Municipal Bond News 1/17/23

Yield Hunting in the Municipal Bond Market/ Opportunities Seized or Missed…Municipal Bonds Rally…Municipal Bonds Oversubscribed…Trust Bond Market, Not Fed, Says Gundlach… Inflation Falls to Lowest in A Year…California’s Budget Deficit… Chicago’s Higher Pension Contribution…Illinois Reserves Boosted…

Yield Hunting in the Municipal Bond Market/Opportunities Seized or Missed… After fifteen years of ultra-low rates, municipal bond yields shot up close to 200 basis points in 2022. The shift in market yields did not go unnoticed. Individual investors began to take advantage of higher tax-free yields in 2022. Individual investors began to gain meaningful tax-free income with a Municipal Bond Specialist’s knowledge of day-to -day market conditions. High-grade state and local government bonds, shunned in earlier years for the lack of yield, made a comeback in individual portfolios. A spate of rating upgrades, which shored the credit outlook for lower-rated states and local governments, reassure individual investors. Reflecting the yield advantage of tax-free bonds, municipal bond yields have averaged 98% of taxable Treasuries over the last year, higher than the 78% average in 2021. Long-term ‘buy-and-hold’ bondholders continue collecting steady tax-free income from state and local government coupon payments while facing paper losses driven by volatile markets. Meanwhile, mutual funds forced selling to meet headline-driven redemptions is a price advantage for bond buyers. Individual investors are able to tap into mutual funds forced selling with the expertise of a Municipal Bond Specialist. A GMS Municipal Bond Specialist can help High Net Worth muni bond investors navigate today’s volatile market by pointing out overlooked and undervalued opportunities on quality investment grade municipal bonds.

Municipal Bonds Rally… 2023 has brought a rally for municipal bonds. This year, municipal bond indices have gained 2.3%, a turnaround from the 8.5% annual decline in 2022. Last week, a gauge of investor demand, cash inflows to municipal bond funds were the highest in more than a year. High-yield municipal funds notched their fifth-biggest weekly inflow on record. After pulling out $144 billion from municipal bond mutual funds last week, investors are returning to buying municipal bonds and receiving higher tax-free yields.

Municipal Bonds Oversubscribed…A flood of orders from investors to buy new issue municipal bonds suggests strong investor demand for municipal bonds. A Florida State University bond issued last week saw bids from eleven underwriters, up from four typically. “That’s an indication of just how much money needs to be put to work,” Florida’s debt director added “There are really, really favorable technicals out there — a lack of supply and money sitting on the sidelines.” A University of Utah bond issue saw orders worth over eight times the number of bonds issued. The bond issuer stated, “The market reception was fantastic.”

Trust Bond Market, Not Fed, Says Gundlach… “My 40 plus years of experience in finance strongly recommends that investors should look at what the market says over what the Fed says,” noted Bond King Jeffrey Gundlach said. Gundlach observed inflation was falling at almost the same rate as it rose and said the market is expecting to reach about 3.0% by year’s end. That’s lower than the 3.5% forecast by economists surveyed by Bloomberg. Markets are expecting interest rates to be cut by the end of the year, down to 4.5%, while Fed officials see rates holding above 5%. As the debate rages, inflation in December fell for the sixth straight month.

Inflation Falls to Lowest in A Year…In December, the consumer price index fell for the sixth consecutive month and hit its lowest level in more than a year. December prices dropped 0.1% from the previous month. December CPI increased 6.5% from a year ago. In December, gas prices fell 9.4% from prior month, while shelter cost climbed 0.8%. Service prices rose, while used cars and airfares cost less. The Fed is paying close attention to services inflation, after energy, food and housing-related costs are stripped out, which is closely tied to the labor market and the wage gains. Amid strong job creation, wage gains have slowed from their peak. While still near a multi-decade high, headline inflation in December is the lowest level since October 2021, a notable decline from the 9.1 per cent reached in June 2022.

California’s Budget Deficit…California faces a $22.5 billion budget shortfall in Fiscal 2024, a reversal from a $100 billion surplus in Fiscal 22. Outlining a $223.6 billion spending plan, Governor Gavin Newsom noted “Nothing about this presentation should surprise anyone.” Volatility in tax revenue comes from the Golden State’s progressive income tax structure. Newsom plans to defer $7.4 billions of dollars of capital investments on public universities, transit, behavioral health, climate change efforts and water projects. ‘Trigger cuts’ may be revered should revenues improve or if federal sources are tapped. More debt is on the table. “We will be issuing $4.3 billion in bonds to preserve cash,” Newsom added there will be no tax hikes or direct spending cuts. The budget plan sustains efforts to pay down pensions that began during former Governor Jerry Brown’s 2011-2019 administration, when Newsom was lieutenant governor. The state’s $22.4 billion rainy day fund, roughly equal to the size of its projected budget deficit, will not be tapped. “I have absolutely no trepidation around California’s fate or future,” Governor Newsom highlighted “I think we’re better positioned than any other jurisdiction in the world.”

Chicago’s Higher Pension Contribution…Chicago made good on its budget promise to put surplus revenue towards pensions, with a $242 million supplemental pension contribution this year. “We are not only making the minimum payment on our pension credit card, but we’re now paying down the outstanding balance,” Chicago CFO added “As a result, the city will save approximately $3 billion in future pension contributions through reduced actuarial interest and improved investment earnings.” Recently boosted city contributions put the pension funds on a path to 90% funding by 2058. Weak funded ratios, between 21% and 40%, have dogged the finances of the nation’s third-largest city for years. Recent efforts towards structurally-sound finances led Chicago to shed its Moody’s junk-rating and move solidly to investment grade rating level from all three major ratings agencies.

Illinois Reserves Boosted…The lowest-rated U.S. state can now boast of a $1.85 billion rainy day fund. The once -barren reserve fund has benefited from surplus revenue deposits. The revenue boost comes from healthier-than- expected pace of income and sales tax collections, record-breaking cannabis taxes as well other one-time revenues. “Responsible budgeting tells bond rating agencies that Illinois remains a good investment and is worthy of more upgrades,” Illinois Comptroller added “As we brace for inflationary pressures, having emergency funds in reserve means Illinois leaders are being accountable.”

Compare 30-Year taxable U.S. Treasury yield 3.68% to 30-Year tax-exempt muni bond yield “AAA” 3.33%; “AA” 3.71%; “A” 4.26%. For investors in the 35% tax-bracket, a 4% tax-exempt yield is equivalent to a 6.15% taxable yield. Top rated long-term tax-free bonds yield 90% of comparable taxable U.S. Treasuries.