Corporate bonds suffered last week as interest rates rose and credit spreads widened out. Morningstar's Corporate Bond Index declined 1.39% last week as the 10-year Treasury rose 25 basis points to 2.83% (its highest yield since July 2009) and credit spreads widened out 2 basis points to +146. Year to date, our corporate bond index has declined 3.95% as the 10-year Treasury has widened more than 100 basis points since the end of last year and credit spreads have widened almost 7 basis points.
We think corporate bonds are likely to struggle during the next few months as investors attempt to anticipate when and how quickly the Federal Reserve will taper its asset purchases and forecast the bond market's reaction. Given the economic improvement (gradual employment growth and inflation returning to targeted levels) and technical reasons (lower deficit provides fewer bonds to purchase and the already high percentage the Fed owns in long-dated bonds), we think the Fed will most likely begin to taper its asset-purchase program after the Federal Open Market Committee meeting Sept. 17-18.