3Q26 Market Themes + Outlook
- The US economy continued to expand, supported by steady employment, resilient consumer spending, strong corporate earnings, and AI-related investment.
- Persistent inflation and geopolitical risks tested that strength as the US-Iran conflict entered its seventh month.
- Citing ongoing price pressures, the Fed tightened the policy rate, the first policy action since cutting in December 2025.
- Interest rate volatility rose as the market repriced the expected Fed path amid elevated inflation, fiscal supply, and solid growth.
Taxable Market Insights
- Investment-grade corporates remained resilient despite rising rates, supported by solid fundamentals, persistent fund inflows, and strong investor demand. The Fed increased the federal funds target range by 25bps, its first policy action since December 2025, while record monthly issuance pushed quarterly supply above $509 billion. Softer sentiment late in September drove short corporate spreads wider from 42bps to 51bps.
- Securitized sector performance was mixed as higher rates and increased volatility weighed on longer-duration assets. ABS outperformed given its shorter-duration profile and limited credit concerns, while attractive carry and stable fundamentals supported non-agency CMBS. Agency MBS underperformed Treasuries as rising rates, greater volatility, and the prospect of additional duration extension weighed on relative performance.
Tax-Exempt Market Insights
- Tax-exempt municipals experienced significant volatility during the third quarter, as rising Treasury yields drove 10-year AAA muni yields 124bps higher. Underperformance accelerated in September, pushing the 10-year Muni/Treasury ratio from 71% to 78%.
- Municipals offered increasingly attractive relative value, with 10-year AAA yields reaching their highest level since 2008. Housing and healthcare remained particularly compelling areas of relative value.
