The bear market continues. That is, the bond bear market. Vanguard Intermediate Bond ETF (NYSEARCA:BIV) is down 19.2% from its August 2020 peak. After inflation, the loss is around 30%. BIV closed at a new weekly low on Friday.
BIV: Fresh weekly closing low. The bear market continues.
The good news for some fixed income investors is that corporate credit spreads tightened slightly last week as high yield bonds rallied. Investment-grade credit has been less volatile, but its yield premium over comparable-maturity Treasuries is around 0.2% from highs reached a few times this year.
Corporate Bond Spreads: Off the Peaks
Focusing on the Treasury market, mid-term Treasuries have never had a bleaker start to the year in modern history. While the Barclays Bloomberg Aggregate Bond Index started in 1976, Vanguard’s mid-term cash fund only dates back to 2007.
Meanwhile, however, BIV never performed so badly until early September as it does right now. The decline of about 11% since the start of the year easily makes the 2022 drop the worst on record. A 6% decline there in the calendar in 2013 was the previous low point.
BIV seasonality: the worst expansion ever (created in 2007)
Last week, the Chairman of the Federal Reserve Jerome Powell sat down with the Cato Institute for a seemingly scripted one-on-one. Jay didn’t fire any shots. Like at home Jackson Hole August speech, the tone was direct and the message was clear – the Fed will raise rates above the neutral amount until there are definite signs that inflation is under control and closer to l Fed’s 2% target. Interest rates rose as the yield on US 10-year bonds rose for a sixth straight week.
10-year US Treasury yield: 6 consecutive weeks
The market had become more optimistic about the future state of the economy, you might say, as the key 2s10 spread widened to just -0.14 percentage points last Wednesday. The economic health gauge, however, ended the week at –25bp.
2s10s gap: off the lows, still inverted
All eyes are now on what Tuesday’s Consumer Price Index (CPI) report will reveal. The consensus predicts a decline in the overall inflation rate. It would come on the heels of -0.02% of July change for a second consecutive month of falling consumer prices. Few people would have predicted this scenario earlier this summer.
Key data this week: CPI Tuesday morning
July CPI: two negative basis points
Also on the horizon, impacting both corporate bonds and Treasuries, is undoubtedly the September FOMC meeting next week. It’s almost locked in that the Fed will raise rates by a third consecutive amount of three-quarters points.
According to the CME tool Fed Watch, futures trading has put a 91% chance of such an increase. The Wall Street Journal reported last week that the Fed was leaning in that direction. Although this is just speculation on my part, it seems that the Fed is simply communicating with the market by Nick Timiraos, chief economics correspondent at the WSJ. Think back to last June, when the news broke that the Fed would raise the target federal funds rate by 0.75 percentage points ahead of that month’s meeting.
CME Fed Watch: 0.75 percentage point hike in the bag?
The technical grip
So where do medium-term bonds go? I see two key points on the BIV chart. Resistance is seen at $80 while support is at the June 14th low just above $75. The current $5 range is critical. A breakdown below $75 would portend an additional $5 downside based on a measured move price target. On the other hand, a break above $80 should help send the BIV to its January-February price zone near $85. We should know a lot more after Tuesday.
BIV: Watch $75 and $80
Equity and bond investors should monitor macroeconomic conditions and the reaction of bonds over the medium term. BIV is tracking the broad medium-term fixed income space, and it is precariously close to support. The $75 price must hold or else the bond bears will confirm their control. Watch this week’s CPI report on Tuesday morning and next week’s Fed meeting for volatility catalysts.