Municipal Bond News 6/29/26

Long Munis Lead Bond Rally…Bellwether Yields Decline…Rate Policy Odds…Fed Officials Weigh Policy Outlook…Wealth Taxes Spur Muni Bond Demand… Water Bonds Boom…Puerto Rico Budget Signals Fiscal Restraint…Audit Victory Lap For California, Illinois…

Long Munis Lead Bond Rally…Longer-dated tax-free bonds are big winners in the bond market as investors are optimistic that inflation pressures are likely to ease. Yields on longer dated, high grade muni bonds have fallen to their lowest since March, helping lift bond prices. An index of top-rated long term muni bonds has gained 3.6% this year, outperforming the overall muni bond index return of 2.08%. The rally has been fueled by a sharp decline in energy prices, with crude oil falling 22% over the past month, and returning to pre-war levels last week, offering relief to households, businesses and governments. A sharp drop in oil prices and the Fed’s resolve to fight inflation has reinforced expectations that price pressures will moderate. As inflation expectations retreat, demand for fixed income investments has strengthened, particularly for tax-free bonds.

Bellwether Yields Decline…Currently, 30-year state and local government bond yields are the lowest since early March. Last week, top-rated muni bond yields fell 7 basis points, echoing a similar drop in U.S. Treasury yields. Two-year Treasury yields dipped below 4.10%, down from a 16- month high of 4.23%, and long-term U.S. Treasury bond yields hit 4.86%, the lowest since March. Currently, 30-year state and local government bonds offer a 4.17% long term tax-free yield, equivalent to over 6.4% for 35% income tax bracket investors. That’s over 150 basis points higher than comparable U.S. Treasury bond yields.

Rate Policy Odds…Bond markets slightly trimmed odds of a rate hike this year, and the odds of a July rate hike dwindled to about 30%. Currently, there are four-in-five odds that the Fed will raise policy rates in September Although the Fed’s preferred inflation gauge rose less than expected in May, recent inflation readings rose to the highest in a year. Bond markets anticipate 34 basis points of rate hikes by December, down from 41 basis points a week ago.

Fed Officials Weigh Policy Outlook…An increasing number of policymakers have warned the Fed may need to raise rates this year to reverse inflation. Heartened by a rapid decline in gasoline prices in his district as the price of oil fell following a recent ceasefire agreement between the US and Iran, Richmond Fed president Tom Barkin sees other forces, including higher productivity due to artificial intelligence, contributing to inflation. Meanwhile, Minneapolis Fed president Neel Kashkari, who forecast one quarter-point rate increase this year, cited distrust of Iran and instability in the Middle East as reasons for his cautious outlook.

Wealth Taxes Spur Muni Bond Demand…Demand for tax-free bonds could grow as many U.S. states are aiming to enact a wealth tax in 2026. Nearly 40 legislative bills this year that would levy taxes on the wealth, including taxes on capital gains, estates, mansions, high-incomes, wealth and wealth proceeds. California Governor Newsom is calling for a federal wealth tax on billionaires after his efforts to withdraw a California tax ballot question failed last week. Washington state’s November ballot will also ask voters to decide on a state wealth tax for millionaires. Currently, a few U.S. states including California, Connecticut, Maine, Maryland, New Jersey and New York— along with Washington, D.C., have adopted versions of a millionaire tax.

Water Bonds Boom…Water utilities are issuing the highest volume of bonds in over a decade. However, major water utilities maintain strong credit quality despite rising infrastructure costs and expense growth. S&P rated water utilities have adopted an average 5% annual rate hike in the last five years, and plan 3% to 10% rate hikes over the next five years. Demand for water is poised to grow as energy-intensive data centers spurt nationwide. New York City, Los Angeles, Houston, San Francisco and Miami Dade County have the largest water utilities in the nation. Utilities, known for their rate-setting powers, as well as broad and diverse customer base, carry a wide range of credit ratings, and are a sweet spot for investors.

Puerto Rico Budget Signals Fiscal Restraint…Governor Jennifer González Colón has proposed a $33.5 billion spending plan for the Island. The spending plan has been developed jointly with the Financial Oversight and Management Board under the Puerto Rico Oversight, Management and Economic Stability Act (PROMESA). As evidence of fiscal discipline, the Island administration proposes to spend roughly $312 million below certified revenue projections. The Governor stated that government is “acting with planning and anticipation,” identifying risks early and protecting essential services while maintaining compliance with PROMESA’s fiscal and accounting requirements.

Audit Victory Lap For California, Illinois…Financial audit timeline continue to get shorter in both Illinois and California. The Golden State released its Fiscal 2025 audit 316 days after Fiscal 25 ended, down from as late as 631 days in the past. Similarly, Illinois posted its Fiscal 2025 audit 344 days from the fiscal year-end, the fastest audit delivery since 2019, and eight months earlier than the previous years’ audit. Consistent and timely financial reporting are a pillar of governance and reflect credit quality.

Compare 30-Year taxable U.S. Treasury yield 4.85% to 30-Year tax-exempt Municipal Bond yield “AAA” 4.17%; “AA” 4.43%; “A” 4.63%. For investors in the 35% tax bracket, a 4.17% tax-exempt yield is equivalent to a 6.4% taxable yield. Top-rated long-term tax-free bonds yield 86% of comparable taxable U.S. Treasuries.