Fixed Income

May 2021 BMO Fixed Income Market Update

While there has been dramatic spread tightening within the riskiest portion of the credit universe, opportunities may remain within the higher quality segments of high yield.

May 2021

News & nuggets

Unemployment

Payrolls rose by 916,000 in March, easily surpassing the consensus estimate of 675,000 new jobs. The unemployment rate declined to 6.0% from 6.2% and underemployment fell to 10.7% from 11.1%. Workforce participation increased 0.1% to 61.5%. Despite the continued strengthening of the labor market, approximately 8 million fewer Americans are employed than prior to the onset of the coronavirus pandemic.

Virus and vaccine

As of the end of April, 43% of the U.S. population has received at least one dose, with 30% of the population fully vaccinated, up from 29% and 16%, respectively, at the end of March. The U.S. has averaged 2.6 million vaccines administered per day over the last 7 days, up from 2.5 million per day at the end of March, but 11% below the prior week.

A severe second wave struck India, with daily cases peaking near 400,000, almost four times as high as the peak in the first wave. In April, India reported 6.6 million new cases. The country has administered over 150 million doses of vaccines out of a population of 1.3 billion.

Global economy

By contrast to the strong U.S. growth, Eurozone GDP declined 0.6% in the first quarter. As this is the second consecutive quarter with negative growth, the region is considered to be in a technical recession. E.U. Covid support funds are set to be received by countries in the second half of the year, which should help improve economic prospects for the region. Vaccination plans have been running behind schedule, but the E.U. is targeting 70% of adults to receive a vaccination this summer. Hopes for accelerating vaccinations and economic rebound from loosening restrictions suggest a second half economic improvement.

Monetary policy

As expected, the Fed did not raise rates and kept asset purchases at $120 billion per month at the April 27-28 meeting of the Federal Open Market Committee. Markets were looking for hints regarding prospective tapering of asset purchases; while noting progress on vaccines and economic recovery, the Fed highlighted that substantial further progress is needed on the unemployment front and did not discuss a timeline for tapering purchases. The Fed acknowledged rising inflation, but cited ‘transitory factors’ as being largely responsible.

Fiscal policy

After signing the latest Covid stimuls plan and unveiling his $2.25 trillion infrastructure proposal in March, President Biden proposed the American Families Plan. The $1.8 trillion plan includes spending on childcare, paid family leave and increased spending on education. To cover the proposed costs, the plan includes personal income tax hikes.

Earnings

With 60% of companies reporting through the end of April, first quarter corporate profits have grown 45.8% year over year. These results have meaningfully exceeded expectations for the first quarter profits growth, which as of March 31, was for 23.8% growth. The 86% of companies beating expectations is the highest level since FactSet began tracking this measure in 2008. The second quarter is expected to be even stronger with growth of 58.3% and revenue growth of 18.1%. For the full year 2021, corporate earnings are projected to grow 31.7% with revenue growth of 10.9%.

Outlook and conclusions

U.S. economic data continues to improve to a degree nearly unimaginable last year. The progress on vaccines and the path to broader re-openings in the U.S. point to continued strength, in particular given the massive fiscal policy tailwinds near-term. The Fed has acknowledged this recovery, but opted to maintain its high degree of accommodation without signaling a future reduction in support. These factors combine to suggest strong performance from risk assets broadly. Valuations, though, reflect the positive news to date as well as optimism for the future. Of note, the U.S. recovery stands apart from much of the world, which continues to face challenges either directly from the virus itself or the economic impacts resulting from combatting it. This divergence highlights the appeal of U.S. assets in a global context and with the yield pick-up it offers, U.S. fixed income is likely to remain in demand. A potential headwind to the U.S. economic recovery could be the personal and corporate tax hikes under discussion, though their path to approval is unclear given the extremely narrow majorities Democrats hold in Congress. Though in historical context valuations are not cheap for most financial assets, between the strength of the economic recovery and the fiscal and monetary policy supports in play, the demand for non-governmental fixed income seems poised to continue.

Disclosures

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

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.

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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