Municipal Bond News 3/17/25

Muni Bond Rout…Muni Bonds’ Moment Has Arrived, Barron’s…New Muni Bonds Oversubscribed…Recession Fears…Growth Prospects Dim…Rate Cut Odds…New York City Prospects Dim…Rate Cut Odds…New York City Credit Spreads…SALT Reform Talks…

Muni Bond Rout …Muni bond losses steepened last week. Benchmark long term muni bond yields rose 20 basis points last week, the highest yield surge since December 2024. Current muni bond yields are the highest since at least October 2023. Current state and local government bond prices are most attractive this year, compared to taxable U.S. Treasury bonds. Top- rated long-term tax-free bonds yield 92% of taxable bonds, the highest Muni -Treasury yield ratio in 2025 Last week, recession fears led investors to pull cash out of muni bond funds, although high yield bond funds continued to see inflows. The latest inflation readings, consumer sentiment and retail sales are lower than expected. Fears of an economic slowdown have heightened volatility in financial markets, leading to losses in the $4 trillion muni bond market. “We finally are starting to see value,” Barclays suggested that investors should start increasing exposure to muni bonds after a rout this week has cheapened muni bond valuations, noting, “The price is right.”

Muni Bonds’ Moment Has Arrived, Barron’s…“When you’re looking at a taxable equivalent yield, so taking the current municipal yields and factoring in the top marginal tax rate, you’re getting near 6%’s just on yield alone. That’s close to long run equity risk premiums, so you’re getting equity-like returns with downside protection. So, I think that’s what makes me so excited about municipal bonds is that statement right there, and it comes at a higher credit quality,” a large institutional investor told Barron’s last week, adding “Municipal bonds would do very well in a recession scenario. As we talked about, it provides all of the benefits of fixed income, and municipal bonds would move right alongside treasury bonds. The traditional response to any sort of economic slowdown is the Federal Reserve cutting rates, and you’re seeing that already in the markets.”

New Muni Bonds Oversubscribed…State of Illinois and New York City Transitional Finance Authority (‘NYCTFA’) new issue bonds are currently centerstage in the primary muni bond market. The NYCTFA’s offering saw orders nearly five times the amount of tax-free bonds available, resulting in lower-than-expected yields. $1.5 billion high grade NYCTFA bonds fetched a top yield of 4.5%. Additionally, newly issued Illinois sales tax bonds saw strong demand. “The result was an aggressive winning bid on each of the three series, which were among some of the tightest credit spreads the state has received in years.” Illinois’ director of capital markets added that the bond sale “demonstrate continued confidence in the Illinois economy despite the federal government creating economic uncertainty.”

Recession Fears…JP Morgan economists projected a 40% chance of a recession. Noted economist Lawrence Summers said there’s a 50-50 likelihood of a recession this year. Meanwhile, Morgan Stanley economists lowered their 2025 GDP growth call to 1.5% from 1.9%. Additionally, Goldman Sachs, which has also recently lowered its estimates for 2025 economic growth noted, “We have also raised our 12-month recession probability slightly from 15% to 20%.” A recession is often defined as two straight quarters of negative GDP growth. Trade tensions, weakening consumer confidence and high interest rates are weighing on U.S. economic growth.

Growth Prospects Dim…Nearly three-quarters of economists surveyed by Bloomberg said they now see weaker growth in 2025 compared with their estimates at the end of the 2024. Most economists see the risks to inflation and unemployment as primarily to the upside. Fed officials have expressed optimism that labor market conditions will remain solid overall, and inflation will continue to cool. The Fed will provide updated economic, and rate cut projections this week.

Rate Cut Odds…Bond markets now see at least two quarter-point rate cuts by year-end, likely to begin in June. The greatest odds, of about 32%, are for three quarter-point reductions by December. There’s about a 30% chance there will be more than that and a slightly greater than 30% chance that there will be fewer. Rate cut odds are about the same as a week ago, but they are different from a month ago. In mid-February, the greatest odds were on a single quarter-point cut.

New York City Credit Spreads…New York City’s surplus has declined since fiscal 2022. The city’s operating surplus as a percentage of tax revenue is projected to fall to 4.8% at the end of the current fiscal year, the lowest percentage since fiscal 2014. Before the pandemic, the city’s surplus as a percentage hovered around 7% to 8% of city tax revenue. New York City surplus increased after the federal government flooded state and local governments with pandemic aid. New York City will finish fiscal 2025 with a $3.8 billion surplus, down from $6.1 billion in 2022. Surplus concerns have driven up borrowing costs on the city’s debt. Meanwhile, the spread or yield penalty on New York City general obligation bonds is currently the highest in 2025.

SALT Reform Talks…The House Freedom Caucus, a group of 40 conservative lawmakers within the U.S. House of Representatives, wants to double the state and local government tax deduction (‘SALT’). The head of the caucus said that Congress will surely double the deduction for joint filers to $20,000 by eliminating the current so-called marriage penalty because the deduction is capped at $10,000 whether it’s a single taxpayer or a couple and index the SALT deduction with inflation changes. However, New York lawmakers are seeking a much larger SALT deduction. A New York Republican said, “A mere removal of the marriage penalty isn’t enough for my middle-class constituents. Much more is needed to earn my vote.” SALT changes will be part of a sweeping tax bill that is currently being crafted.

Compare 30-Year taxable U.S. Treasury yield 4.58% to 30-Year tax-exempt Municipal Bond yield “AAA” 4.22%; “AA” 4.51%; “A” 4.67%. For investors in the 35% tax bracket, a 4% tax-exempt yield is equivalent to a 6.46% taxable yield. Top-rated long-term tax-free bonds yield 92% of comparable taxable U.S. Treasuries.