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The wait

What is the historic situation facing the US Treasury market? Will safe-haven assets live up to their name once more? And how do our experts interpret current conditions? Explore our latest Research Weekly to find out more.

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Some claim that H1 2022 saw the worst US Treasury market since 1788. Others say it was the worst on record. In any case, no investor can claim to have ‘been there, done that’, so an open mind is needed after safe-haven bonds failed to honour their name-giving characteristic. 

Number of the week

Our take: a major growth slowdown is priced into most assets – but not more. We reckon further blows would be needed to derail the consumer-driven economic recovery and the healing of supply chains and turn this into a full-blown recession.

The jury is still out on this, and the next stop is the Q2 earnings season, which should provide a flavour of how corporates have been dealing with the tricky waters lately. A more than 10% expected revenue growth is contrasted by an expected earnings growth of less than 5% for corporate America. Thus, the coming weeks will be about margin squeezing and pricing power, respectively.

With regard to recovery rallies, the inconvenient truth is that, after such devastating breakdowns in sentiment, markets could not rebound sustainably until some months later. This points to a protracted bottoming process this summer and only a transitory bounce that will make any mid-summer rally a rather muted one.

The US Federal Reserve’s fast and complete reversion from an unorthodox monetary policy back to a more conventional one has delivered unprecedented losses on the US bond market.

The good news, though, is that safe-haven bonds should provide insurance against negative economic surprises again – at last. This is welcome information given that they left investors out there alone in the first half of 2022. Overall, the weeks ahead will require patience. Yet while waiting for bottoming patterns to proceed, investors may want to pass the time cherry-picking, for there are attractive single stocks/single markets around.

Why are US bonds facing the ‘worst half-year returns in history’?

The US Federal Reserve’s fast and complete reversion from an unorthodox monetary policy back to a more conventional one has delivered unprecedented losses on the US bond market. The swift termination of Fed bond purchases and the return to a strict anti-inflation policy with higher interest rates have pushed up government bond yields and credit spreads alike, translating into losses for H1 2022 of 12.1% for US 10-year Treasury notes and 15.25% for the BBB bond index, respectively. Total losses have reached historic highs due to the lack of a normal ‘compensation’ effect.

Historically, the negative impact of higher government bond yields in an environment of strong growth is partially offset by the better returns of corporate bonds, and vice versa in times of weakening growth. The simple fact that both Treasury yields and credit spreads have risen in lockstep only shows how deep the distortions are that have been caused by unorthodox monetary policy over the last two years.

Recently, there have been signs of a certain ‘return to normal reaction’. Lacklustre economic news flow eventually translates into lower US Treasury bond yields while pushing the credit spreads of corporate bonds wider. We would not extrapolate this trend but are rather positioning for a spread compression and higher US Treasury bond yields in view of our economists’ claim that a deep and long US recession can be avoided. In this case, we see room for a spread compression and the outperformance of moderate credit risk.

How should you position your portfolio in the view of Julius Baer's experts?

> Contact us to find out