The outlook for the muni market is favorable for 2020, but investors should be prepared for twists and turns. Active and flexible strategies that effectively balance risk and reward as conditions evolve can help keep investors on track.
Last year’s municipal returns were the highest in five years, with the Bloomberg Barclays Municipal Bond Index up 7.5%. As yields fell, income-hungry investors helped drive credit spreads lower. As a result, long-maturity and lower-quality bonds performed especially well.
The seemingly insatiable appetite for municipal bonds easily absorbed an uptick in gross new issuance in 2019. In fact, demand for munis was so strong that municipal bond mutual flows reached a record $94 billion.
With yields likely to remain low, we expect continued robust demand for income to readily absorb new issuance in 2020. We think four tactics will serve municipal investors well in this environment:
1) Consider medium-grade municipal credits. As we saw last year, high demand for income translates into a favorable environment for municipal credits rated A or BBB. But technical conditions aren’t the only reason investors should consider allocating a portion of their portfolio to medium-grade municipal bonds in 2020.
Today’s economic expansion is the longest on record, and municipal governments have used the extended period of economic growth and rising employment levels to shore up their fundamentals. State and local government tax receipts have skyrocketed. The Urban Institute recently reported that, for the five months ending November 2019, total state tax revenues rose 5%. Of the 46 states reporting, 41 saw an increase in tax revenue.