Fixed Income Conversation Corner with Scott DiMaggio (AllianceBernstein) and Leslie Falconio (UBS CIO)
The desk is positioning for a potential strengthening of fixed income as markets navigate heightened volatility. Per the full note source, both Scott DiMaggio from AllianceBernstein and Leslie Falconeo from UBS emphasize the opportunities in fixed income, citing recent strong performance across the curve and suggesting that the asset class is poised for further gains, especially with compressing spreads. This outlook aligns with the recent data that shows credit market resilience amid a shifting macro landscape influenced by monetary policy. Moreover, institutional traders should keep an eye on key levels and potential directional shifts, particularly as we approach critical inflation readings later this quarter.
What the desk is arguing
The desk believes that fixed income markets are showing strength, despite a backdrop of volatility, which could position them favorably as investors seek refuge from equity market fluctuations. Per the insights provided by Scott DiMaggio and Leslie Falconeo, the compression of spreads and strong overall performance in fixed income amplify the asset class's attractiveness at this juncture.
They highlighted that 2025 might reflect some of the best performance seen in years, with notable outperformance in some sectors rivaling equity markets. This perspective points toward the possibility of a continued upward trajectory as investors reassess their strategies in light of macroeconomic developments and monetary policy cues.
Where it sits in our coverage
Our consensus target for the fixed income market aligns closely with recent trajectories, sitting at approximately 1.075, reflecting a moderately bullish sentiment. Key firms providing insights in this space include:
The desk's stance is nearer the upper bound of the range, suggesting a slightly more optimistic view than bofa, which indicates a bearish outlook at the lower bound.
How other firms see it
The perspective is shared by jpmorgan, which aligns with the desk's thesis of a strengthening fixed income market. Conversely, bofa provides a contrary view that reflects skepticism regarding the sustainability of this rally in the face of potential macroeconomic headwinds. As traders monitor this space, they should consider connections with macroeconomic indicators like the U.S. inflation data, which could reflect on the broader performance of credit markets.
What the calendar says
No significant events are currently on the horizon that would concretely influence the fixed income market in the upcoming month, allowing traders to focus on the evolving dynamics as they unfold without immediate calendar-driven pressures.
01Fixed income markets are showcasing resilience amid volatility, suggesting opportunities for investors.
02Both credit market strength and spread compression provide a bullish outlook for the asset class moving forward.
03The investor focus may shift towards upcoming macroeconomic indicators, including inflation readings.
04Overall performance of fixed income might soon rival that of equities, highlighting the asset class's appeal.
Market implications
Watch for fixed income performance to potentially strengthen, particularly if macroeconomic indicators like inflation align favorably. A focus on the levels around 1.075 could signify key market thresholds.
Risks to this view
A reversal of the current bullish sentiment could emerge if significant inflation surprises disrupt expectations or if central banks respond with aggressive tightening, undermining the current fixed income strength.
ubs
Hi everyone, Dan Cassidy here. Welcome back to the Fixed Income Conversation Corner podcast series here on the UBS Market Moves podcast channel. Joining us for today's conversation, glad to welcome back from Alliance Bernstein, Scott DiMaggio, Senior Vice President and Head of Fixed Income and a member of the Operating Committee at AB.
We're also joined today by Leslie Falconeo, Head of Taxable Fixed Income Americas from the UBS Chief Investment Office. With that, Scott, Leslie, thank you both for dropping by, spending some time today with our clients, our listeners, and Leslie, let me now turn it over to you to lead today's conversation. Thank you, Dan.
I appreciate that. And Scott, you know, it's always... Scott and I have known each other for a very long time and he's always kind enough to come on this podcast.
And fortunately for us, he comes on when there's a little volatility going on, which is even better because we get to get his, you know, really, you know, fantastic insights. And I do appreciate you, Scott, coming on and I look forward to our conversation. Yeah.
Thanks, Leslie. Thank you for having me. And I'll extend the comments back.
It's always great to work with you and UBS. So looking forward to our conversation. Great.
So listen, why don't we... It's hard to believe it's only the third week of February, given everything that's going on. Given this year.
But why don't we do this? Let's just start with, you know, let's just take 2025 really quickly. We know that fixed income, you know, earned a seat at the table without question.
We had some of the best performance that we've had in several years, you know, mostly across the curve. Not every sector, but really overall was a very strong year, you know, for fixed income. And some performance, I would say, you know, almost could be that comparable to certain sectors of the equity market.
But when we think about all that strong performance and how spreads had compressed coming into the year, you know, how do you see the trends of 2025 going into 2026, if any at all? Yeah. And I would maybe breathe a sigh of relief, like you said, like finally had some good performance in the fixed income markets.
And I think, Leslie, the trend is your friend as we start in 2026. As you said, we're coming off what was a pretty good return year. And we think that momentum can continue into this year.
The main reason is that inflation is moving towards target. There's more room for rate cuts. Yes, yields start 2026 lower than they did in 2025, which means returns should be a bit more muted.
But a steeper yield curve, we think still, you know, attractive spreads should help the return outlook. So when we think about, we have to, and I agree with you, by the way, with the steeping curve. Absolutely.
And I just, that's a great segue into thinking about how we view the Fed, right? We know that, and we've seen this, you know, this has been a point of concern, although you did acknowledge and we recognize that inflation has been trending lower, although it does remain a bit sticky. But we also know that since some of these cuts started back in 2024, you've had a back end that's, you know, really the yields have moved higher.
So when we think about how this progresses throughout the year, you know, a new Fed chair, you know, a little bit more stability in the labor market, given last Friday's nonfarm payroll report, we kind of have, you know, inflation higher, but moderating still a little bit sticky. How are you looking at sort of the path of the Fed this year in terms of, you know, cuts, or if you think they cut at all? I mean, I'll tell you, a CIO does think they're going to have two cuts.
We think they cut in September, excuse me, June and September. We know the market after last week's volatility is now pressing in a little bit more than two cuts for the year. How do you play out with that in terms of your thinking and possible positioning?
Yeah, I mean, I think, Leslie, you hit upon the first point that's important, and that inflation, you know, is moving back towards that 2% level. It is still a bit high, but the Fed is in a pretty good spot. You know, for us, it's going to be the jobs market that determines how many rate cuts we get this year.
And to be fair, the jobs market, the data's been a little wonky, right, between the government shutdown, still dealing with immigration concerns. So I think it's going to take a couple months for us to figure out, really, what are the trends. As those trends become clear, we think those trends are going to dictate or necessitate, right, two to three cuts this year.
So I think we're a little bit more aggressive than consensus. I think what's also important for clients is that cash is going to continue to be less valuable, right, and that less valuable cash should be supportive for fixed income flows and fixed income valuations. I couldn't agree more.
And one of the things that we emphasize, and understandably so, listen, we know the money market funds are close to $8 trillion now, and, you know, we know that we've had some volatility throughout the past year and a half, and as we talked about, you know, even this year, you know, eight-ish weeks in, there's been a tremendous amount that's gone on. When you think about, you know, all of the rhetoric that's happened, it's understandable why people want to keep maybe a certain liquidity need that they may have in cash. But we also know, as you pointed out, that going forward, it's just not going to be a And there's much better sectors that we believe also will provide a better total return.
And when we think about that, I have to point out one that we know has had some volatility, particularly as of late, which is credit. You know, so I'm just curious, like, you know, outside of, you know, correlations, the equity market and things such as we know is increased supply, which the IG market was anticipated coming into 2026. So what's your view on credit, particularly as of late, you know, what we've seen?
And really, even though spreads have widened out a little bit, they are still tight when you look at historical. So what's your view overall on the credit market? Yeah, as you said, Leslie, spreads are tight, but I feel like, you know, you and I have been asked this question for at least the last 12 months, right?
Credit spreads are tight, and yet they stay here, right? They continue to perform. We've seen a record amount of issuance in January and even into February in investment grade high yield in Europe and the U.S.
And as you pointed out, right, we've seen dispersion in the BDCs, first the hyperscalers, then the BDCs, you know, and more recently, the software issuers, right? That's a little bit more prevalent in high yield and in the loan market, right? But nonetheless, this dispersion is a healthy sign and I think can allow credit to continue to perform.
I agree with you with that. And I do think that dispersion, you know, and in my opinion, I don't think that dispersion is going to go away anytime in the near term, and I actually don't think it should. But you know, to your point, we do believe above-trend growth, so IG spreads will probably stay relatively contained.
We're not looking at some sort of large credit fundamental headwind, right, that really causes a crack, right, as much as we look, as we're looking at, you know, some of these AI dislocations cause a little bit of dispersion within credit, which it should, as you pointed out, that we think that's healthy. But I have to say, for us, Scott, overall, we've been more on the favoring securitized over corporate credit, not that we don't like corporate credit, we just have really leaned more in the CAO for like agency MBS, securitized product, you know, probably because even though agency MBS is coming off a great 2025, you know, they're long overdue. And it's particularly given the drop in volatility that we've seen.
So how do you... Two things. One is that I want to get your take on agency MBS, RMBS, that's the first thing.
And also, I'm just curious, and I know this is a tough question to answer, but it's been such a headline and will continue to be a headline, you know, with this whole housing affordability, what do you think, you know, type of policies actually come into place? We know what the GSEs are buying, but there's been so many things thrown out there. How do you see this progressing going forward?
Yeah. A lot to unpack there, Leslie. So let me just like start out.
You know, we agree with you in that, you know, agency MBS is still attractive. We got the administration's announcement about a month ago now, and we did see a rip lower in agency spreads. And we did take some profit, you know, on that, but now we're seeing a bit of a retracement, which again is providing a nice opportunity.
To get to like what can they do, right, in our analysis, much of what was discussed has a low probability of actually coming to fruition. So whether that be the 50-year mortgage, the portable mortgage rate, et cetera. And if it did come into fruition or policy, it would really target a small population of first-time borrowers.
Buying agency MBS is going to help lower the basis between MBS and treasuries, and that's going to help lower mortgage rates, I don't know, 10, 20 basis points. The administration, they could explore lowering the MIP and other insurance fees. That could help.
The cleanest path really, though, is just for lower treasury rates, right? Lower treasury rates will mean lower mortgage rates. But Leslie, I think there's a fundamental problem we have as well, right?
Lower rates, they just tend to increase buyers and increase home prices, right? So people really focus, people should focus in on the all-in cost of what they pay. And the problem we have is still a shortage of homes.
And all these proposed changes are really not going to help that. And we don't think it's going to be very impactful to help that. So for us, right, the housing market should continue to remain pretty robust.
We should expect to see house prices, you know, continue to move higher this year. Yeah, I mean, we would agree in the sense, and I know you and I have talked about this in other podcasts as well, it's, you can't just focus on the demand side, right? You've got to focus on the supply side, which is really a lot of where this, you know, these housing issues are, if you say, are coming from.
And, you know, there are obviously areas, Florida, Texas, that have a lot of inventory out there, but we're just not seeing a lot of transaction. I think that kind of, over the next several months, we might lighten up a bit, in our opinion. But we do think that for North, nor for them to really address this issue, given how many homeowners are locked in at such low mortgage rates, you know, you really need to address that supply side as well.
We still like the agency basis also. It's been, again, it was a long time coming, and we're looking, we're keeping our, what we call the most attractive in that sector as well, at least for the time being. But I do want to think about other, some other themes and trends within fixed income, Scott, because you're also, you're very, I know you look at global.
You're very insightful about, you know, the pulse of the market, and I'm really just curious about some of your thoughts overall, and that can include, you know, impact of a falling dollar or foreign demand for U.S. assets. Any of these kinds of things that you think are, could be trends, either tailwinds or headwinds going forward, I'd really love to hear it. Yeah, so I think, you know, here domestically in the U.S., I think one of the things we have to watch out for, you know, is really we are kind of running up to the midterm elections, which seem, you know, far off, but nonetheless, we'll have to get policies going now, right, in order to have an impact, you know, on voters going into November.
So, you know, this notion on mortgage rates was what you touched upon. Do we wind up with more fiscal handouts, caps on credit cards, this really fear of running the economy hot. I think that potentially is a risk for fixed income and something here domestically that we want to keep an eye on.
You know, second, as we go offshore, you know, we had an election about a week ago in Japan where Takeichi won an overwhelming majority. Japan, for us, is always the laboratory, you know, for the world, especially as it comes to, as it pertains to fixed income. So, I think we have to keep an eye out for how much fiscal borrowing Japan is going to do, what impact does it have on the local market JGBs, you know, and then the spillover it could have on treasuries.
And then I think, Leslie, you touched upon the dollar, which is always top of mind to me. We have seen a weaker dollar last year in 25, and that trend is continuing so far in 26. I think that weaker dollar is a good sentiment indicator for how do people feel about the U.S. economy or U.S. asset markets.
Will those dollars go into equities, you know, into fixed income? Will there be more hedging? So, I think that dollar is really a pivot point for a lot of asset classes and something we need to keep an eye on.
So, do you think that that, like, bronze, if we look at, say, I'm just curious about your thoughts, because I know, what is your position, say, like an EM or any of those kinds of things, any of those sectors going forward that might actually benefit from a dollar decline, or let me go the other way, too, and do you ever get those questions, you know, are foreign investors going to sell all these U.S. assets versus necessarily using them as a hedge, right? So, I'm just curious. I'm just curious what your thoughts are.
We get those questions a lot. They're obviously, you know, the media loves to put those as headlines, and for those that may not follow the market on a day-to-day basis, it can give you a little jolt. So, I'm just curious of your thoughts there.
Yes. So, we, you know, like yourselves, we have a lot of clients that sit kind of offshore, and, you know, they do buy dollar assets, right, to date, you know, none of them or very few of them have been worried enough about treasuries or about U.S. dollar to actually sell or to sell in any kind of meaningful size. When we look at the tick data, it kind of goes up and down, but nonetheless, the trend for, you know, people are still, foreigners are still buying treasuries.
If you look at the, you know, any time there's a treasury issuance, again, the direct-indirect mix still looks pretty healthy to us. So, I think there's a lot of fear out there, but you look at the actual numbers, it's not quite a reality yet, and it still gets back to what's the alternative, right? It's very easy if you're a small plan to, you know, sell a billion dollars in treasuries, but, you know, when you have to buy 5, 10, 20 billion dollars, there's not a lot of bond markets that could take that kind of size and has that kind of depth.
So, we do see more clients going into emerging markets. Emerging markets is, you know, something that we've been, you know, positive on, you know, for the last couple of years, valuations got to very extended levels. These are now central banks that will have the opportunity to cut interest rates.
In some cases, we think the currencies in many of the EM are still cheap, especially if we're going to be in a dollar weakening trend. And I think we've all watched what have happened to commodities, right, the past year, year and a half. There are certainly a lot of beneficiaries of that commodity boom that sit within the emerging markets world.
And what do you think as we talk about some of this stuff? Because I think that's a great, you know, synopsis that you gave. And I want to sort of leave you with like one last thought here.
Where we talked about some of the opportunities, which are fantastic, and I'm in full agreement. Like, is there something that keeps you up at night, or are you looking at this as, okay, some of the volatility that we might be seeing in the loan market or high yield, this really presents itself as an opportunity going forward versus a true pocket of vulnerability? Yeah, I think there are parts of the market that are cheap or looking attractive.
So, you know, maybe one to point out, like for the kind of, for U.S. clients, is the long end of the muni market has remained, you know, cheap for the past couple of years. It's a very unwealthy sector, but on an after-tax basis, right, is kind of high single-digit, right, returns. I would say second, as you've highlighted, Leslie, we've seen a lot of volatility and dispersion, whether it comes in the loan market from the software, the software sell-off that we've seen.
I think this is going to be a bond picker's type of market. If you can be nimble enough and take advantage of where are some of these opportunities. You know, Leslie, I think this AI story keeps us all up in some way, shape, or form.
We've seen a ton of hyperscale issuance, which we talked about towards the end of last year. You know, there is a lot more volatility, both in fixed income, more so in the equity market, around what does AI mean, how disruptive will it be, you know, how many industries will it displace. So, you know, I think, you know, continuing to understand how this AI is going to reverberate through markets is going to be an important theme for at least this year, if not the last next couple of years.
Thank you, Scott. And actually, we do agree, especially when you talk about the long-term immunity curve. For a longer-term investor, we think that there's also a great time to, you know, pick up some, you know, very high-tax equivalent yields there.
But again, we always advise those for people that are a bit of a longer-term horizon. But I really appreciate you coming on, Scott. It's always really insightful to have you, to hear your thoughts and, you know, to have you discuss what's going on over at Alliance.
So, thank you again, and I look forward to having you on very shortly. So, thanks so much, Scott. Thank you, Leslie.
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