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Plain Talk, Part 1 - Thursday, 07/18/2013

Let’s face it: There are some truisms in life that we seem to intuitively know and believe, but will not give credence to until after the fact. One such concept is things are never as good as they seem, nor as bad.

Coming off of nearly three consecutive years of strong performance in the municipal bond market, I anticipated that 2013 might deliver modest returns as it seemed likely that general economic improvement would allow the Federal Reserve to begin to gradually remove its stimulus. Was the market blind to the possibility of a rapid unwind?

We have experienced a difficult month and a half; municipal bond yields have risen a full percent (100 basis points), leading to dispiriting returns so far this year.1 Nevertheless, I caution any reader from reaching a premature conclusion that we have entered a prolonged "dark period" for municipal bond investors. Tax collections and revenues at the state and local level have continued to rise, which I believe buttresses the creditworthiness of those issuers. See the graph below; preliminary data shows that states reported strong growth in income tax in the first quarter of 2013.

State Taxes Showed Strong Growth in the First Quarter of 2013 Image

Source: Individual state data, analysis by the Rockefeller Institute. As of June 30, 2013.

By paying attention to more than just the price of fixed income, in my opinion, it is easy to conclude that there are plentiful reasons not to abandon the market. If credit quality is improving (defaults declining), I believe entry points for "fresh" cash are more appealing in terms of return for unit of risk. A future post will address just that sort of question and suggest where I believe such opportunity exists.

1Source: AAA Municipal Market Data (MMD) curve as of 7/12/13.


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