It might be our imagination, but we seem to recall summers when, as the song goes, living was easy. We fondly remember summer as a time for digging our toes in the sand at the beach, sailing a sunfish on a lake, or maybe enjoying a round of golf at the local course. Not so in 2019, at least as far as the bond markets were concerned. Interest rates took a roller coaster ride. Global economic weakness, negative rates overseas, an inverted yield curve at home, trade wars, Brexit, a shifting Federal Reserve, oil refinery attacks in Saudi Arabia, “repo-madness,” and, to top it off, impeachment inquiries, all made this summer very eventful and made us long for apple picking season come fall.
U.S. economic data in July was generally positive, with employment, retail sales, and personal consumption all topping Wall Street estimates. Yet tension was building with pressure on the Federal Reserve to take some sort of pre-emptive action to ward off an economic downturn. The numbers from overseas were decidedly negative, inflation continued to be below the Fed’s comfort range, and interest rates in Japan and parts of Europe fell further below zero. Fed Chairman Powell initially seemed to waiver, starting the month with dovish testimony to Congress before leading the Board to a 25-basis point (bp) rate cut which he characterized as a mid-cycle adjustment. That was enough for credit to rally across the rating spectrum, although the 10-year Treasury note hardly budged.
August was an altogether different story. While we were suffering through 90-degree temperatures here in Beantown, the 10-year Treasury yield dropped a cool 50 bps, a rally the likes of which hadn’t been seen since the financial crisis. As the month began, President Trump made an unexpected announcement of additional tariffs on Chinese imports. At the same time, German economic data pointed to an impending significant slowdown and U.S. manufacturing data were weak. The yield curve took on an unusual “checkmark” shaped inversion, potentially signaling a recession. Given this turn of events, corporate bond buyers shifted from risk on to risk off in short order.