US investment-grade bonds have swung into a loss for the year as the Federal Reserve's commitment to raising interest rates to counter inflation impacts debt markets. The Bloomberg US Corporate Bond Index fell 0.4% on Wednesday, marking a downturn for the year after being up as much as 5% in early February. This index has dropped 2.7% in September, making it the largest loss in seven months.
The initial optimism that many corporate-bond investors had at the beginning of 2023 has been disrupted due to a robust US economy prompting the Fed to raise its benchmark by a full percentage point to 5.5% this year, compared to expectations in December of a half-point increase. This has resulted in Treasury yields reaching multiyear highs this month, raising concerns that refinancing costs will negatively impact corporations waiting for borrowing costs to decrease.
Althea Spinozzi, a senior fixed-income strategist at Saxo Bank, commented on the situation, stating that "Long-term yields are likely to continue to soar for as long as the Fed can convince markets it won’t need to cut rates aggressively in the foreseeable future." She added that “’Higher-for-longer’ means ‘until-something-breaks’.”
This month's decline in corporate bonds is largely driven by a rout in Treasuries, increasing yields across credit markets. Meanwhile, the spread on the corporate debt index over a similar Treasury gauge remains below 120 basis points, aligning with its 10-year average.
A slowdown in bond buybacks has been observed, with companies purchasing bonds at the slowest rate since 2000. This reluctance may prove problematic as debt maturities accumulate and interest rates remain high. North American firms have made just 52 offers to repurchase outstanding debt, translating into $22 billion actually bought back - the lowest amount since at least 2008.
Investment-grade credit has been vulnerable since a US banking crisis occurred in March. The option-adjusted spread to Treasuries for a gauge of financial company bonds is near the widest it has been in over a decade relative to the spread for the broader corporate index.
The US is currently grappling with several economic challenges, including autoworkers on strike, potential government shutdown, and the resumption of student loan payments following a pandemic-induced pause. At the same time, oil prices are rising, Europe's growth is stagnating, and China's property market is faltering.
Despite these challenges, Federal Reserve policymakers remain optimistic, believing that the rise in yields can help combat inflation. As fears of an overheated economy loom, rising yields may contribute to stabilizing growth.
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