U.S. Fixed Income

January 2021 Fixed Income Market Update

For all the unprecedented events of 2020, fixed income markets enter 2021 with roughly similar spreads as they did to begin 2020.
January 2021

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News & nuggets

Virus & Vaccine

A new coronavirus strain first observed in the United Kingdom, which is believed to be significantly more contagious, has spread across borders and been observed in the U.S. in several states. The new strain is a stark reminder that despite approvals for vaccines and the beginning of mass vaccinations, there is still much ground to cover before the world moves on from the global pandemic and its economic effects.

Even apart from the new strain, coronavirus cases continue to remain high; for example, the number of hospitalizations in Texas set records for five consecutive days in December. During 2020, approximately 350,000 Americans died from the virus.

Politics & Fiscal Policy

After the expected “blue wave” failed to materialize in the 2020 U.S. elections the expectations for fiscal stimulus moderated in both scale and timing. After delay, a compromise stimulus package of $900 billion, titled “Coronavirus Response and Relief Supplemental Appropriations Act”, was passed. President Trump threatened not to sign the law based on the $600 checks to individuals, which he argued should have been $2,000. He eventually relented and signed the bill. Afterwards, the House passed a bill to increase the checks to individuals to $2,000, which has been held up in the Senate. The debate around checks to individuals aside, the package includes a 10 week extension to enhanced unemployment benefits, significant support for small businesses, and vaccine funding among other expenditures. Notably, the bill did not include direct aid to states or the liability shield for businesses sought by Democrats and Republicans, respectively.

On January 5, the two remaining open senate seats will be chosen by Georgia voters. With those two seats come control of the senate. If Republicans win one or both of the seats, they will retain control of the senate with a 51 or 52 seat majority. Democrats need to win both seats to have a 50-50 tie, which would then be broken by Vice President Kamala Harris. A win by Democrats, combined with Biden becoming president and control of the house, would likely lead to more short-term stimulus, while a Republican win would split control of government, which has historically been positive for markets.

Monetary policy

The Federal Open Market Committee’s statement from their December 15-16 meeting continued to message strong support for markets. As expected, and to be expected for a prolonged period, the Fed did not change the Fed Funds Rate. The Fed affirmed that asset purchases of at least $120 billion a month would continue “until substantial further progress has been made toward the Committee’s maximum employment and price stability goals.”

While stating their goal of aiding the economic recovery, the Fed also acknowledged the importance of combatting the coronavirus, noting that “a full economic recovery is not likely until people know it’s safe to engage in a broad range of activities.”

Outlook

In our view, it is remarkable that for all the unprecedented events of 2020, fixed income markets enter the new year with roughly similar spreads as they did to begin 2020. While spreads are nearly the same, all-in yields are noticeably lower due to the decline in Treasury rates. Similarly, while we described monetary policy as accommodative entering 2020 and would use a similar description for 2021, the scale is meaningfully different. The same is true of fiscal policy, where the U.S. government has long engaged in deficit spending, but is now in an entirely different category of spending. Coronavirus and its attached policies aside, the largest difference is in some ways the economic momentum entering the year. Entering 2020, projections were for a slowing, but positive economic growth year, while this year most views are for an economic acceleration as the pains of the virus subside and pent-up  demand spurs the economy to growth. The rosiness of economic projections is near ubiquitous, which in itself gives us pause. We see a recovery in 2021 as the best case, but remain mindful of the economic damage wrought in the past year, which cannot be repaired as quickly as markets have healed. Credit markets appear priced to this base case and are likely to be well supported by accommodative monetary and fiscal policy as well as strong demand for income generating assets. In this scenario, rates are likely to drift higher, but we also view duration as a valuable tool against those unexpected occurrences sure to surprise markets that are priced to a strong recovery. Here’s to hoping the 2021 surprises are less severe than those in 2020.

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Disclosures

This is not intended to serve as a complete analysis of every material fact regarding any company, industry or security. The opinions expressed here reflect our judgment at this date and are subject to change. Information has been obtained from sources we consider to be reliable, but we cannot guarantee the accuracy. This publication is prepared for general information only. This material does not constitute investment advice and is not intended as an endorsement of any specific investment. It does not have regard to the specific investment objectives, financial situation and the particular needs of any specific person who may receive this report. Investors should seek advice regarding the appropriateness of investing in any securities or investment strategies discussed or recommended in this report and should understand that statements regarding future prospects may not be realized. Investment involves risk. Market conditions and trends will fluctuate. The value of an investment as well as income associated with investments may rise or fall. Accordingly, investors may receive back less than originally invested. Investments cannot be made in an index. Past performance is not necessarily a guide to future performance.

All investments involve risk, including the possible loss of principal.

Taplin, Canida & Habacht, LLC is a registered investment adviser and a wholly owned subsidiary of BMO Asset Management Corp., which is a subsidiary of BMO Financial Corp.

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