- We believe the federal tax-exempt municipal market may offer attractive benefits to U.S. investors late in this economic expansion, as we expect municipals to outperform taxables on a taxable-equivalent basis as they have in prior tightening cycles.
- While the late-cycle performance of municipals has been strong historically, it’s important to consider what might be different this time around. A key shift from past cycles is the sharp reduction in bond insurance on new muni issuance, from over 50% before the crisis to about 4% today. This has, in many ways, transformed the municipal market into a credit market.
- We expect credit quality to be a key performance driver when the economic cycle turns, making strong research and active selection critical.
Month in Review
- The Bloomberg Barclays Municipal Bond Index returned 0.54% in February, bringing YTD returns to 1.30%. The Bloomberg Barclays Municipal High Yield Index performed in-line with the investment grade segment of the market, also returning 0.54% on the month, driven by positive returns in the water & sewer and resource recovery sectors.
- Over the month, muni yields rallied across the curve, with yields falling by between 4 and 9 bps. Also, munis outperformed the US Treasury Index over the month. Furthermore, the MMD/UST ratios richened by 4 to 6 percentage points, led by performance on the short end of the curve.
- Muni bond mutual fund demand was positive. during the month. Lipper reported $8.42 billion in net inflows in February, bringing year-to-date inflows to $12.41 billion and almost erasing the large outflows that the sector experienced in December of 2018.
- February supply was up 1% versus previous the month at $25 billion, and up 39% year-over-year. PIMCO expects 2019 supply to be between $350-370 billion, which is an increase of ~4-10% YoY from the $338 billion in supply in 2018. This supply total remains lower than the trailing five year average, which provides a long term tailwind to the muni sector.