Lawrence Gillum | Chief Fixed Income Strategist Last Updated: December 19, 2023
2023 was supposed to be the year for fixed income. But stubbornly high inflationary pressures, four additional Federal Reserve (Fed) rate hikes, rating downgrades from Fitch (and an outlook downgrade from Moody’s), elevated Treasury supply concerns, and the return of the Treasury term premia all kept interest rates from falling throughout the year. In fact, those concerns helped push interest rates to their highest levels since 2007. But over the last several months, those concerns have abated, and yields have moved off their recent highs and back to…around the same levels they were to start the year.
The chart below highlights the current yield to worst (YTW) for many fixed income sectors, with the white diamond representing the current YTW (as of December 15) and the blue dot representing the YTW as of the end of 2022. For many sectors, particularly within the core sectors, yields are just about exactly where they were to start the year. However, in the meantime, these fixed income sectors have all generated positive returns this year.
Despite Everything, Bond Yields Haven't Changed Much This Year
Yield-to-Worst (YTW) Across Fixed Income Sectors (%)
Source: LPL Research, Bloomberg 12/15/23
Disclosures: All indexes are unmanaged and cannot be invested into directly.
Past performance is no guarantee of future results.
Fixed income instruments are fundamentally different than other financial instruments. Bonds are financial obligations that are contractually obligated to pay periodic coupons and return principal at or near par at the maturity of the bond. That is, there is a certainty with bonds you don’t get from many other financial instruments — and that is starting yields (yield-to-worst more specifically, which is the minimum expected yield that can be received from a bond absent an issuer defaulting on its debt).
The point being, for many fixed income sectors, falling interest rates are not a precondition to generate positive returns. Coupon income and the organic price appreciation of bonds maturing at par can be the primary drivers of returns, which is what happened this year. Currently, index coupon levels are still at their highest levels in years, and most bonds are still trading at discounts to par, which will be supportive for fixed income returns in the future. So, whether interest rates fall in 2024 or not, the current set-up for fixed income — core bonds in particular — is still very attractive, in our opinion.
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