Fixed income perspective – from the Investment Advisory Group

Fixed Income Perspectives

January 21, 2022

Think fast – exploring fixed income’s rousing start to ’22

Key takeaways

  • Interest rate outlook – For 2022, our base case is for the 10-year U.S. Treasury yield to move above 2% for the first time since mid-2019, and ultimately test 2.25%. Rate volatility will remain elevated as Fed tapering reduces available liquidity and supply chain challenges obscure inflation and Fed policy outlooks.
  • Federal Reserve (Fed) – We anticipate 3 Fed funds rate hikes in 2022, below the 4 or 5 hikes currently projected by futures markets. Cooler inflation readings and the Fed’s desire for a healthy yield curve support a slightly more cautious approach this year.   
  • Portfolio positioning – A below benchmark duration profile remains prudent. High yield corporate bonds and leveraged loans continue to offer relative value given lower rate sensitivity and yield advantages. Investment grade tax-exempt municipals should deliver portfolios less volatility and relative outperformance to U.S. government debt in a rising rate environment. 

What happened

U.S. fixed income markets kicked off the New Year with an eventful start. Traders have rapidly positioned for stickier inflation and a far more aggressive response from the Fed than anticipated just a few months ago. This recalibration pulled yields higher across the curve. 

Our take

Interest rate outlook – In a matter of a few short months, fixed income market participants have positioned at break-neck speed for a far more hawkish Fed reaction function. Despite their recent move higher, U.S. yields remain too low relative to current inflation readings, our global growth outlook, and robust economic activity. Therefore, we expect yields to continue their ascent, albeit more gradually relative to the past few weeks. Additionally, the Fed is just two months away from ending its monthly asset purchases. The Fed’s massive quantitative easing in response to the pandemic provided a powerful yield suppressant for almost two years. The removal of this demand source should contribute to yields drifting higher.

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