Fixed Income Dashboard

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Data points for duration, yield, and credit cycle developments are illustrated in the Fixed Income Dashboard.

Lending Standards Likely Tightening as Demand for Credit Slows
All eyes are on the Fed’s Senior Loan Officer Survey for indications of the extent of fallout from March’s banking sector turmoil. While consensus seems to assume that a looming credit crunch is inevitable and will seal the economy’s fate of a hard landing, the data suggests otherwise. With each passing day it becomes increasingly clear that the bank stress in March was idiosyncratic in nature and not systemic. While some incremental credit tightening is likely, investors seem to be overestimating the magnitude of the damage thanks to those enduring GFC scars. Tightening credit conditions are nothing new as lending standards have likewise tightened rapidly for well over a year. When assessing the impact on growth, however, it’s not just credit conditions that matter, but also the demand for that credit. Corporate and household balance sheets remain remarkably healthy and still flush with cash, thereby reducing the need for credit to fuel consumption and growth. The result: The economy is less credit-sensitive than the consensus would have us believe. Not only is the incremental credit tightening likely to be less than expected, but the effect of tightening on growth will likely be lower as well. With economic growth remaining resilient and even reaccelerating as inflation slowly normalizes, the market appears to have yet again overshot into the hard landing narrative. Once again, the market will likely be forced to push out and price out 2023 rate cuts, which are unlikely to be realized as private sector credit tightening doesn’t provide as much of an assist to the Fed’s inflation-quelling efforts.

Lending Conditions

Source: Natixis IM Solutions, FactSet, Bank of America Merrill Lynch. Lending Conditions data shown from 6/30/90 to 3/31/23.

Growth Expectations Move to the Front Burner
Fixed income is where all the action has been over the past year, and while that theme continues in 2023, there has been a marked shift in the underlying driver of the rates market. While inflation was firmly in control in 2022 as prints continuously surprised to the upside, growth has taken over in 2023 as inflation prints finally peaked, and begin the long journey back to 2%. The game of narrative musical chairs we’ve played to kick off the year has been driven by rapidly shifting outlooks for growth. But truly notable this year is that the positive stock-bond correlation that made 2022 so painful for investors has finally broken down as growth expectations move to the front burner. Carry certainly looks attractive at the front end of the curve as investors can clip a coupon of 4% or more with limited duration risk, but that duration is proving powerful in a year that has already seen a hard landing, a soft landing, no landing, and a so-called “bank crisis.” As inflation continues to moderate and growth remains resilient, duration once again plays an important role in portfolios as an equity risk offset. And as rates will likely bleed higher with rate cuts likely priced out and pushed out, investors who have been reluctant to step out the curve may get one more attractive entry point in Q2.

US Yield Curve

Source: Natixis IM Solutions, FactSet. As of 3/31/23.