Total Return Perspectives: June 2021
Following the June Federal Open Market Committee (FOMC) meeting, the Treasury curve flattened as the market reacted to a more aggressive hiking schedule than previously expected. Risk continued to perform well as investment grade (IG) corporates outperformed again and tightened through levels not seen since 2018. Economic data continues to improve showing the reopening remains on track, but investors remain focused on elevated levels of inflation.
- The Bloomberg Barclays U.S. Aggregate Bond Index (BC Agg) ended the month of June returning 0.70% for the period, the third consecutive positive monthly return. The Bloomberg Barclays U.S Corporate Index (+1.63%) continued to lead the major investment grade sectors as duration and spread tightening boosted returns. Treasuries (+0.64%) also continued their positive streak as the yield curve flattened. Mortgage backed securities (MBS) lagged (-0.04%) but showed signs of stability as spreads tightened during the last week of the month.
- Investors remained focused on upward moves in inflation indicators as well as the FOMC’s response to improvements in the economy. June headline CPI increased 5.0% year-over-year and core CPI increased 3.8%, higher than the Fed’s targeted level of 2.0%. The June FOMC Dot Plot showed that Fed policymakers expect two interest rate increases by 2023, pulling forward previous forecasts of an initial hike in 2024. Chairman Powell reiterated his view that current elevated levels of inflation are transitory. Going forward, investors will continue to study data for clarity on whether inflation will subside as temporary factors such as supply chain disruptions resolve or if pricing pressures broaden out with inflation being more persistent.
- The Treasury curve flattened as the market priced in a more aggressive Fed tightening timeline, suggesting that the Fed will be able to contain future inflation. The 2-year yield increased 11 basis points to 0.25%, the 5-year yield increased 7 basis points to 0.87%, while the 10-year yield fell 15 basis points to 1.44%, and the 30-year yield fell 22 basis point to 2.07%.
- The option-adjusted spread of the Corporate Index tightened another 4 basis points in June to 80 basis points. The corporate sector outperformed duration-matched Treasuries by 50 basis points.
- The Bloomberg Barclays U.S. MBS Index underperformed duration-matched Treasuries by 36 basis points as spreads for the sector widened 5 basis points during June. During the period, mortgage spreads got as wide as 74 basis points before tightening in the last week of June, leaving the sector with a spread of 67 basis points. Investors did get some relief as prepayment speeds continued to moderate during the month but the sector continues to grapple with various Fed governors expressing a desire to reduce MBS purchases.
- The fund (+0.05%) underperformed the BC Agg (+0.70%) in June. The underperformance is primarily attributable to a reduced duration profile.
Standardized performance can be viewed here: Monthly and Quarter End Performance