Municipal Bond News 3/18/24

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Households Boost Tax-Free Bond Investments…Muni Bonds Defy Bellwether Yield Surge… Higher Yields, Longer Tax- Free Maturities Sought…Higher For Longer Policy Rates… Federal Tax Hike Centerstage…Calls To Renew Federal Infrastructure Boost…Senior Housing Occupancy Recovers…

Households Boost Tax-Free Bond Investments…Retail investors have steadily ramped up purchases of muni bonds. About half of the $4 trillion muni bonds outstanding are held directly by households. Less than two years ago, households directly owned about 40% of the muni bond market. Direct ownership of muni bonds by household investors has grown at a 9% quarterly pace, per latest Federal Reserve data. Less than a fifth of the muni market is held by mutual funds. Mutual fund purchases of muni bonds have turned positive this year. Mutual funds have logged cash inflows of $8 billion this year, a turnaround from outflows of $17 billion in 2023. Retail investors are the main driver of demand for bonds issued by states and local governments.

Muni Bonds Defy Bellwether Yield Surge…Bellwether U.S. Treasury yields are the highest since October. Taxable bellwether yields surged 20 basis points last week, the biggest jump in six months. However, top-rated state and local government bond yields remained relatively stable. Lower- rated muni bond yields rose. Demand for tax-free bonds has grown. State and local government bond issuance has surged 30% higher than last year. Despite an uptick in muni bond issuance, recent new muni bond issues were oversubscribed by more than five times on average, per Bloomberg. The looming risk of higher taxes and attractive absolute yields has boosted the case for buying muni bonds.

Higher Yields, Longer Tax-Free Maturities Sought…“People are scrambling for additional yield, and there’s very strong demand for single-A, triple-B and even in the high yield space,” an expert told CNBC Pro recently. Analysts suggest that investors consider buying longer-dated tax-free issues that have greater price sensitivity toward changes in interest rates. Short-dated instruments, including cash, have too much reinvestment risk, meaning once they mature in a falling-rate environment, investors will have a hard time finding competitive yields. “You’re renting returns when you sit in cash, versus owning when you start moving out,” an analyst said. A gauge of investor interest, high yield muni bond funds have seen cash inflows for ten straight weeks.

Higher For Longer Policy Rates…Odds of the first-rate cut have been pushed out to July. Bond markets assign fewer odds of a June rate cut. Higher-than-expected inflation in recent months led to the change in rate cut expectations. The Fed will make two or fewer cuts this year as it struggles to complete the “last mile” of its battle with inflation, economists polled by FT-Chicago Booth suggest. Some Fed officials have said they would prefer to make less than the three rate cuts projected by the Fed three months back. At this week’s Fed meeting, the Fed is likely to extend its pause on policy rates and will deliver updated projections on interest rates and the economy.

Federal Tax Hike Centerstage…The richest Americans could face a 44.6% federal rate in investment income, President Biden’s federal budget plan suggests. A top capital gains tax of 39.6%, and a hiked 5% Medicare tax rate up from 3.8% currently are sought. A 5 percent “billionaire tax” on individual wealth above $100 million is also sought. The White House has called for a $5 trillion tax hike on corporations and high earners to cut deficits by $3 trillion over the next decade. Meanwhile. Republicans have called for extending most of the $2 trillion in tax cuts that former President Donald J. Trump signed into law in 2017 and are set to expire in 2025. Tax policy is front and center in an election year.

Federal Budget Plan…Affordable housing, hospitals, public transit, and airports are priorities in President Biden’s Fiscal 25 budget agenda. The White House’s $7.3 trillion spending plan seeks over 2 million new affordable housing units, expands tax credit programs, and provides $7.5 billion in mandatory funding for new Project-Based Rental Assistance contracts to spur affordable housing development. Expanded healthcare access is sought by permanently extending health insurance coverage tax credits. The federal budget seeks to expand Medicaid coverage. A new capital program for airports and more leeway in the use of capital grants to transit agencies are also sought. The White House spending proposal is a starting point which kicks off hearings and debates on Capitol Hill.

Senior Housing Occupancy Recovers…Occupancy has risen about 700 basis points from 2021 lows. Average occupancy, 85%, is just 200 bps lower than pre-pandemic levels. The senior housing sector experienced peak occupancy rate of 90% pre-pandemic. Construction starts continue to trend lower. Active senior housing construction has dropped to about 30,000 units in the nation’s top markets, a 40% drop from the cyclical peak. The fall and gradual rise in occupancy drives the profitability of the senior housing sector. Long term demand for senior housing remains strong. A supply shortfall adds legs to the senior housing sector’s recovery.

Calls To Renew Federal Infrastructure Boost…As the Bipartisan Infrastructure Legislation enacted in 2021 hits its halfway implementation mark, city officials, state transportation agencies and federal officials are lobbying for a reauthorization. The legislation promised over a trillion dollars of infrastructure funding and has delivered a host of federal grants to public transit agencies, highways and airports. Notably, a new $17 billion tunnel under the Hudson River has received almost $7 billion federal dollars from the legislation. Florida airports have received $112 million from recent federal grants, the most that any state received. Separately, President Biden’s federal budget proposal seeks almost $17 billion for public transportation. When combined with annual funding rollout from the infrastructure legislation, public transit agencies could receive over $21 billion federal funds in Fiscal 25.

Compare 30-Year taxable U.S. Treasury yield 4.43% to 30-Year tax-exempt Municipal Bond yield “AAA” 3.65%; “AA” 3.90%; “A” 4.19%. For investors in the 35% tax bracket, a 3.7% tax-exempt yield is equivalent to a 5.7% taxable yield. Top-rated long-term tax-free bonds yield 82% of comparable taxable U.S. Treasuries.