SUMMARY

  • Municipal bonds gained more ground in December, with high yield, investment grade, and taxable muni bonds all posting positive returns for the year.
  • Despite December’s relatively light primary market calendar, 2020 saw record municipal issuance, driven largely by a surge in taxable supply.
  • Bolstered by seasonal supply/demand dynamics and five consecutive weeks of fund inflows, municipal bond yields moved lower in December.

Figure 1 is a market snapshot table displaying yield and spread data as of 31 December 2020 for municipal bond markets and U.S. Treasury markets in maturities of 2, 5, 10, and 30 years. It also displays year-to-date data on municipal market issuance, fund flows, and index returns. Key takeaways are discussed in the copy within the article.

December Month in Review

Major U.S. equity indices rose to record highs in December, even as coronavirus infections continued to rise and other measures of U.S. economic health, including consumer spending and employment figures, printed at unfavorable numbers.Footnote1 Despite a mixed short-term outlook, market participants appear to be gaining a more favorable long-term outlook as Americans begin receiving vaccinations and additional stimulus measures take effect. Meanwhile, the municipal market exhibited a continuation of seasonal dynamics, which began to take shape in November following the U.S. elections and have been characterized by relatively low supply and sustained demand.

In total, just $30.7 billion of new municipal issuance came to market in December, with taxable debt accounting for nearly $9.1 billion.* Even with the recent month’s relatively light calendar, however, total municipal issuance in 2020 exceeded $513.7 billion. This was driven in large part by the $184.9 billion in taxable deals – issued under both municipal and corporate CUSIPS – that came to market throughout the year. 2020 was a banner year for municipal issuance, as both taxable and total issuance climbed to the highest levels on record.Footnote2 Five consecutive weeks of municipal fund inflows in December also helped drive yields down by 1-2 basis points (bps) across the AAA Municipal Market Data (MMD), with the 10-year tenor closing the year at 71 bps.Footnote3

  • December’s FOMC meeting marked the Federal Reserve’s final of the year. At the meeting, Fed policy makers reinforced guidance set in previous meetings for supporting the economy with large-scale asset purchases (quantitative easing) and near-zero short-term rates. Fed officials affirmed that asset purchases are to remain at their current levels and frequencies “until substantial further progress has been made” toward the Fed’s broader employment and inflation goals. Additionally a survey of Fed officials points to short-term interest rates remaining near zero for at least three years.Footnote4
  • Municipal bonds closed the year with an additional month of positive performance. The Bloomberg Barclays Municipal Bond Index returned 0.61% in December, while the Bloomberg Barclays High Yield Municipal Bond Index was up 1.87% and the Bloomberg Barclays Taxable Municipal Index gained 1.08%. Final returns for the year of 2020 for the three indices totaled 5.21%, 4.89%, and 10.52%, respectively.Footnote5
  • Treasury yields, with the exception of some shorter tenors, largely moved in the opposite direction as municipal yields in December. While Treasuries closed out the year with positive performance, they underperformed municipals in the month of December, leading to further tightening in municipal/Treasury taxable-equivalent spreads.** At month-end, taxable-equivalent spreads equated to 11 bps at the one-year tenor (down from 13 bps), 1 bps at the five-year tenor (down from 3 bps), 28 bps at the 10-year tenor (down from 38 bps), and 70 bps at the 30-year tenor (down from 80 bps).Footnote6

Secondary market trade volume in December sprang back from its lowest level in more than a decade. Trades for the month totaled 657,000 (up from 549,000 in November) while par traded amounted to $193 billion (up from $159 billion).Footnote7