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)

What We’re Reading

Market Today | Daily

Weekly Recap | Weekly, Friday

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

Brokered Deposit Rate Indications | Weekly, Monday

Investment Alternatives Matrix | Weekly, Tuesday

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

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

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