What Happens When No One Has Experience Outside a ‘Big Fixed Income Bull Market’

With fixed income on a tear for decades, few professionals working today have experienced a bear market.

“Prior to the last couple of years, all of us had only ever worked in a big fixed-income bull market,” said one research analyst. But what a difference the past two years have made in these markets. Macroeconomic forces have dominated, including inflation, which peaked at more than 9 percent in mid-2022 while interest rates hit levels not seen since 2001. The U.S. recession forecasted a few years ago — and expected in early 2023 — did not materialize, much to the surprise of market participants.

But whether you are a market veteran or a newcomer: “We’re now all in uncharted territory together,” the same analyst said.

In this unprecedented year for the fixed-income markets — and on the tail end of the results of Institutional Investor’s annual Global Fixed Income survey — II spoke with six top analysts recognized for their acumen across their areas of coverage by their buy-side clients. The analysts who spoke with II have each received the most No. 1 rankings at their firms since the fixed income survey went global in 2019.

Read on to learn more about how they have navigated their sectors, including their career highs and lows, and what they would tell analysts starting out careers in fixed income research.

My specialty is the agency mortgage market, which despite its size is not well understood. Across single and multifamily mortgages, there’s ten trillion dollars of debt outstanding, of which $250 billion trades on a daily basis, and bid offer is not substantially different than cash treasuries. Furthermore, right now nominal spreads on mortgages getting produced today are about 150 basis points to the Treasury curve; putting that in context, the average level over the past 20 years is 65.

That clients want to talk to me. I studied physics, not finance, and my first job was teaching high school science. I’m always a little surprised that clients who have spent their entire careers in the markets and manage hundreds of billions of dollars want to talk to me about how to deploy their investments in the mortgage market. Granted, they’re not really talking to me, they’re using me as a vehicle to get some type of signal through the noise. Since our trading desk has leading market share, we talk to just about every relevant client in the market. That means that we often have a good pulse of what conversations are happening in the market, which can be difficult for the buy side to ascertain without the sell side’s help.

In the last year, I’d highlight two things. I’m the cohead of securitized products research with Jim Egan, and he was basically the only large bank strategist to argue for home prices to remain elevated in 2023 despite the rapid change in affordability. With regards to spreads, we were underweight mortgages versus Treasuries after the regional bank crisis — despite valuations that were at post-global financial crisis wides. We did a double upgrade from underweight to overweight that happened to be timed about as well as we could have hoped and captured a substantial rally. A lot of timing is luck.

You have two ears and one mouth for a reason. I like to tell people that I’m not really that good at coming up with smart ideas; I’m good at listening to smart people. The more you interact with people who know more than you — and read or listen to podcasts — the more you learn. I don’t expect any new analysts to know more than me about the mortgage market, but I expect them to try to learn and ask questions.

Within the automotive sector, it will be critical to understand how companies will migrate to vehicle electrification. Across manufacturing and transportation, it will be important to consider how inflation, particularly higher labor costs, will affect profitability.

The great friendships and relationships that I have built over the last 25 years, not only at Bank of America, but also within the broader investment community.

During the 2008 financial crisis I got several calls wrong. I suffered from confirmation bias and left buy recommendations on too long. That experience taught me to be less entrenched in an idea and prioritize real-time data over prior convictions.

Invest in building relationships for the long run. Years down the line you will be amazed at how many times your path will cross with former colleagues and clients.

Forecasting U.S. rates involves responding to a dynamic, ever-changing landscape of macro influences that can determine the outcome of what’s arguably the most relevant fixed-income market in the world. While 2-year yields are largely a function of the near-term path of monetary policy rates and the evolution of expectations surrounding the Fed, the further out the curve one looks, the more impactful factors such as global growth and inflation expectations quickly become. While it’s difficult to untangle the influence of supply, term-premium, and the safe-haven nature of Treasuries, it’s useful to keep in mind that investors’ focus, and therefore price action, is constantly in flux and each factor is consistently increasing or decreasing in importance.

The professional friendships and relationship that I’ve developed with clients and colleagues throughout the years. The guidance that others have offered and the support that I’ve been given have truly been invaluable. The opportunity to mentor, develop, and help influence the market acuity of those on my team is also something that I truly value.

I’ve always endeavored to remain intellectually honest, but early in my career I tended to overweight the input of others in the formulation of my outlook and forecasts. Throughout the years I came to understand the perils of group think and now try to ensure my process isn’t unduly impacted by the expectations of others in the market.

Internalize that the market is comprised of people, not financial models. Behind every seemingly complex and inaccessible financial model is a decision maker that chose what would drive the inputs and often the outcome.

We advise our clients that consumer sectors are deceptively considered defensive, which can sometimes lead to investor complacency. It's important to be credit selective despite what the industry classification may suggest, and not lose sight of what the financial metrics suggest.

Our team has increased corporate engagement in the retail and consumer sectors with fixed-income investors. We also bring key fixed income topics to the forefront of company discussions through our research and interactions with management.

We underestimated the power that technicals could have in driving performance in the tobacco sector. This led us to reassess our valuation drivers and come to the conclusion that ESG concerns weren't as significant in the sector as previously thought in the market.

Be curious, read every filing on your credits that comes out, and always look for ways to engage with management teams in person.

I'm global head of macro research, in charge of our economists around the world and also in charge of the thematic and credit strategy team. I tend to overweight economic history over econometric modeling due to my university background and belief that lessons from history are under appreciated when people think about markets.

I'm most proud of being very vocal about warning of the problems in the financial system in 2007 and also pre-warning of the huge inflation and Fed hiking risk in this cycle. This is where I think being an economic historian has helped. For the former, you could see the housing and financial sector bubble in a wider context and realize it was unprecedented and unsustainable. For the latter, seeing the money supply spike the most since World War II in 2020, and even further in early 2021, it was clear that inflation would also spike and that the only way to deal with it was to hike aggressively.

I tend to underestimate the appetite for intervention from authorities, which has been unparalleled in history in recent years. It has impacted me personally too. I sold my house in the U.K. in 2006, as I thought we were in the biggest global housing bubble in history. Even with the biggest financial crisis in history, by late 2009 I'd thrown in the towel and bought another one after renting for a few years with no benefit whatsoever.

In addition, nearly two years ago, we forecast a U.S. recession that would likely start around the end of 2023, due to the impact of the lag of what we thought would be a very aggressive Fed hiking cycle. As we near the end of 2023, the consensus has shifted towards a soft landing, so if you interview me next year this might be another one I've got wrong. I still think the view will pan out in the first half of 2024, but if it doesn't, I may have underestimated the slippage in fiscal policy that has seen a bigger deficit in 2023 than expected — perhaps again underestimating stimulus. It would, however, be the first time in history that the Fed has been as behind the curve as it was, and hiked as aggressively as it did, without a recession. But I would say we need to wait for the long and variable monetary policy lags before we dismiss the risks.

The fascinating thing about fixed income is that we've had two opposing multi-decade secular performance runs between 1945 and 2021. We had a substantial bear market between 1945 and 1980 where global investors generally lost between 50 to 80 percent of their money in real terms. Then from 1981 to 2021, we saw a huge bull run where bonds competed with equities on a performance basis with global bonds generally up over 600 percent in real terms over the period with some like Italy up well over 1,200 percent.

So as you start your career, don't just look to those around you for advice. Prior to the last couple of years, all of us had only ever worked in a big fixed-income bull market. We’re now all in uncharted territory together. The good news is that, at the time of publishing, Treasury yields are around their 200 year plus average yield of 4.5 percent, so some value has returned after a decade or so where it looked like it never would.

It takes a village. We work closely with our internal research partners across credit strategies, structured products, rates, and equity research. For example, II Hall of Fame airline equity analyst Jamie Baker has been my partner for 20 years. We also tap into a deep network of contacts curated over decades to help inform our opinions.

First, how we have helped our investor clients navigate the three “100-year floods” we’ve had over the last 25 years I’ve been on the sell-side — September 11, the Global Financial Crisis, and the COVID-19 pandemic. Second, the people I have hired, trained, and mentored, who have spun off into bigger and better roles. Tarek Hamid, II #1 ranked HY energy analyst and head of North America credit research, is a former intern and associate on my team.

Don’t try to time airline bankruptcies. They often happen sooner than most think. We once recommended long risk CDS positions in an airline through the September 20 contract date, and the airline filed six days before the contract expired worthless.

It’s fine to learn on sectors you don’t love. But to be successful long term, you need to live, eat, and breathe your coverage 24/7. It’s the simple reality of how fast the markets can move and how on top of your game you need to be at all times to be successful. And yes, I’m happy to talk to you about who owns that office building you work in, the grocery store you shop at, which credit card programs are best for earning and redeeming miles, or which airline and aircraft you should fly on your next vacation.