Economic indicators released last week showed signs of continued weakness in the economy. However, what is bad news for everyone else is good news for the bond markets. Consequently, the fixed-income area turned in a good performance throughout most of the week.
This was so because when the economy is slow, there is less demand for credit and the Federal Reserve is less likely to raise interest rates. Conversely when the economy is booming and everyone is smiling, there is generally gloom in the bond markets. This is due to the greater credit demands and the likelihood of the Fed tightening and raising interest rates.
So last week the bond boys were smiling out of their bomb shelters as the equity guys were crying.
In a nutshell, the corporate and government markets improved noticeably while the tax-exempt market-beset with the uncertainities surrounding the future of single-family housing bonds and a relatively light calendar-performed slightly better.
It will probably take another month of economic numbers to give us a clearer idea about the true health of the economy.
That being the case, the markets should bounce around aimlessly, rising and falling with every rumor Normally the new-issue calender would aid in giving some direction, but there is no real size until June.
It would be helpful at this point to look at some yield-spread relationships that could guide you in your choice of securities.
Using the Treasury yield curve (that is, the yield returns at various maturities as you run out the Treasury list from 1 year to 30 years) as your base, other types of securites generally will sell cheaper than the Treasuries and hence offer a higher yield return.
As an example, agency issues such as Federal Home Loan Banks, FNMAs and Farm Credit Banks sell anywhere with from 20 to 40 basis points (a basis point is one one-hundredth of a percentage point) more yield than a comparable Treasury. The average spread generally affords 30 basis points more yield.
As an example, last week, the Treasury notes, 9 1/4 percents of 1983, sold at a price to return 9.28 percent The Federal Home Loan Bank offered a new issue, in 1983 to return 9.50 percent. The spread was 22 basis points in favor of the FHLBs in essence, it was no real bargain being on the low side of past spreads. If the spread were 30 basis points or more, however, it would have been quite attractive. The high return alone helped the issue sell.