate cuts for 2019 following July’s ease, and more by the end of 2020.

Market Is Pricing in Sharp Cuts for 2019 and 2020

Cuts Priced in by Calendar Year in Basis Points

The fed funds futures market is currently pricing in 60 basis points of additional rate cuts in 2019 following July’s ease, and more by the end of 2020.

Market Is Pricing in Sharp Cuts for 2019 and 2020

Source: Guggenheim Investments, Bloomberg. Data as of 7.31.2019.

The U.S. Treasury yield curve bull steepened in the second quarter and yields declined by 30–50 basis points across the curve. The long-end of the Bloomberg U.S. Treasury index (maturities of 20 years and beyond) clipped the best performance with a year-to-date total return of 11.0 percent, the best first half since 2016.

Strong First-Half Performance at the Long End of the Curve

Bloomberg Barclays Treasury Index, 20+ Year Maturities

The long end of the Bloomberg U.S. Treasury index (maturities of 20 years and beyond) clipped the best performance with a year-to-date total return of 11.0 percent, the best first half since 2016. This performance may be difficult to repeat in the second half because yields at the long end would have to decline from about 2.5 percent to 2.0 percent by year-end to return another 11 percent.

Strong First-Half Performance at the Long End of the Curve

Source: Guggenheim Investments, Bloomberg. Data as of 6.30.2019.

We have begun to position portfolios to outperform in a steeper yield curve environment, as we believe the next 50-basis-point move will bring a steepening to the yield curve. If the Fed eases aggressively or, conversely, delivers fewer rate cuts than anticipated, the Treasury yield curve should still steepen: either front-end rates will fall faster than the long end or the long end will sell off more than the front end. The rally in the Treasury market has also led to a large increase in callable redemptions, and the resulting increase in supply has been met with tighter spread levels on new issue bonds. We continue to focus on longer lockout callable debt and fixed-rate bullet Agency bonds.

—Connie Fischer, Senior Managing Director; Kris Dorr, Managing Director; Tad Nygren, CFA, Managing Director

 
Important Notices and Disclosures

This article is distributed for informational purposes only and should not be considered as investing advice or a recommendation of any particular security, strategy or investment product. It contains opinions of the authors but not necessarily those of Guggenheim Partners or its subsidiaries. The authors’ opinions are subject to change without notice. Information contained herein has been obtained from sources believed to be reliable, but are not assured as to accuracy. Past performance is no guarantee of future results.

Investing involves risk. In general, the value of fixed-income securities fall when interest rates rise. High-yield securities present more liquidity and credit risk than investment grade bonds and may be subject to greater volatility. Asset-backed securities, including mortgage-backed securities, may have structures that make their reaction to interest rates and other factors difficult to predict, making their prices volatile and they are subject to liquidity risk. Investments in floating rate senior secured syndicated bank loans and other floating rate securities involve special types of risks, including credit risk, interest rate risk, liquidity risk and prepayment risk. Guggenheim Investments represents the following affiliated investment management businesses of Guggenheim Partners, LLC: Guggenheim Partners Investment Management, LLC, Security Investors, LLC, Guggenheim Funds Investment Advisors, LLC, Guggenheim Funds Distributors, LLC, GS GAMMA Advisors, LLC, Guggenheim Partners Europe Limited, and Guggenheim Partners India Management.

©2019, Guggenheim Partners, LLC. No part of this article may be reproduced in any form, or referred to in any other publication, without express written permission of Guggenheim Partners, LLC.


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