June 19, 2019
Luis Alvarado, Investment Strategy Analyst
Fervor in the Muni Market
U.S. municipal bonds (munis) have displayed positive returns so far this year
U.S munis have been an attractive sector for fixed-income investors in 2019, mainly because investors generally view munis as isolated from global economic woes and more aligned with the U.S. economic outlook. Also, recent changes in the tax law have attracted investors from high-tax states seeking shelter from the cap on deductions for state and local taxes.
We expect muni issuance to be slightly larger than last year; 2018’s supply was negatively impacted by the rush of issuance pulled forward into late 2017 due to the uncertain impact of the tax law changes. Overall net supply may remain negative for 2019; however, we believe it will be less negative than 2018. Stronger demand, coupled with reduced supply, has pushed muni valuations to historically rich levels.
What it May Mean for Investors
Relative value in yields and lower macro risk exposure continue to make muni bonds attractive, in our view. We believe investors can find the most value in the 8-13 year part of the yield curve, where they can pick up as much as 80% of the yield of longer high-grade bonds (while taking on less duration risk).1
1 Duration is a measure used to determine a bond/s or bond portfolio’s sensitivity to movements in interest rates. Generally, the longer the duration the more sensitive a bond or bond portfolio is to changes in interest rates.
Each asset class has its own risk and return characteristics. The level of risk associated with a particular investment or asset class generally correlates with the level of return the investment or asset class might achieve.
Investments in fixed-income securities are subject to interest rate, credit/default, liquidity, inflation and other risks. Bond prices fluctuate inversely to changes in interest rates. Therefore, a general rise in interest rates can result in the decline in the bond’s price. Credit risk is the risk that an issuer will default on payments of interest and principal. This risk is higher when investing in high yield bonds, also known as junk bonds, which have lower ratings and are subject to greater volatility. If sold prior to maturity, fixed income securities are subject to market risk. All fixed income investments may be worth less than their original cost upon redemption or maturity.
Municipal bonds offer interest payments exempt from federal taxes, and potentially state and local income taxes. Municipal bonds are subject to credit risk and potentially the Alternative Minimum Tax (AMT). Quality varies widely depending on the specific issuer. Municipal securities are also subject to legislative and regulatory risk which is the risk that a change in the tax code could affect the value of taxable or tax-exempt interest income.
Bloomberg Barclays Municipal Bond Index represents municipal bonds with a minimum credit rating of at least Baa, an outstanding par value of at least $3 million and a remaining maturity of at least one year. The index excludes taxable municipal bonds, bonds with floating rates, derivatives and certificates of participation. An index is unmanaged and not available for direct investment.
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