What the Fed’s biggest rate hike in decades means for the bond bear market

Historically bad. That’s how he gigantic US $53 trillion fixed income market he has served this year as the Federal Reserve works to reduce high inflation that threatens to wreck the economy.

To boost the effort, the Fed on Wednesday triggered its biggest benchmark interest rate hike in nearly 30 years. But what does that mean for fixed income investments that are already deep in the red?

MarketWatch posed the question to several fixed income professionals to assess what comes next, given the The worst US bond bear market in decades.

What does the 75 basis point rate hike mean?

The Fed finally seemed ready to take off the Band-Aid to help cool inflation for a four-decade high. with its huge rate increase this week.

Investors said the move could bring deeper pain to financial markets in the second half of the year. Or it could also pave the way for more stability in the markets, which could indicate that the worst of the storm has passed.

“The 75 bps rate hike means there is more comfort and confidence that the Fed has control over inflation,” Daniela Mardarovici, co-head of multi-sector fixed income at Macquarie Asset Management, told MarketWatch.

“In the previous meeting, Chairman Powell conveyed to the world that the Fed understood the impact inflation was having. This time those words became actions,” Mardarovici said.

However, he also said that it is “highly unlikely that we have seen the end of detention and lack of liquidity in the market”, given that there are quite a few rate hikes left before the Fed comes to its new dot chart forecast about 4% benchmark rate by the end of next year.

Read: As the Fed aggressively raises rates, here are 4 takeaways from Jerome Powell’s press conference

How bad are bond yields?

To get a sense of the downturn in 2022, the roughly $10 trillion US corporate bond market has posted a negative 15.8% total return year-to-date for its large investment-grade segment. , according to data from CreditSights.

In dollar terms, the shocking sale has more than $300 billion in highly rated corporate bonds trading at prices below $75, from Apple Inc. AAPL,
+1.15%
to JP Morgan Chase & Co. JPM,
-0.35%,
according to BofA Global.

Yields for the US aggregate bond index were negative 10.7% and down 9.9% for US Treasuries, in the year to June 10, according to the latest report from the Nuveen fixed income team. weekly report.

“What may be market volatility for some, is the ability to feed children, drive to work and stay in a home for millions of people in the US alone.”


— Daniela Mardarovici, Co-Head of Multi-Sector Fixed Income at Macquarie Asset Management

“2022 will most likely be a historically bad year for fixed income,” Christopher Heckscher and William Hines, fixed income investment managers at abrdn, told MarketWatch.

Still, the rate of return on fixed-income offerings for the rest of 2022 will be more relevant, they said, given rising yields worldwide on bonds. US investment grade bond yields shot up to almost 5% this week, from around 2% a year ago. They were glued about 8.5% this week for high yield bonds or “junk bonds”.

Stronger yields could help fixed income recover some of the negative performance, but Hines and Heckscher still believe investment-grade corporate bonds could post a negative 10% total return for the full year of 2022. On the other hand, they said the current minus 16% level could persist if long-term rates continue to push higher.

“Unfortunately, the extremely strong returns of 2019 (+14.5%) and 2020 (+9.9%) had to be recovered at some point as rates and spreads were pressured to extremely tight levels, in large part by Fed’s fault. ”, said the team.

bear market

Rising rates this year have been a key culprit in negative fixed income returns, since November when the Fed began signaling it would get tougher on inflation.

The 10-year Treasury TMUBMUSD10Y,
3,236%
the yield dipped to 3.2% on Friday, after hitting a maximum of 11 years earlier in the week. Stocks returned all of his post profits to the Fed and more, putting the S&P 500 SPX index,
+0.22%
on track for a 6% weekly drop, according to FactSet. The loss officially joined the Nasdaq Composite Index COMP,
+1.43%
in a bear market.

Read: How big is the stock market sell-off? The S&P 500 has erased $9.3 trillion from its market capitalization.

Slowing economic growth coupled with reduced corporate profits due to higher interest rates and dragging inflation could bring credit problems at corporate America back into focus. However, there have been costs, beyond Wall Street, to consider.

“There is absolutely an upside to tightening financial conditions,” said Macquarie Asset Management’s Mardarovici.

“The underlying impact of inflation on billions of people around the world has been so severe and so negative that the Fed was almost forced to act to return to a healthier global economic environment,” he said.

“What may be market volatility for some, is the ability to feed children, drive to work and stay in a home for millions of people in the US alone.”

Read: Recession odds are rising, but the US economy is not doomed to recession

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