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Credit Insights

Quiet Week for Corporate Bond Market During Summer Slowdown

No dramatic news from Jackson Hole.

Following several large transactions priced in the new issue market earlier this month, activity slowed to a crawl last week as the summer slowdown swung into full force. Although trading activity was muted in the secondary market, corporate bonds traded with a positive tone and credit spreads either held steady or tightened slightly. The average spread of the Morningstar Corporate Bond Index (our proxy for the investment-grade bond market) ended the week unchanged at +113; the average credit spread of the BofA Merrill Lynch High Yield Master Index tightened 9 basis points to +389.

The Federal Reserve held its annual conference in Jackson Hole, Wyoming, at the end of last week. Historically, this conference has been an opportunity for the Fed to release research or conduct presentations on topics that were precursors to impending changes in monetary policy. With European Central Bank president Mario Draghi in attendance this year and Federal Reserve chair Janet Yellen holding her scheduled presentation Friday, many market prognosticators were closely monitoring the conference. However, Yellen kept her presentation focused on her stated topic of financial regulation and did not allude to any changes in monetary policy. Similarly, Draghi did not indicate any changes in direction or timing of the ECB's monetary policy.

Among economic indicators released last week, the durable goods orders report was the metric most closely watched by the market. The core capital goods orders of nondefense goods orders, excluding aircraft, increased 0.4%. This rate of growth slightly trailed the Street consensus estimate but remains strong enough to indicate that economic growth is continuing to expand at a moderate pace. After incorporating this data, along with other recently released metrics, the Federal Reserve Bank of Atlanta lowered its GDPNow forecast for the real GDP growth rate on a seasonally adjusted annual rate for the third quarter of 2017 to a still healthy 3.4% from its prior estimate of 3.8%.

While Yellen did not make any comments regarding the timing of balance sheet normalization, and GDP growth remains on track during the third quarter, the market continues to expect that the Fed's balance sheet normalization program will begin following the Federal Open Market Committee meeting Sept. 19-20. The minutes from the July meeting revealed that the Fed remains concerned about a potential resurgence in inflation and that it has not changed its expectation for the economy to expand at a consistent rate. In order to start winding down the size of its balance sheet, the Fed will begin to gradually reduce the amount of interest income and principal repayments it reinvests by $10 billion per month. Once the reduction program begins, the Fed will then increase the amount of reduction by another $10 billion per month until it reaches a cap of $50 billion per month. The Fed will then let $50 billion per month roll off its balance sheet until it decides that it is no longer holding more securities than necessary to implement its monetary policy.

Following a significant outflow the prior week, investors once again withdrew money from the high-yield asset class. Through the week ended Aug. 23, investors pulled $1.1 billion of assets out of the high-yield market. Among the open-end funds, investors withdrew $1.0 billion of funds; across the high-yield exchange-traded funds, there was $0.1 billion of net units redeemed.

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