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Some Havens in Bonds, but Not Real Assets

Global fixed income benefited from a tumultuous equity market and concerns over slowing growth in the fourth quarter, but liquid real asset investors found few places to hide.

Fixed Income

In the U.S., the Bloomberg Barclays US Aggregate Bond Index rose 1.6% for the quarter, with U.S. Treasuries (Bloomberg Barclays US Treasury: +2.6%) leading the pack. The 10-year U.S. Treasury yield closed the quarter at 2.69%, down sharply from the multi-year high of 3.24% hit in early November. Portions of the yield curve inverted, but the widely watched spread between the 2- and 10-year Treasury note remained positive at 21 basis points (bps).

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TIPS (Bloomberg Barclays US TIPS: -0.4%) sharply underperformed nominal Treasuries on diminished expectations for inflation.

Investment grade corporates (Bloomberg Barclays Corporate: -0.2%) underperformed in spite of muted supply as risk appetite faded and worries mounted over rising corporate leverage. Investment grade spreads widened to 153 bps, levels not seen since July 2016.

The high yield corporate bond market (Bloomberg Barclays High Yield: -4.5%) was also down sharply as demand and liquidity evaporated against the volatile equity backdrop. For the first time in 10 years, there was no high yield bond supply for the month of December. High yield corporates underperformed Treasuries by nearly 700 bps for the quarter as the sector’s average yield-to-worst approached 8%.

Leveraged loans did not escape the carnage and sank 3.5% (S&P LSTA) for the quarter as the sector saw record outflows.

Municipal bonds (Bloomberg Barclays Municipal Bond: +1.7%) fared reasonably well but could not keep pace with U.S. Treasuries. For the year, the Index rose 1.3%.

Overseas, yields also generally fell but U.S. dollar strength detracted from unhedged non-U.S. returns. The Global Aggregate Index rose 1.2% for the quarter on an unhedged basis and was up 1.7% hedged. The dollar appreciated relative to most currencies during the quarter, with the notable exception being the yen.

Emerging market debt was a relatively bright spot given the risk-off environment. Local currency emerging market debt, as measured by the JPM GBI-EM Global Diversified Index, gained 2.1%, with notable outperformers being Turkey (+29.8%), Argentina (+16.7%), and Brazil (+11.4%). The U.S. dollar-denominated JPM EMBI Global Diversified Index fell 1.3%, with performance mixed across its 60+ countries.

Real Assets

Gold (S&P Gold Spot Price Index: +7.1%) was a rare bright spot amid broad losses for real assets. Commodities indices were off sharply. The Bloomberg Commodity Index lost 9.4% and the S&P GSCI Commodity Index plunged 22.9%; the deviation between the two indices was largely attributable to the plummeting price of oil (down 40% and a much larger allocation within the S&P GSCI Index) from a four-year peak of $76/barrel in October to close at $45/barrel on concerns over both supply and waning demand.

Meanwhile, MLPs could not avoid the knock-on effects of lower oil prices (Alerian MLP Index: -17.3%); REITs were down 6-7% abroad and in the U.S., and the Dow Jones Brookfield Infrastructure Index suffered a decline of 6%. TIPS also delivered a negative return as the 10-year breakeven spread narrowed to 1.71% from 2.14% as of Sept. 30 on reduced expectations for inflation.