February 5, 2019 | By Hank Cunningham
With the dramatic shift away from tightening by the Federal Reserve, the bond market will react to natural forces. Yields are locked in a narrow trading range with the ten-year anchored close to 2.70%. The two-year note slipped to 2.50%, thus contributing to a modest steepening in the yield curve. Conditions in the corporate bond market, both investment grade and high yield, have improved to a more normal state, with a steady flow of primary issues accompanied by narrowing spreads.
The bond market appears to be in a state of equilibrium, as inflation ebbs and growth slows. The ten-year yield should trade in a range of 2.50% to 3.00%. Close attention should be paid to inflation but any serious uptick seems unlikely.
The U.S. faces an avalanche of new Treasury issuance to fund its swollen deficit and it will continue to reduce its balance sheet, but on a flexible basis.
At the margin, the U.S. dollar could soften and with improvement in energy pricing and in other key commodities, the Canadian dollar could benefit further.
Fixed income investors can therefore look forward to another year of modest returns, in the 2% to 4% range.