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Muni Bond Rout…Long term muni yields rose 25 basis points last week. The sharp sell came as U.S. Treasury yields rose 16 basis points last week, reaching the highest level in more than six months. Higher-than-expected economic growth and the Fed’s forecast of fewer rate cuts next year led to the bond sell-off. Reflecting volatile market conditions, muni bonds posted losses in four months of 2024, the latest being December. However, the muni bond market is poised to end 2024 with small positive index return of 0.74%, lower than the 6.4% index return logged a year ago. “We would not be against adding some exposure at current levels,” Barclay’s suggested. December’s selloff provides long term investors another opportunity to harvest their losses. Current long term muni yields are currently near this years’ peak. Investors still sitting on a mountain of cash can find some of the best yield opportunities in years in the $4 trillion muni bond market.
Now’s the Time to Park Cash in Muni Bonds… “The muni market has a lot going for it right now, with yields solid even on high-credit-quality issues,” Barron’s wrote this weekend, adding, “Given the run-up in equities valuations, munis could be a good opportunity to diversify while interest rates remain high.” While some financial advisors speculate about muni performance if tax cuts are made permanent, the historical strength of munis during recessions is noteworthy. “High-yield munis are especially compelling right now due to their attractive tax-equivalent yields,” an expert noted that there’s the potential for higher total return, which includes price appreciation and tax-free income, for buyers of longer-duration muni bond funds if rates fall. Municipal bonds currently offer a compelling balance of risk and reward for long term investors in higher tax brackets.
2025 Muni Credit Outlook…The credit outlook for the municipal bond sector in 2025 is largely stable. U.S. states, cities and counties, mass transit, housing finance agencies, healthcare, utilities, higher education sectors and charter schools have been assigned stable 2025 outlooks by Moody’s. Moody’s changed its outlook on K-12 schools from stable to negative because the operating environment has become more difficult. Lower revenue growth and higher wage bills led to the outlook change on K-12 schools. In 2024, most asset classes in the $4 trillion muni bond market saw robust revenue and demand growth that supported operations and debt service obligations.
Fewer Rate Cuts Next Year…The Federal Reserve cut interest rates by a quarter of a percentage point and signaled a slower pace of easing next year. Officials’ projections for rates in 2025 pointed to fewer cuts than previously forecast, underscoring their concern with lingering inflation. policymakers also raised their inflation estimates for next year. Fed officials are projecting half a percentage point worth of cuts in 2025. Four central bankers penciled in one or no quarter points rate cuts next year. Fed chair Jerome Powell said that current monetary conditions are “significantly less restrictive” and policymakers could be “more cautious” as they considered additional easing. Powell said that the December decision had been a “closer call” than at previous meetings.
“Extraordinary Demand” For New Muni Bonds…Orders worth close to three times the amounts of muni bonds offered by Dormitory Authority of State of New York were sold. As a result of the strong retail and institutional demand and resulting oversubscriptions, yields were adjusted lower between 1 to 7 basis points. Yields for the tax-exempt New York bonds range from 2.60% to 4.15%.
Chicago Budget Wins Narrow Approval…The Chicago City Council on Monday narrowly approved Mayor Brandon Johnson’s fourth budget proposal. A slim 27-23 majority approved the first-time Mayor’s budget plan. The last time a budget was even passed this late was in 2009, when Mayor Richard M. Daley passed the 2010 budget in early December. “While Chicago’s approved 2025 budget underscores a continuing commitment to advance pension payments, it virtually guarantees that the city will face another challenging budget year in 2026,” a Fitch analyst noted that the spending plan relies on near-term “unsustainable” resources. Prospects for hiking property taxes, getting new revenue and spending cuts are “unclear at best.” Following the budget approval, Johnson said he’s reaching out to the state for progressive revenue solutions and seeks higher taxes on the wealthy.
MTA’s “Mansion Tax” Bonds…MTA is planning to sell its first “mansion tax” bonds. The $1.3 billion bonds are to be issued in January. The “mansion tax” bonds will be paid from real estate transfer taxes. Last week, MTA approved a $20 billion spending plan for Fiscal 2025. The budget includes a 4% planned fare hike to be approved next year. On January 5, a new congestion toll will begin. Revenue from the congestion toll will not be part of the operating budget but will fund infrastructure upgrades. The MTA’s $19.9 billion spending plan covers operating expenses and includes $2.5 billion for principal and interest payments on $46 billion outstanding bonds. Average ridership currently at 80% of 2019 levels. MTA officials anticipate deficits in 2027 and 2028.
Mega Muni Bonds’ Record High…2024 set a new record for mega muni bond sales. Over 60 muni bond offerings aggregating to $90 billion exceeded the billion-dollar mark. Airports, trains and hospitals accounted for the bulk of mega-muni bond offerings. Rising construction costs led to larger transaction sizes, and issuers found cost efficiencies in larger transactions. Mega muni bonds hit a sweet spot with investors too. In 2024, states and local governments issued $494 billion muni bonds, 36% higher than a year ago.
Compare 30-Year taxable U.S. Treasury yield 4.74% to 30-Year tax-exempt Municipal Bond yield “AAA” 3.89% “AA” 3.56%; “A” 4.25%. For investors in the 35% tax bracket, a 3.9% tax-exempt yield is equivalent to a 6% taxable yield. Top-rated long-term tax-free bonds yield 82% of comparable taxable U.S. Treasuries.