Municipal Bond News 9/16/24

Muni Bonds Are A Buy…Rate Cuts To Begin… Bellwether Yields Drop…New Mega Muni Bonds Oversubscribed…Demand For Muni Bonds Soars… Chicago Deficit Grows…Political Momentum Favors Transit Sector…

Muni Bonds Are A Buy…Muni Bonds are a buy ahead of the U.S. election, Barron’s headlined an article recently, suggesting that the $4 trillion muni bond market presents an attractive entry point for investors. Long term muni yields have fallen about 45 basis point since early May. Relative valuations of state and local government bonds are currently at their lowest point this year. This year’s plentiful state and local government bond offerings are a reprieve from a muni bond supply lull in several prior years. “It’s a great time to invest in munis,” an expert told Bloomberg, adding, “You don’t want to be late to this party.” Demand for muni bonds is poised to grow during the Fed’s rate cutting cycle.

Rate Cuts To Begin…The Fed’s rate cutting cycle begins this week. Bond markets have assigned 57% odds for a quarter point rate cut, and 43% odds of a 50-basis point rate cut at the Fed’s meeting this week. History books will say that “we were in a recession” this month, bond expert Jeffrey Gundlach said last week. As evidence, he cited the consistent downward revisions to non-farm payrolls in recent months. Current inflation is the lowest since February 2021. The Federal Reserve faces a close call over whether to lower rates by half or quarter point this week. The Fed’s first expected rate cut in more than four years, comes after holding rates at a 23- year high since last July.

Bellwether Yields Drop…Top-rated long term muni bond yields have declined 10 basis points over the past two weeks. Meanwhile, U.S. Treasury long term yields have dropped 20 basis points over the same time period. Taxable equivalent yields of state and local government bond benchmarks are about 140 basis points higher than comparable U.S. Treasury yields. Tax-free bonds currently offer a yield advantage.

New Mega Muni Bonds Oversubscribed…Billion-dollar plus muni bond offerings from Illinois and New York City Transitional Finance Authority are centerstage. Over $4 billion of orders came for $1.5 billion New York City Transitional Finance Authority bonds issued last week. High investor demand led to yield cuts. Illinois, the lowest-rated U.S. state issued $1.08 billion general obligation bonds with a top tax-free yield of 3.49%, or 67 basis points above top-rated benchmarks. Chicago sold $300 million water utility ‘A+’ rated at a top tax-free yield of 3.7%.

Demand For Muni Bonds Soars…Longer-dated muni bonds, followed by high yield muni bonds, are favored the most by investors putting new cash to work. Cash inflows of over $27 billion have been received by muni bond funds so far this year. The cash inflows contrast from redemption calls aggregating to $122 billion in 2022 and 2023. For eleven straight weeks, investors have purchased muni bonds. Last week, investors bought over $1.2 billion of muni bonds, the second largest inflow this year, after $1.4 billion in the last week of January. Over the previous six inflow cycles up to 2022, muni bonds returned an average of 12.4%.

Record High Muni Bond Supply…Last month’s muni bond issuance, $49 billion, was the largest monthly new issue bond volume since October 2020, the last time municipalities rushed to borrow before a presidential election. In four of the last five election years, muni bond issuance was heavily front-loaded. In 2016, after former President Donald Trump’s win, bonds sold off, with the yield on the 10-year muni benchmark jumping nearly 60 basis points from Election Day to the end of the year. Following President Joe Biden’s election in 2020, muni yields ended the year lower. This year, the bond market is rallying ahead of interest-rate cuts from the Federal Reserve, expected to start this week. There’s a race to get deals done before an election which threatens to upend markets.

Chicago Deficit Grows…Chicago faces a budget shortfall of $223 million for the remainder of 2024 and almost $1 billion in 2025. At the end of last year, City Council passed a balanced budget after closing a $538 million projected budget shortfall. This year’s revenue is running 3.4% below budgeted estimates due to lower collections from the personal property replacement tax. Additionally, the city has not received a budgeted $175 million pension contribution from Chicago Public Schools. Mayor Brandon Johnson suggested that the state invest more in Chicago schools. Governor Pritzker said the state could only do so much to help Chicago solve its financial issues. The mayor has put a freeze on hiring, which will address the $223 million year-end projected deficit in the current fiscal year. “The size of the budget gap is significant,” Mayor Johnson said. Despite having previously stated otherwise, the mayor has not ruled out the possibility of raising property taxes to tackle the significant budget gap.

Political Momentum Favors Transit Sector…Public transit agencies will continue to benefit from increasing government support and tax subsidies. New state and local funding will fill most of an estimated $8 billion operating funding gap faced by the mass transit sector in 2026, offsetting permanent revenue losses post-pandemic. New York’s MTA has become less fare-box reliant, owing to a $1.1 billion increase in the payroll mobility tax enacted by the New York State. Political support for transit agencies stems from their importance to urban economic centers, climate efforts and housing. Nationwide, voters have approved 86% of transit funding measures on ballots, providing about $96 billion over the past five years in new revenue to public transit. Despite challenges such as low ridership, waning federal pandemic assistance, and cost increases, both Moody’s and S&P have recently boosted their outlook on the mass transit sector from negative to stable. Dedicated taxes and political support have brought credit stability to the mass transit sector.

Compare 30-Year taxable U.S. Treasury yield 3.96% to 30-Year tax-exempt Municipal Bond yield “AAA” 3.55% “AA” 3.91%; “A” 4.02%. For investors in the 35% tax bracket, a 3.5% tax-exempt yield is equivalent to a 5.38% taxable yield. Top-rated long-term tax- free bonds yield 90% of comparable taxable U.S. Treasuries.