Muni Market Comes Full Circle

Klotz on Bonds

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<h3>James A. Klotz</h3>

James A. Klotz

The oracles predicting a municipal bond market meltdown must be disappointed.

Investors are plowing funds into munis despite a dip in issuance, as conditions seem more favorable for fiscal aid to state and local governments coping with Covid-19.

“The demand to buy muni bonds is absolutely swamping the supply of them,” said Matt Fabian, a partner at Municipal Market Analytics, according to Reuters.

Muni Market Comes Full Circle

A sign of the times

Consider an important measure of demand – the yield ratio of 10-year, AAA-munis relative to 10-year Treasury bonds. Currently, it’s about 66%, the lowest since 2001. That’s down from about 75% at the beginning of the year. During the market turmoil in March 2020 it peaked at 200% and over the past 20 years it averaged about 100%, according to Barron’s.

What’s more, supply has declined, with weekly new issuance down about 50% so far this year vs. last year. The pullback, however, follows a surge in 2020 when $252 billion worth bonds were issued, the highest in 10 years.

Still, analysts think investors aren’t sated.

“We believe that tax-exempt bonds from municipal issuers providing essential services will outperform other fixed-income asset classes due to their favorable, intrinsic credit characteristics,” said analysts at MacKay Shields, according to Barron’s.

Despite headlines over tepid economic conditions and relatively low yields, there remains the ever-present factor that has attracted muni investors for generations: Dependability.

“Investors should focus on what we believe is the inherent stability of municipal revenue streams sourced from municipal services that are essential to our everyday lives,” MacKay Shields said.

Muni market comes full circle

Today’s market represents an extraordinary turnaround from less than a year ago.

Back in March, amid the coronavirus outbreak, crowds that previously piled into munis did an abrupt U-turn. They sold their munis – along with everything else. We detailed this phenomenon and the opportunity available for investors who kept their head (“Coronavirus Virus Fallout and the Municipal Bond Market”).

Fast-forward several months, and the muni market has come full circle, with investors rushing in.

Fortunately, the worst market-related prognostications at the onset of the pandemic weren’t realized. Revenues of state and local governments were damaged but not decimated. Also, the Fed stepped in and calmed market jitters.

Investors are reinvesting their Jan. 1 interest payments, and there’s widespread expectation that taxes will rise, enhancing the appeal of munis.

Of course, the country continues to struggle with the pandemic and much uncertainty remains.

Clearly individual investors, who maintained their focus, sought bonds that fit their objectives, and kept their interest clock ticking have been rewarded. Just as they always have.

James A. Klotz is the President of FMSbonds, Inc.
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Feb 1, 2021

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