Fixed Income Markets: End of the Hiking Cycle
The bond markets have been under extreme pressure since early 2021. Bond investors globally for the past year would rather forget the painful rate hike cycle they experienced, where rates globally rose at a very fast pace as the inflation problem haunted economies everywhere. Our very own Bangko Sentral ng Pilipinas (BSP), raised its policy rates by 425 bps in total since last year, bringing the benchmark rates to 6.25%.
Most recently, BSP Governor Felipe Medalla indicated a pause as inflation pressures appear to be easing. This factor furthers the point of some camps with the view that we may be at the end of the painful hiking cycle. It may not be a certainty, but it appears that we are headed in that direction. Local bond rates rallied (lower yields) by 50-100 bps YTD on views that the BSP will end the hiking cycle this 2023.
After closing at 7% at the end of 2022, the 10Y RPGB recently broke the 6% resistance level and as a result bond funds have seen modest YTD returns of 5.50%-6.50%.
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Is there juice left for the markets?
There is growing concern that the markets were ahead of themselves. Local PHP bond yields dropped 50-100 bps whereas the BSP raised rates by 75 bps YTD before indicating a pause. The current 10Y BVAL is now inverted with the BSP policy rate (5.90% vs 6.25%). Given the huge rally in yields that the market has seen from year-end 2022, the question looms if there are still gains to be expected for the local bond space amidst the inverted bond curve.
It can be viewed that yields may have moved too fast making bonds look expensive, but the fact of the matter is, the hiking cycle is now behind us. The BSP is inclined to pause as already beginning to be communicated but the possibility that they will deliver one more rate hike as insurance remains. The curve being inverted at this point may not be the case a year from now as the BSP is expected to pivot in 2024.
Thus, the possibility of reaping further gains in the bond space remains high as the scenario of BSP reversing its policy stance and cutting rates would benefit local bonds in an 8–10-month period.
Prior to the 2020 CoVid pandemic, the 10Y BVAL rates traded at 4.50%-4.70% which is 90-100 bps from where we are now. The BSP benchmark rate, on the other hand, was at 4.0% before seeing it drop to 2% brought about by the measures required to combat the raging effects by the closure of the economy during the pandemic.
We have seen the highs in rates last year, but it does not mean we should ignore and not lock in the still relatively attractive yields at present.
Short-term rates remain elevated with the 1Y Treasury Bills close to 6.00%. With the BSP set to finally end this painful hiking cycle, the yield curve will normalize to a steeper slope with the shorter maturities also catching up. Investors can be confident in locking in at current yields.
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