Ameriprise Financial : Increased Pressure in the Bond Market Looms

Since the U. S. presidential election, the S&P 500 is higher by 2 percent. And, understandably, there has been a lot of focus on the sector winners and losers and the impact of policy under a new administration. But the real story has taken place in the bond market. The yield on the ten-year Treasury note is higher by 50 basis points after climbing another 20 last week. At 2.35 percent, the yield is the highest since July, 2015. That move equates to a price decline in excess of 4 percent in just seven trading days.

The reaction on the shorter-end of the curve has been less dramatic, though sizeable nonetheless. The yield on the two-year note has risen 20 basis points to 1.06 percent. The corresponding price decline is less than one-half of one percent. But, the two-year yield now matches its recent high from last December and sits at its highest level since April, 2010.

High yield bonds have had a more muted experience than treasuries, but the yield on the Bank of America Merrill Lynch High Yield Master II index has climbed 18 basis points to 6.89 percent. This relative outperformance has resulted in a 14 basis point contraction in the spread to treasuries.

The Bloomberg Barclays U.S. bond indices are still positive for the year-to-date, with total returns ranging from a high of 14.1 percent for high yield to a low 1.3 percent for treasuries. However, for the month of November, each of the indices is down, with a total return loss ranging from a low of 1.3 percent for high yield to a high of 2.8 percent for corporates.

What's Happening at the Sector Level?

The severity of the move in bonds has been mirrored in the so-called bond proxies among the various equity sectors, although, unlike bonds, the move among equities moderated last week. Since the election, utilities are down 5.9 percent, but were actually fractionally higher last week. Consumer staples are down 4.2 percent, but lost just 0.1 percent last week. And the Dow Jones REIT index is lower by 2.4 percent, but rose 1.1 percent last week. Conversely, the initial optimistic reaction among industrials, healthcare and financials also moderated last week.

The dollar has also surged along with bond yields. The DXY index has climbed 3.4 percent since Election Day.

Speculation of Faster Economic Growth Takes Shape

These moves have come in anticipation of widening budget deficits and somewhat faster economic growth ahead under the new administration. More immediately, the economy is showing signs of accelerating right now. Last week alone, October retail sales rose strongly and September was revised sharply higher. Housing starts rose 25 percent from the prior month, and initial jobless claims fell to their lowest since 1973. The GDPNow economic tracker of the Atlanta Federal Reserve, although subject to change and certainly not infallible, currently indicates growth of 3.6 percent in the fourth quarter. And its hourly wage tracker rose 3.9 percent in October to its highest level since November, 2008. Fed funds futures are now applying a 98 percent probability of a rate hike in December according to Factset.

About the only thing that didn't rise was inflation. The headline rate of consumer prices remained at 1.6 percent year-over-year in October, while the core rate slipped to 2.1 from 2.2 percent. Producer prices fell on both measures. OPEC may have something to say about the inflationary outlook when it meets next week to consider production levels. Brent crude, currently at $47.75 a barrel, has been trading in a $10 a barrel range for the past seven months, bounded roughly on the low end at $44 and on the high-end by $54. If OPEC follows through and crude can firm toward the upper bound of this range, or perhaps break through it, bonds will likely be under even more pressure.

Important Disclosures:
The views expressed are as of the date given, may change as market or other conditions change, and may differ from views expressed by other Ameriprise Financial associates or affiliates. Actual investments or investment decisions made by Ameriprise Financial and its affiliates, whether for its own account or on behalf of clients, will not necessarily reflect the views expressed. This information is not intended to provide investment advice and does not account for individual investor circumstances.
The S&P 500 is an index containing the stocks of 500 large-cap corporations, most of which are American. The index is the most notable of the many indices owned and maintained by Standard & Poor's, a division of McGraw-Hill.
The Bank of America Merrill Lynch High-Yield Bond Master II Index is an unmanaged index that tracks the performance of below investment grade U.S. dollar-denominated corporate bonds publicly issued in the U.S. domestic market.
The Dow Jones REIT Index intends to measure the performance of publicly traded REITs and REIT-like securities. The index is a subset of the Dow Jones U.S. Select Real Estate Securities Index (RESI), which represents equity real estate investment trusts (REITs) and real estate operating companies (REOCs) traded in the U.S. The indices are designed to serve as proxies for direct real estate investment, in part by excluding companies whose performance may be driven by factors other than the value of real estate.
The U.S. Dollar Index (DXY) measures the dollar's value against a trade-weighted basket of six major currencies.
The Bloomberg US Dollar Emerging Market Composite Bond Index measures USD fixed-rate securities issued in emerging markets as identified by Bloomberg. Included in the Index are Bloomberg's USD Emerging Sovereign Bond Index; USD Emerging Market Corporate Bond Index; USD Investment Grade Emerging Market Bond Index and USD High Yield Emerging Market Bond Index. To be included in the index a security must have a minimum par amount of 100MM.
Investment decisions should always be made based on an investor's specific financial needs, objectives, goals, time horizon, and risk tolerance. Investment products are not federally or FDIC-insured, are not deposits or obligations of, or guaranteed by any financial institution and involve investment risks including possible loss of principal and fluctuation in value.

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