Van Eck Global - Since 1955

Defogging Lenses Required - Wednesday, 06/26/2013

The various "cliffs" that we, and virtually the entire business community, have discussed and feared since last November, seem to have appeared suddenly and viciously, sending markets careening toward the fog of uncertainty. The market fall of the past five business days not only took many professionals by surprise, it seems to have cast the outlook into a curious state of confusion. I say that because, prior to the announcement (misinterpreted, in my opinion) last week by the Fed, economists and strategists were generally in agreement on the outlook for the markets and economic growth. Now, those views seem to me to be as difficult to grasp as a handful of Maine fog.

Everyone has an opinion about why or what has happened. Uncertainty, however, is a mighty force which, in the case of muni investors, may cloud decision making. I offer what I consider to be some fog-piercing data points below that I hope make clear some essential realities muni investors can use to rebuild confidence.

  1. In contrast to the sell-off in fixed income, I believe continued growth of the economy further enhances credit quality of most municipal issuers.
  2. With CPI at 1.7%, I believe the "real" rate of return on municipals now is compelling. 10–year AAA muni yields at 2.80% deliver more than 1% of inflation-free income. 30-year AAA bonds yielding 4.13% now offer nearly 2.50% of inflation-free income.1 
  3. The yield ratios of AAA munis to Treasuries — except for 5 years — are all well over 100%, which may attract traders or even corporate investors, potentially setting a floor to recent declines.2 
  4. I think the sudden rise in rates may postpone many new issues, which could reduce the strain on Wall Street balance sheets and free up room to provide more liquidity.
  5. As now seen through clearer lenses, the spreads — the reward for the risk premium of different rated issuers — are now more appropriate, in my view, than any time since the crash of 2008.

I believe all of the above suggests that now is NOT the time to abandon municipals as a core strategy.

1Consumer Price Index (CPI) measures changes in the price level of a market basket of consumer goods and services purchased by households. AAA yield minus CPI equals inflation-free income. Source: Bloomberg as of 5/31/13.

2AAA Municipal Market Data (MMD) curve as of 6/21/13. The municipal to Treasury ratio is a comparison of the current yield of municipal bonds to U.S. Treasuries indicating whether municipal bonds offer attractive yields compared to Treasury yields. If the ratio is below 100%, municipal bonds are yielding less than Treasuries; if the ratio is above 100%, municipal bonds are yielding more than Treasuries.




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Van Eck Associates Corporation does not provide tax, legal or accounting advice. Investors should discuss their individual circumstances with appropriate professionals before making any decisions. This information should not be construed as sales or marketing material or an offer or solicitation for the purchase or sale of any financial instrument, product or service.

Please note that MUNI NATIONs that are written by Jim Colby represent his opinions and these opinions may change at any time and from time to time. MUNI NATION is not intended to be a forecast of future events, a guarantee of future results or investment advice. Current market conditions may not continue. Non-Van Eck Global proprietary information contained herein has been obtained from sources believed to be reliable, but not guaranteed. No part of this material may be reproduced in any form, or referred to in any other publication, without express written permission of Van Eck Global. MUNI NATION is a trademark of Van Eck Associates Corporation.

All indices listed are unmanaged indices and do not reflect the payment of transaction costs, advisory fees or expenses that are associated with an investment in the Fund. An index’s performance is not illustrative of the Fund’s performance. Indices are not securities in which investments can be made.

Any discussion of specific securities mentioned in the commentary is neither an offer to sell nor a solicitation to buy these securities.

Municipal bonds are subject to risks related to litigation, legislation, political change, conditions in underlying sectors or in local business communities and economies, bankruptcy or other changes in the issuer’s financial condition, and/or the discontinuance of taxes supporting the project or assets or the inability to collect revenues for the project or from the assets. Bonds and bond funds will decrease in value as interest rates rise. Additional risks include credit, interest rate, call, reinvestment, tax, market and lease obligation risk. High-yield municipal bonds are subject to greater risk of loss of income and principal than higher-rated securities, and are likely to be more sensitive to adverse economic changes or individual municipal developments than those of higher-rated securities. Municipal bonds may be less liquid than taxable bonds.

The income generated from some types of municipal bonds may be subject to state and local taxes as well as to federal taxes on capital gains and may also be subject to alternative minimum tax.

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