SLC Management and its affiliated investment managers will offer their alternative investment strategies to the U.S. high net worth market.
Helping investors meet their current cash flow and future capital appreciation goals.
Unlimited access to our bond offerings and dedicated, personal support
Customized portfolios selected and managed by professional managers
Partnering with select institutional managers
Expert advice, ongoing trade support, and transparent pricing
An emphasis on solid investment disciplines and specific asset classes
May 06, 2024
April 15, 2024
TOP
Financial Industry Insights from Advisors Asset Management
On July 31, 2023
AAM Viewpoints — The Impact of Higher Interest Rates, Inflation, and Ratios in Municipal Markets
Higher Interest Rates Municipal primary markets have been significantly affected by the surge in interest rates. Since January, the Federal Reserve has increased the Discount Rate by 100bps (basis points) to 5.50%. This steady tightening of monetary policy has led to an increase in borrowing costs for issuers and has resulted in limited municipal supply. Inflation for 2023 The Federal Reserve (Fed) remains focused on taming inflation. The CPI (Consumer Price Index) — a measure of inflation — declined to 4.00% in May 2023, the lowest since March 2021. As of 6/30/2023, CPI was at 4.00%, down from 9.1% a year ago. On 7/26/23, the Fed decided to raise the Discount Rate another 25bps to 5.50%. In the 10 previous meetings, the Fed direction was to tighten monetary policy and raise the discount rate. The Fed has signaled its intent to further raise rates with a potential target of 5.75%, if inflation remains a concern.
New Issue Market The New Issue Municipal Market forecast has progressively gotten worse for 2023. Obliviously the cost of capital has increased for the Municipal Issuers because of higher interest rates. According to SIFMA research, as of May 2023, municipal issuance is down almost 24% year over year.
Year-to-Date Statistics Include:
The lack of new issuance has significantly compressed the municipal bond sales calendar. Several weeks are practically unavailable for bond sales due to market-observed holidays and Fed meetings. These scenarios further limit new issue opportunities. As of July 2023, the municipal calendar remains constrained, with lower issuance levels compared to earlier projections. The actual municipal bond issuance thus far is significantly below the high-end projection of $500 billion for 2023. As of May, municipal issuance for the year has reached $174 billion. This figure is closer to the low-end expectations of $302 billion as predicted by Jessica Lerner with the Bond Buyer. Tom Kozik, Managing Director at Hilltop Securities, expects to see a monthly average of municipal issuance at $29 billion. This would put issuance for the for the remainder of 2023 at approximately $174 billion — equivalent to the first half of the year. Kozik also believes, “September negative net supply should turn positive.” The lack of new issuance has driven up the demand for municipals in the secondary market while the monthly negative net supply has created opportunities for dealers with municipal inventory. Investors are looking to the secondary municipal market to help fill gaps in their ladders. The chart below is a comparison between AAA MMD from Jan 3, 2023 to July 24, 2023 and indicates an increase in yields, correlating more closely with the Treasury market. The most significant change in yield occurred in the 2024 maturity. A difference of 39 basis points, which closely reflected the change in the Fed funds rate during that period.
Source: AAM, Data collected from the Municipal Market Data yield curve on 7/17/23 & 7/24/23) | Past performance is not indicative of future results.
As seen in the attached chart for the 2029 maturity, the trend in Municipal yields reversed moving lower. The most significant changes in yields were observed in 2035 and 2036 maturities, reflecting a decrease of a negative 26bps. This suggests there was a higher demand for those maturities during that period.
AAA Municipal Yield Curves from 1/3/23 to 7/24/23
Source: AAM, Data collected from the Municipal market data yield curve on 7/17/23 & 7/24/23 | Past performance is not indicative of future results.
Ratios Percentage ratios are used to measure the relative attractiveness of municipal bonds compared to Treasuries. The ratios have remained relatively stable over the last year. Investors, however, will often consider the taxable equivalent yields in the municipal markets to take advantage of potential tax benefits.
For example: An investor in the 35% tax bracket is considering a municipal bond that yields 4.10% to maturity. The taxable equivalent return would be 6.31%. Taxable Equivalent Yield = 4.10% / (1-0.35) = 4.10 /0.065 = 6.31%. This means that a taxable bond would have to yield greater than 6.31% — providing the same after-tax return as the tax-free municipal bond yielding 4.10%
The municipal bond market is expected to benefit from strong demand in the secondary market. This demand is likely to persist due to the limited supply of municipal bonds coming to market. The favorable demand/supply dynamics should support municipal bond prices and keep yields compressed. Investors may find municipal bonds appealing as they have the potential to offer higher yields compared to the taxable-equivalent maturity in Treasury securities.
CRN: 2023-0706-10975 R
This commentary is for informational purposes only. All investments are subject to risk and past performance is no guarantee of future results. Please see the Disclosures webpage for additional risk information at commentary-disclosures. For additional commentary or financial resources, please visit www.aamlive.com.
topics