The fixed income markets were still reacting to Chairman Powell’s hawkish comments from his Jackson Hole meeting and resulted in an approximate 35 basis point rise in 10 -year and 30-year Treasury yields.
Municipal bonds have underperformed in the same period with yields rising approximately 43 basis points across the yield curve. Last Friday’s consensus employment number was not enough to change the bearish tone and more sluggish indicators will be needed to alter the landscape. While the rise in yields has brought the Municipal market back to it’s recent lows, Powell’s hawkish comments has led some investors to believe that he will force the economy into a recession at some point which should drive long term yields lower.
While the current tone is overtly bearish there are many indicators in the Municipal market that are positive. The selloff in the Municipal market has been historic, driving Municipal ratios on the long end to their cheapest levels in years creating significant value for investors that believe the economy will slow. Although cash outflows have also been historic this year, new issuance has been well below predictions and cash coming into the market from bonds that are maturing, being called and dividends has been at record levels.
We also believe that in the coming weeks and months economic indicators will start to show a slowdown which will cause a reversal in investor sentiment. This should cause the Municipal market to outperform the Taxable market as they are relatively cheap and there will not be enough new issuance to satisfy demand. Municipal closed end funds have also seen a strong sell off in both price and widening discounts and now offer yields at or close to 6% tax-free which is a tax equivalent of almost 10%.
The Municipal market has had a long history of rebounding sharply after large drawdowns and this period should be no different.