Who's Smiling Now?
- Friday, 05/02/2014
The mood and landscape of the municipal bond market at the end of April could not have been more different from the general municipal bond market sentiment of 2013. Those who have paid attention to some of the fundamentals have reason to smile, in my opinion. April marked the fourth consecutive month of positive returns for the municipal bond asset class, as measured by the Barclays Municipal Bond Index, which was up 4.56% YTD as of April 30, 2014. I believe tensions in some former "Eastern Bloc" nations, a sputtering economic recovery, and a municipal market bereft of a more normalized pattern of heavier spring issuance have all conspired to create a strong bid for fixed income.
Further underpinning the municipal market are reports of increased hiring in the U.S. at the state and local government levels, steady improvement in revenue flows, and a continued decline in the number of impairments and defaults as reported in the March edition of Municipal Market Advisors' Municipal Market Brief. Impairments and defaults stood at nine compared with 25 and 22, respectively, in the same time period (January – March) for the prior two years. And what I believe is not to be overlooked is the value story that was created by an oversold market in 2013, now being harvested by certain investors that appear increasingly more comfortable with municipal credit as a potential source of attractive income.
The flow of assets back into municipal bond funds and ETFs in 2014 is especially noteworthy to me in the high-yield sector. The High Yield Muni Morningstar Category, including all ETFs and mutual funds, has seen inflows this year of $2.3 billion as of March 31, 2014. In addition, the yield spread between the Barclays Municipal High Yield Bond Index and the Barclays (investment grade) Municipal Bond Index was at 410 basis points at the beginning of April. That is 128 basis points above the long-term average of 282 basis points and, as noted by Barclays, the widest since February 2012. What I think is even more significant is the yield ratio of the Barclays Municipal High Yield Bond Index to the Barclays U.S. Corporate High Yield Index, which, as illustrated in the chart below, was at an astounding 130.1% at the end of March, its highest ratio in nearly 20 years. In my opinion, the potential opportunity has not gone unnoticed by hedge fund and cross-over corporate debt buyers.
Ratio of Municipal High Yield Index to U.S. Corporate High Yield Index Yield to Worst
December 1995 – March 2014
Source: Barclays Research.
Performance is not indicative of future results; current data may differ from data quoted. Indexes are unmanaged and are not securities in which an investment can be made.
The Barclays Municipal Bond Index covers investment-grade municipal bonds with a nominal maturity of one or more years. The Barclays Municipal High Yield Bond Index covers below investment-grade municipal bonds with a nominal maturity of one or more years. The Barclays U.S. Corporate High Yield Index covers 50 of the most liquid and tradable U.S. dollar-denominated, non-investment grade corporate bonds for sale in the U.S.