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Written by: John Albomonte | Advisor Asset Management
Elvis Presley had a hit in the 1950s titled, “That’s Alright,” but when it comes to municipal percentage spreads to Treasuries being in the 50s, it’s more like “Heartbreak Hotel.”
For as long as I can remember, Municipal (“muni”) Bond Ratios have always been used to compare how cheap Municipal Bonds are to Treasuries. Ratios in the 50% range are well below the 85% ratio we are normally used to seeing for 10-year Municipals. Currently, the 10-year ratio sits at 57%, near it’s all time low.
MMD = Municipal Market Data: is the yield curve most investors use to track AAA municipal yields. Past performance is not indicative of future results.
If ratios are so low, why is there so much demand for Municipal Bonds? The main reason investors want to own Municipals is because they are still cheap. Relative to where yields were on March 11, 2020, 10-year AAA MMD (Municipal Market Data) was at 0.91%, and as of March 08, 2024, the 10-year AAA MMD is at 2.40% — almost 150 basis points better.
Source: AAM, Bond Buyer Market Data | Past performance is not indicative of future results.
In December 2023, the market expectation for Municipal issuance for 2024 ranged between $400 to $420 billion, with issuance picking up in March and building into the presidential election; however, thus far for the first quarter (Q1) of 2024, long-term Municipal Bond issuance is off 52% from the previous year — 509 issues in Q1 2024 vs 1,037 issues in Q1 2023.
Source: AAM, Bond Buyer Market Data | Past performance is not indicative of future results.
Investors who want the federal tax exemption are buying Municipal Bonds and taking advantage of the recent jump in yields. Unfortunately, because of the increased demand for Municipal Bonds and limited supply, investors who participate in the New Issue Offerings are getting reduced allocations or shut out altogether. Municipals have mostly been in a negative net supply environment for some time now. To put this in simpler terms, the amount of money available for reinvestment far exceeds the supply. Because investors are chomping at the bit to buy municipal bonds, some new issue deals have been well oversubscribed and pricing through where secondary bonds with similar ratings are being offered.
The bottom line is that the Municipal market needs more supply; however, there is hope and more supply may in fact be coming. For February 2024, long-term bond issuance was up 25.4%, February municipal issuance: 509 issues totaling $27.6 million vs. 483 issues totaling $22 million vs 2023 up 25.4%.
Source: AAM, Bond Buyer Market Data | Past performance is not indicative of future results.
For the week of March 8, supply totaled $10.3 billion vs the previous week of $9 billion — indicating more supply is coming.
Source: AAM, Bond Buyer Market Data | Past performance is not indicative of future results.
With more supply expected to enter the market, and the prospect of the Federal Reserve lowering rates in 2024, Municipal Bond investors will not only have the potential for higher yields, but also could take advantage of higher prices in their portfolios. This dual benefit — featuring potentially higher yields and the prospect of appreciation of their portfolios — allows for the potential for municipal investors to capture total return. We believe investors shouldn’t be late to the Municipal Bond purchase party because eventually yields will be going lower and as Elvis said in another 50’s song: “It’s now or never.”