Fixed Income

Fixed Income Commentary – October 2022

Strong Dollar -> Time for a Trip Abroad?

In what is becoming an all too familiar refrain this year, bond yields rose significantly in September as numerous developments caused market sentiment to sour. Higher yields, combined with wider yield spreads on non-Treasury bonds, mean that the Fed’s goal of tightening financial conditions is well underway. As a result, the total return for the Bloomberg Intermediate Aggregate U.S. Bond Index was -3.48%, while the Bloomberg Municipal Index returned -3.84%.

On September 21st, the Fed raised the federal funds rate by another 75bps (0.75%), but the bigger news came in the dot plot showing the median projection for fed funds at the end of 2022 at 4.25-4.50%. This figure was higher than market expectations, and this sobering news was also blamed for the equity market declines in the days following the decision.

The Fed’s determination to raise rates quickly and sharply has led to a much stronger dollar. Indeed, seven currencies are lower by double-digit percentages against the dollar. This is good news for the U.S. consumer since it makes travel abroad more affordable (but hinders foreign visits to the U.S.) and reduces inflation from imports, but it is unwelcome news for the currencies on the losing end. Their weaker currencies make imports more expensive, and many countries need to import energy products that were already exorbitantly high due to the Russia-Ukraine war.

Foreign exchange is an extraordinarily complex topic and we do not intend to delve into the effects and ramifications of a strong dollar, but the turmoil is starting to mount. Several central banks have tried to halt their currency declines through market intervention but have little to show for it thus far. While these developments alone should not overly worry U.S. investors, the risk of a spill-over or escalation could impact the domestic bond market. As well, the pain that a strong dollar has caused could affect the Fed’s future rate hike decisions, both in magnitude and pace. One of the reasons the dollar is higher than it has been in the last 30 years (according to J.P. Morgan) is the Fed’s speed in raising rates relative to the others. The BOE’s policy rate is still at just 2.25%, while the ECB is only at 0.75% and Japan remains the last holdout with negative rates at -0.1%. These interest rate differentials really do matter.

A stronger dollar also makes U.S. bonds more expensive for foreign buyers, which exacerbates the problem of higher yields by curbing one source of demand. Foreign buyers often choose to hedge the currency risk, so the increased volatility in the currency markets has only served to weaken bonds.

In addition to the Fed and the strong dollar, there are a few other notable headwinds for the bond market to navigate such as persistent high inflation:

  • The ongoing war in Ukraine which looks set to continue
  • China’s economic slowdown
  • The pandemic, which continues to frustrate supply chains and healthcare systems.

Any one of these problems on their own would be enough of a threat to financial markets. Taken together, it is not terribly surprising that the results are disappointing.

It’s an old cliché but Wall Street is not Main Street, and the economic reports still look reasonably sound: hiring in August was solid, ISM surveys both remain in expansion territory, and homebuilding activity is holding up well (although permits point to declines in coming months). All of this provides plenty of rationale for the Fed to continue raising rates. Asset price deflation and demand destruction will ultimately help reduce inflation, but it has not yet been sufficient.

The positive aspect of all this gloom is that investors are now being compensated more handsomely to take risk. Corporate bond spreads are at their widest levels since 2018, and municipal bond yields on an outright basis are the highest they have been since at least 2013. Treasury yields in the short end of the curve also look attractive, and investors on fixed incomes can now earn a decent yield on their savings rather than chase higher returns that come with higher risk.

In closing, the move to restrictive monetary policy from the uber-loose policy employed during the pandemic has been painful. With the near-universal belief that profligate spending policies led to rampant inflation, it is now becoming less likely that Fed officials would want to turn quantitative easing back on in the event of another emergency. This reduces the Fed’s arsenal and limits them primarily to rate cuts as the policy tool of choice. Should inflation come back toward the 2% target, Fed rate cuts in another year or two could very well turn today’s unrealized bond losses into gains.

Important Disclosures

Maple Capital Management, Inc. (MCM) is an independent SEC Registered Investment Advisor with offices in Montpelier, Vermont and Atlanta, Georgia.

This commentary reflects the views of MCM and should not be considered to be investment or financial advice. MCM does not warranty these views and will not update this communication after the date of publication.  Any mention of specific securities is done for illustrative purposes and the securities mentioned may or may not be held in client accounts.  No assumption or assurance should be taken that securities mentioned will be safe or profitable investments.  Past performance is not indicative of future results

For further information, please contact Steven Killoran at 1-802-229-2838 or at [email protected].  For further information about Maple Capital, including a copy of our informational brochure, please visit our website at

Index Definitions

The Bloomberg US Aggregate Bond Index is a broad-based flagship benchmark that measures the investment grade, US  dollar-denominated, fixed-rate taxable bond market. The index includes Treasuries, government-related and corporate securities, MBS (agency fixed-rate pass-throughs), ABS and CMBS (agency and non-agency).

The Bloomberg Intermediate US Aggregate Bond Index is a broad-based flagship benchmark that measures the investment  grade, US dollar-denominated, fixed-rate taxable bond market with less than 10 years to maturity. The securitized sector is wholly inluded. The index includes Treasuries, government-related and corporate securities, MBS, ABS and CMBS..

The Bloomberg US Treasury Index measures US dollar-denominated, fixed-rate, nominal debt issued by the US Treasury.  Treasury bills are excluded by the maturity constraint, but are part of a separate Short Treasury Index. STRIPS are excluded from the index because their inclusion would result in double-counting.

The Bloomberg US Credit Index measures the investment grade, US dollar-denominated, fixed-rate, taxable corporate and government related bond markets. It is composed of the US Corporate Index and a non-corporate component that includes foreign agencies, sovereigns, supranationals and local authorities.

The Bloomberg US Mortgage Backed Securities (MBS) Index tracks fixed-rate agency mortgage backed pass-through securities guaranteed by Ginnie Mae (GNMA), Fannie Mae (FNMA), and Freddie Mac (FHLMC). The index is constructed by grouping individual TBA-deliverable MBS pools into aggregates or generics based on program, coupon and vintage.

The Bloomberg US Corporate High Yield Bond Index measures the USD-denominated, high yield, fixed-rate corporate bond market. Securities are classified as high yield if the middle rating of Moody’s, Fitch and S&P is Ba1/BB+/BB+ or below. Bonds from issuers with an emerging markets country of risk, based on Bloomberg EM country definition, are excluded.

The Bloomberg U.S. Municipal Index covers the USD-denominated long-term tax exempt bond market. The index has four main sectors: state and local general obligation bonds, revenue bonds, insured bonds and prerefunded bonds.