Fixed income markets have been hanging on the Fed's every
word. In many ways, it has transformed the municipal bond market
into a rates market. In fact, performance in the tax-exempt space
has been driven almost exclusively by rates action since late May
when Fed Chairman Bernanke first hinted at slowing its
stimulative bond-purchase program. Even the
largest-ever municipal market bankruptcy
caused less disruption than the Fed's hints of "taper."
So what did the
Fed's September 18 announcement
that it wouldn't, at least not yet, begin to taper its
bond-buying program do for the municipal bond market? It created
Let's take a look at the series of events since Fed Chairman
Bernanke first hinted at tapering back in May:
- Rates rose dramatically for fixed income assets, including
munis, in May and June. The 10-year muni yield rose 94
(bps) between April 30 and June 21. I'm not alone in my view
that the markets overreacted to the Fed at that time, ignoring
the slow-growth economy (and, thus, the very real potential
that stimulus would stay in place).
- Since then, many investors have shed
risk - that is, they stayed away from the long end of the yield
curve in favor of the shorter end as they watched and waited
for the Fed's (and interest rates') next moves.
- Municipal bonds became bargain priced. Yields have risen
(and prices fallen) to levels not seen since early 2011. This
comes at a time when
fundamentals are stronger than they have been in five years
So what should investors expect post-September 18? More of the
The Fed meets again in late October and mid-December, and the
market will likely regenerate some taper uncertainty. Add to that
the more imminent focus on the debt ceiling and questions over
the new Fed head and we're likely in for continued volatility.
With no obvious catalyst for a rate drop (and price spike), I
feel it remains a very good time to buy munis at attractive
levels. As I said in my prior post, fundamentals are in
investors' favor. Patient investors are very likely to be
rewarded down the road, looking back at the current time as a
muni buyers' market.
Our advice for muni investors, perhaps especially those on the
fence, is this:
Refocus on income:
The asset class is offering significantly more income now than it
was three months ago for the same level of risk. Holding cash and
low duration fixed income doesn't pay.
Observe the curve:
is steep (steeper by 140
year-to-date between 2- and 30-year maturities.) This means
investors are getting paid for extending maturities.
Look beyond headlines:
Headline noise (especially around Detroit and Puerto Rico)
continues and has added to underperformance. It's also added to
the value proposition. If you believe in the underlying strength
of the broader asset class, as I do, then there's much more
opportunity than risk.
Take advantage of professional management:
Especially if you're worried about credit events, a diversified
portfolio of investments may offer more protection than owning
single bonds. Professional managers also have the ability to
source bonds at a time when supply is low and good deals are hard
Source: S&P, Municipal Market Data
Peter Hayes, Managing Director, is head of BlackRock's
Municipal Bonds Group, and a regular contributor to
You can find more of his posts