Municipal Bond News 8/5/24

Recession Fears Fuel Muni Bond Rally…Bellwether Yields At 2024 Lows…Wall Street Boosts Rate Cut Odds…Retail Investors Favor Insured Muni Bonds…Fed Suggests September Rate Cut…Cities Address Housing Woes…Moody’s Presidential Election Scenarios…Top Muni Bond Issuers…

Recession Fears Fuel Muni Bond Rally…Muni bond yields fell up to 16 basis points last week. Current muni bond yields are the lowest since mid- January. The drop in muni bond yields mirrored a larger decline in comparable U.S. Treasury bond yields. U.S. Treasury bond yields fell up to 30 basis points last week. Expectations of aggressive rate cuts fueled the bond market rally. Muni bonds gained close to 1% last week, following similar gains in July and June. However, these recent gains have been overshadowed by a larger rally in U.S. Treasury bonds. Typically, muni bonds underperform at the beginning of large bond rally and outperform when volatile market conditions subside. This year, a 31% increase in muni bond issuance has also allowed state and government yields to remain relatively higher. Demand for muni bonds has accelerated this year. Last week, inflows to muni bond funds topped $1.1 billion, with close to $1 billion directed towards longer-dated muni bonds. This is the second largest weekly inflow this year, indicating growing demand for tax-free bonds.

Bellwether Yields At 2024 Lows…The policy sensitive two-year Treasury yield tumbled last week by half a percentage point to less than 3.9%. The 10- year U.S. Treasury yield hit 3.76%. U.S Treasury yields fell to levels not seen in over a year. Weak jobs and manufacturing data suggest a slowdown in the US labor market, boosting the case for rapid rate cuts. U.S. Treasury bonds have rallied for three straight months since May, the biggest winning streak for U.S. bonds in three years.

Wall Street Boosts Rate Cut Odds…Weak U.S. economic data could push the Fed to make rapid rate cuts. Traders now see a roughly 60% chance of an emergency quarter-point cut within one week. JPMorgan predicts half-point rate cuts in September and November, followed by quarter-point reductions at every subsequent meeting, with “a strong case to act” before the next meeting on Sept. 18. Citigroup expects half-point rate cuts in September and November and a quarter-point cut in December, a change from three quarter- point cuts in 2024 forecast earlier. Futures traders are pricing roughly the equivalent of five quarter-point cuts from the Fed through the end of the year. However, Wall Street has sometimes misjudged where interest rates have been headed since the end of the pandemic, however, at times overshooting in both directions. Expectations of aggressive rate cuts come as fewer than anticipated jobs in July have fueled fears of a recession.

Retail Investors Favor Insured Muni Bonds… “Strong interest from retail investors, who are historically the most-active users of insurance and represented the largest pool of demand for all municipal bonds in the first half,” Build America Mutual noted. More investors have “realized that, in addition to the security it provides, bond insurance can support price stability and market liquidity, on transactions of all sizes,” Assured Guaranty stated. The volume of newly insured muni bonds grew 24.4% in the first half of the 2024 from a year ago. About 8.2% of new muni bonds offered in the primary market are insured. Assured Guaranty insured 56% of newly insured muni bonds, followed by Build American Mutual. Large primary market offerings such as the $1.1 billion Brightline Florida passenger rail project, $800 million for the New Terminal One at John F. Kennedy Airport, and $831 million for a Dormitory Authority of the State of New York were insured by Assured Guaranty. Several higher education and hospital muni bonds including $281 million Florida State University, $270 million San Francisco Community college and $100 million Marshfield Clinic in Wisconsin were insured by Build America Mutual.

Fed Suggests September Rate Cut…Fed Chair Powell hinted at the likelihood of a September rate cut. Powell ruled out the possibility of a 50-basis point rate cut at last week’s Fed meeting. Powell clarified he “can imagine a scenario in which there would be everywhere from zero cuts to several cuts” over the remainder of the year, “depending on the way the economy evolves.” At the July 31 Fed meeting, officials noted that jobs gains have moderated, although unemployment is still low, and inflation has eased but remains ‘somewhat elevated.

Cities Address Housing Woes… Three in five U.S. cities struggle to provide adequate housing, a National League of Cities survey suggests. As home prices have climbed 60% over the past decade, states and cities are trying to find dedicated funding to address affordable housing needs. In November, California voters will decide on $20 billion bond measure to build affordable housing in the Bay Area. Progressive real estate transfer taxes, known as ‘mansion tax,’ are currently funding affordable housing initiatives in seven U.S. states and several large cities such as New York City and San Francisco. State housing finance agencies, community development financial institutions and developers issue muni bonds for new affordable housing construction and offer down payment assistance. This year, $25 billion muni bonds have been issued for housing.

Moody’s Presidential Election Scenarios …The November presidential election is likely to be closely contested. A Harris White House and a divided Congress is the most likely scenario per a Moody’s analysis that assigns 45% chances of such an outcome. The next likely outcome is Republican sweep of the White House and Congress. A Harris White House/Divided Congress scenario could result in largely status quo policies that favor higher taxes on the wealthy and infrastructure spending. A Trump White House will likely preserve 2017 tax cuts, and higher tariffs will curb economic growth. Policies such as taxation, spending, healthcare, tariffs and immigration hinge on the election outcome.

Top Muni Bond Issuers… Half of the top 10 issuers are from New York, with two are from California. The Dormitory Authority of the State of New York ranked first among the Top 10 issuers in the first half 2024. The Florida Development Financing Corp., State of Massachusetts, the Los Angeles Unified School District and the New York Transportation Development Corporation entered the top 10. Close to $14 billion of new muni bonds will be issued this week, marking the heaviest weekly supply seen this year.

Compare 30-Year taxable U.S. Treasury yield 4.07% to 30-Year tax-exempt Municipal Bond yield “AAA” 3.64% “AA” 3.88%; “A” 4.08%. For investors in the 35% tax bracket, a 3.8% tax-exempt yield is equivalent to a 5.85% taxable yield. Top-rated long-term tax-free bonds yield 89% of comparable taxable U.S. Treasuries.