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Fixed Income Insights & Research

Fixed Income Update: Fourth Quarter 2020

Support from governments globally — coupled with potential for economic growth — spurred healthy bond returns.

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Key Points

  • Positive vaccine news, the prospect of fiscal stimulus, and continued support from global central banks buoyed financial markets, continuing their resilience in the face of rising COVID-19
  • Support from global governments — coupled with potential for economic growth — spurred healthy bond returns.

Long-Term Views

  • Central banks must continue to coordinate with fiscal authorities to offset the economic weakness caused by the pandemic. Global central banks will leave rates low for the foreseeable future, to spur economic growth.
  • Despite massive monetary and fiscal stimulus, we still believe in our “Stuckflation” view. Inflation will face persistent headwinds due to COVID-19 related unemployment, demographics, technological efficiencies, low yields globally and a general lack of safe-haven assets available to non-central bank investors.


  • The economy showed signs of improvement during the fourth quarter, but still remains on shaky ground. The unemployment rate dropped from 7.8% to 6.7% and remained flat through the final two months. The labor force participation rate also remains below pre-pandemic levels.
  • Congress agreed on a $900 billion stimulus bill including $600 in direct payments to individuals, an extension of jobless benefits and additional Paycheck Protection Program funds.

Central Banks

  • Global central banks remained accommodative, providing direct liquidity when necessary. Central banks also retracted previous restrictions on bank capital, specifically dividends and share buy backs.
  • The latest economic projections from Federal Open Market Committee participants suggest the federal funds policy rate will remain between 0 and 0.25% at least until the end of 2023. Although U.S. yields are projected to remain low, they are still highest amongst major countries.


  • Strong demand and little supply in the one-to-three-year space left investors competing for short-maturity bonds. Option-adjusted spreads on one-to-three- year bonds closed at a record low of 35 basis points, down 23 basis points on the quarter.
  • Despite outflows from the money market fund industry, Treasury and agency yields continued to grind lower. As typical with year-end, credit spreads widened due to issuers offering higher yields to entice investors away from increasing cash positions.


  • Contributors: security selection, duration
  • Detractor: curve positioning

Current Positioning

Portfolios are positioned neutral- to-long duration relative to their benchmarks.

Treasurys and Treasury Inflation-Protected Securities (TIPS) 

  • After breaking out of pandemic tight ranges, both 10-year and 30-year Treasurys had their largest quarterly gains this year. Vaccine distribution, government stimulus, and election results that favored Democrats boosted long end yields.
  • Although a “Blue Wave” did not materialize by the end of the quarter, 10-year TIPS, a measure of expected inflation, continued to rise as the potential for more fiscal stimulus and larger deficits emerged.


  • Contributors: security selection, sector allocation
  • Detractors: curve positioning, duration

Current Positioning

Portfolios are positioned neutral- to-long duration relative to their benchmarks.

Investment Grade Bonds

  • Corporate bond issuance totaled $215 billion during the quarter, mostly to retire older, more costly debt. Option-adjusted spreads tightened 36 basis points to end the year at 96 basis points, just 1 basis point wider than where it started 2020.
  • Improving growth expectations — paired with continued global central bank backing — helped the asset class return 3.05% during the quarter.

Credit Performance

  • Contributors: asset allocation, security selection, curve positioning
  • Detractor: duration

Current Positioning

Portfolios are positioned neutral- to-long duration relative to their benchmarks, while maintaining a moderate overweight to corporate bonds.

High Yield Bonds

  • Companies took advantage of the improving economic outlook and low funding cost, issuing roughly $95.5 billion in the quarter to push high yield to a record issuance year of more than $432 billion.
  • Industries most impacted by COVID-19 were the largest beneficiaries in the improved high yield market, helping bonds end the year at a record low yield- to-worst of 4.18%. Lower quality credit demonstrated another strong quarter.

High Yield Performance

  • Contributors: security selection
  • Detractor: sector allocation

Current Positioning

Portfolios are positioned to manage the impact of market and sector volatility, while focusing on income generation and downside risk protection. We will continue to be positioned in the mid-range of the credit risk spectrum.

Municipal Bonds

  • State and local issuers continue to refinance outstanding debt and backfill deficits amid strong demand. Taxable municipal bond issuance in 2020 more than doubled from 2019.
  • Tax-exempt issuance was flat year-to-date, despite strong demand from taxpaying investors.

Municipal Performance

  • Positive: duration, yield curve and security selection
  • Detractor: higher quality credit bias

Current Positioning

Interest rate risk should typically be neutral-to-long to start the quarter. State and local general obligation debt and essential service revenue bonds remain our top picks.

IMPORTANT INFORMATION. For Asia-Pacific markets, this information is directed to institutional, professional and wholesale clients or investors only and should not be relied upon by retail clients or investors. The information is not intended for distribution or use by any person in any jurisdiction where such distribution would be contrary to local law or regulation. Northern Trust and its affiliates may have positions in and may effect transactions in the markets, contracts and related investments different than described in this information. This information is obtained from sources believed to be reliable, and its accuracy and completeness are not guaranteed. Information does not constitute a recommendation of any investment strategy, is not intended as investment advice and does not take into account all the circumstances of each investor. Opinions and forecasts discussed are those of the author, do not necessarily reflect the views of Northern Trust and are subject to change without notice.

This report is provided for informational purposes only and is not intended to be, and should not be construed as, an offer, solicitation or recommendation with respect to any transaction and should not be treated as legal advice, investment advice or tax advice. Recipients should not rely upon this information as a substitute for obtaining specific legal or tax advice from their own professional legal or tax advisors. Information is subject to change based on market or other conditions.

Forward-looking statements and assumptions are Northern Trust’s current estimates or expectations of future events or future results based upon proprietary research and should not be construed as an estimate or promise of results that a portfolio may achieve. Actual results could differ materially from the results indicated by this information.

Past performance is no guarantee of future results. Performance returns and the principal value of an investment will fluctuate. Performance returns contained herein are subject to revision by Northern Trust. Comparative indices shown are provided as an indication of the performance of a particular segment of the capital markets and/or alternative strategies in general. Index performance returns do not reflect any management fees, transaction costs or expenses. It is not possible to invest directly in any index. Gross performance returns contained herein include reinvestment of dividends and other earnings, transaction costs, and all fees and expenses other than investment management fees, unless indicated otherwise.

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