Sector Update

November 1, 2021

For at least a few weeks now, we’ve talked about the yield curve flattening and what that could mean from a practical perspective for a portfolio manager if (and it isn’t a small if) a longer-term flattening trend emerges. Why has the curve flattened, and why might that trend continue? If the Fed raises short-term rates sooner than later, bond yields further out the curve could decline as inflationary pressures subside and growth prospects potentially dim. This looks to somewhat resemble the scenario that played out last week. What could cause the curve to steepen? If markets lose faith in the ability or willingness of the Fed to fight inflation, short maturity yields remain anchored by the Fed while longer maturities would move upward to adjust for increased future inflation expectations.

The paragraph above largely sums up the mood of the markets last week. It really began on the previous Friday (10/22) when Fed Chair Powell said, “The risks are clearly now to longer and more-persistent bottlenecks, and thus to higher inflation.” As previously written, one might think this would send yields higher; however, the acknowledgment of the issue along with assuring markets they’d use their tools to “guide” inflation down if it looked more persistent than transitory set rates markets abuzz. So, all last week, there was no shortage of the phrase “pull forward” being used to describe the timeline for the next Fed rate hike. A good illustration of this “pull forward” can be seen from Fed Funds Futures and their implied rates. According to a WSJ article, there was a “77% chance of a rate increase by July 2022 and 89% by September 2022. That is up from around 15% and 27% one month ago”. A bit of an abrupt move in only a few weeks’ time.

Markets were choppy last week, and busy chasing headlines. The curve finished the week decidedly flatter. Often mentioned in this space, the 2s-to-10s spread declined to 105 basis points, its lowest level since August. Shorter maturities decreased less (or increased in the case of the 2-year) than longer maturities. Friday also marked the final trading day of October, so also included further below are our regular looks at broad fixed-income and equity index returns. The biggest events on the calendar this week are the FOMC’s meeting and rate decision this Wednesday followed by Friday’s payroll report.

Today – Yields higher, curve marginally steeper, stocks largely higher

Yields on 2-, 3-, and 5-year maturities still near highs for 2021

Sector Commentary (click on links for more in-depth look)

• Government/Agency Space
  • Bullet spreads unchanged last week
  • Callable spreads wider
    • 5-year and shorter 2-3 bps wider
    • Longer maturities unchanged to 2-6 bps wider
  • Last week, issuance $7.7 Billion — $123 Million called

• Agency CMBS, MBS, and ARMs
  • SBA DCPC spread unchanged last week
    • Spreads are 6 bps tighter over the past month, 11 bps tighter YTD
    • Spreads on seasoned collateral can be higher, more premium risk though
      
      
  • SBA Floating 7(a) Pool factors recently released
    • Equipment loan pool speeds decreased for first time since March
    • Real estate pools rose for the sixth time in seven months
    • 51% of business owners have job openings unable to fill, topping 48-year highs
    • Quality and cost of labor concerns highest since pandemic began
      
      
  • Agency MBS spreads were tighter, 15-year 6 bps tighter and 30-year 6 bps tighter
    • Freddie Mac PMMS shows mortgage rates moved higher
    • 30-year rate at 3.14% (+5 bps from prior) | 15-year rate at 2.37 (+4 bps from prior)
      • YTD — 30-year is + 47 and 15-year is +20 bps
      • 30-year is +49 from all time low on 1/7/21 of 2.65
      • 15-year is +27 from all time low on 8/5/21 of 2.10
        
        
  • Agency CMOs spreads unchanged across the stack
    
    
• Municipals – spreads widen nearly universally for the week
  • BQ Munis, 5-year 7 bps wider, 10-year 2 bps wider, 15-year 6 bps wider
  • GM Munis, 5-year 1 bp wider, 10-year 7 bps wider, 15-year 12 bps wider
  • Taxable Munis, 5-year 4 bps wider, 10-year 2 bps tighter, 15-year 3 bps wider

• Corporates
  • A-Rated Corporates – 2-year 2 bps wider, 5-year 4 bps tighter, 10-year 3 bps tighter

• Vining Sparks Interest Rate Products
  • Rate volatility continued from prior week with swap rates closing mixed across a flattening curve
  • Hawkish Fed comments have tamped down inflation and growth expectations
  • Has led to the curve flattening with the pivot point around the 4-year part of the curve
  • Desk activity slowed going into month-end, do see an uptick in commercial loan hedging activity
  • Virtually all commercial loan hedging deals are now priced using SOFR, FF Effective, or Prime

What We’re Reading

Market Today | Daily

Weekly Recap | Weekly, Friday

Monthly Review (October) | Monthly, 1^st business day

Brokered Deposit Rate Indications | Weekly, Monday

Investment Alternatives Matrix | Weekly, Tuesday

MBS Prepay Commentary (October) | Monthly, 5^th business day

SBA Prepay Commentary (October) | Monthly, 10^th business day

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