Treasury yields hold steady as economic data remain healthy

Weekly fixed income update highlights

• Treasuries, investment grade and high yield corporates, CLOs, and senior loans all advanced.
• Emerging markets and preferred securities retreated.
• Municipal bond yields were mixed. New issue supply was $13.7B, and fund outflows were -$225M. This week’s new issuance is $11.1B.

U.S. Treasury yields were close to flat last week after U.S. inflation data largely met expectations.

Watchlist

• Treasury yields were close to flat, and we continue to expect elevated volatility, a wider trading band and a modest rally from current levels.
• Spread sectors broadly outperformed Treasuries as economic data remained healthy.
• We expect the technical environment for municipal bonds to improve as the year progresses.

Investment views

We believe fixed income yields generally present one of the best entry points in a generation, creating attractive income opportunities.

Downside economic risks are material, despite strong fundamentals, with tariffs likely to compress consumer spending and weigh on business fixed investment. A U.S. recession is not our base case.

Risk premiums may widen further, with entry points likely to become more attractive over the coming quarters. Duration is likely to reassume its role as a growth hedge.

Key risks

• Tariffs further undermine consumer and business confidence, raising prices while weighing on sentiment and activity.
• Inflation fails to continue moderating as expected, weighing on asset prices.
• Geopolitical flare-ups intensify around the world.

High yield corporates see a return to inflows

U.S. Treasury yields were close to flat last week, with 10-year yields rising 1 basis point (bps) and 2-year yields declining by 2 bps. Consumer price inflation for June was close to consensus expectations, with the core measure picking up from 2.8% year-over-year, to 2.9%. Under the surface, services prices decelerated by more than expected, including shelter inflation. On the other hand, core goods prices showed further impacts from previously-enacted tariffs, with the prices of some import-heavy categories accelerating more sharply. Other economic data remained healthy, with industrial production and retail sales picking up.

Investment grade corporates rallied, returning 0.16% for the week and beating similar-duration Treasuries by 19 bps. Although inflows slowed to $3.8 billion, the overall technical backdrop was supportive. New supply decelerated, with just under $20 billion pricing versus expectations for closer to $30 billion. New issuance continues to be extremely well-digested, with oversubscription rates averaging 5x and resulting in concessions of just 1.4 bps on average.

High yield corporates also rebounded, returning 0.14% and outpacing similar-duration Treasuries by 3 bps. Senior loans returned 0.22%. High yield funds saw a return to inflows, with $872 million entering the market, while loan funds experienced another healthy inflow of $490 million. Both asset classes saw healthy supply, totaling $8.5 billion and $23.2 billion, respectively. The majority of deals in the loan market have been repricing activity, as the average price in the loan market has reached almost 97 cents on the dollar, the highest level since early 2022.

Emerging markets retreated after recent strong performance, returning -0.04% and lagging similar-duration Treasuries by 5 bps. Nevertheless, emerging markets are one of the best-performing major asset classes this year, up 4.89% versus the broad bond market’s 3.22%. Emerging markets funds flipped back to outflows, with -$452 million exiting. New issuance totaled $8.5 billion, and those deals were oversubscribed by 4x on average, reflecting robust demand.

High yield muni yields are increasing

The municipals bond yield curve steepened last week, with short end yields holding steady while the long end increased 22 bps. Some new issue deals struggled to be placed, so dealers cheapened those deals. Some balances remained at the end of the week. Fund flows turned negative after 11 weeks of positive flows, including exchange-traded fund outflows of -$189 million.

Municipal bond yields continue to sell off. The muni market has been inundated with new issue supply all year, and this may continue. Intermediate municipal tax-exempt yields continue to be available at 4%. Longterm yields are available at 5%, which is 102% of the 30- year taxable Treasury bond. Put another way, investors in the top tax bracket receive long taxable-equivalent yields of 8.45%.

Honolulu, Hawaii, issued $649 million general obligation bonds (rated AA+). Underwriters cheapened some parts of the deal, but no balances were available at the end of the day.

High yield municipal fund inflows totaled $34 million. The average high yield muni yield has increased 20 bps month-to-date, and AAA long muni yields have increased 25 bps. A 25 bps yield increase on a 10-year duration portfolio would result in a total return of -2.5%. A 12-year duration portfolio would receive a total return of -3.0%. Some high beta, high yield muni bonds have seen greater yield pressure. Buckeye Tobacco 5s have increased in yield 55 bps month-to-date and produced a total return of -7% in July.

Brightline bond prices decreased meaningfully last week as bondholders reacted to the decision to defer interest on third lien bonds. Market prices appear to have stabilized by week end. First lien prices are at $78, third lien prices are at $60, Commuters are at $85 and even Brightline West bonds are down at $84.

The average high yield muni yield has increased 20 bps month-to-date, and AAA long muni yields have increased 25 bps.

In focus: Emerging markets debt navigates potential headwinds

A firm fundamental backdrop for emerging markets (EM) sovereign and corporate issuers offers ballast even if cracks begin to widen in the global growth outlook.

EM sovereigns are generally backed by prudent fiscal policy, with debt-to-GDP ratios expected to be 40% below those of developed markets despite China’s rampup in spending. In terms of credit outlooks, default rates for EM sovereign and corporate debt are projected to be low versus recent history, and modest compared to historical norms.

While rate movements merit attention due to the sovereign market’s longer duration, yield remains the primary performance driver over the medium- to long-term. Thanks to its elevated yields (7.64% as of 18 July), we think EM debt is well positioned to continue delivering solid risk-adjusted returns. EM investment grade yields offer a 100 basis point (bp) premium versus global peers, while high yield (ex-CCC) provides a 150 bps or more yield advantage – making the asset class worthy of consideration in diversified portfolios.

As far as risks, we’re monitoring the potential for lower commodity prices as global growth continues to slow, as well as increasing volatility in the Middle East. Uncertain U.S. trade policy, evidenced by President Trump’s sudden tariffs on Brazil, also bears watching.