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  • Jonathan Poyer

Can the Bond Market Get Any Worse? Why There is Optimism for 2023

2022 finished as one of the worst performance years in the last 35+ years across all asset classes. This was especially the case when it came to fixed income and the bond market.

So what to think about when considering what is to come?

Prior to last year, the Bloomberg Agg had never had two negative years in a row, and on average return after a negative year were +12.0%. Since inception, the Bloomberg HY Index has never returned two negative years in a row and on average the annual return after a negative year have been +27.0%.

So let us dig a bit deeper into these markets and see what is going on:

Credit spreads are always something we like to take a look at in analysis. The high yield sell off was not as pronounced as in recent years. Demand or a higher or wider high yield premium would have manifested itself by this time if it had not done so earlier, which predicts for a more mild recession. The lack of anything "gapping out" or spreads blowing out makes the case for a mild recession stronger. Looking at spreads since 2008:

Looking at the AGG itself, the yield to worst is the highest it has been since November 2008:

As this starts to become more attractive, we think that money on the sidelines will find its way first to the bond market and thus the large money market capital will start to move back into bonds albeit with discretion. Most likely, the latter part of 2023 and early 2024 will be seeking for strong fundamentals and potentially into RMBS and other seasoned securities backed by collateral.

Overall, we should see in 2023 flows into bonds and risk assets. History is on the side of bonds coming after a year like 2022. However, as money moves out of money markets and begins to seek out risk, the flows will most likely be more deliberate and discerning into sectors and securities where the fundamentals will be able to carry the day after the beat down the fixed income market took on the technical side in 2022.

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