We are here to simplify the municipal bond market. Read our update on opportunities in the municipal bond market.
The municipal bond market offers compelling income streams and yields. Recent monetary and fiscal policy events have triggered in increase in yields and we perceive a window to buy at attractive levels. Further, municipal bond yields are markedly attractive versus other investment grade fixed income asset classes. We have long believed particular municipal bonds serve as excellent complements to equities. We recognize that equities have been stellar performers (most portfolios should have equities), yet given material increases in municipal bond yields over the past couple months, municipals are, and have long been, worthy of a deeper review. We recommend investors review these improved yields and should feel free to reach out directly to our team to discuss positioning ideas in detail.
Tax exempt municipal bonds with calls in the early 2020’s provide well over 3% nominal yields. On a tax equivalent yield (TEY) basis, these nominal yields equate to 5.00%-6.00% TEY's. Earning 5.00%-6.00% TEY's with A-AAA rated municipal bonds (e.g. essential services revenue bonds and ad valorem tax backed GOs) is far more attractive than lesser after-tax yields earned with investment grade corporate bonds, U.S. agency bonds, and U.S. treasuries. Five year high grade corporate bonds yield about 3.05%, 5 year U.S. agencies yield 2.90%, and 5 year treasuries yield 2.63%, before taxes. After taxes, these bonds yield in the high 1% range assuming a top bracket. Exempt municipals' stellar TEY’s are 200-300 bps higher! This combination of investing in quality A-AAA credits at high TEY’s (while generating 4-5% exempt income streams annually) is an attractive value proposition.
You may be saying, “unemployment is low, we are in a rising interest rate environment, inflation appears to be increasing, and stocks are doing well, why would I buy bonds now?” I cannot see why you would not own municipal bonds at these levels given we appear close to the end of the expansionary stage of this economic cycle (consider the aforementioned observations -- we have very low unemployment, rising 1-10 year treasury rates increasing cost of capital for consumers and businesses, as well as increasing 5 and 10 year breakeven inflation rates). Most investors are allocated 60% stocks/commodities/alternatives and 40% bonds. What are your expected returns on equities going forward? Do you believe you can earn 4-5% returns for the next 5 years in equities? Perhaps equities will continue their upward trend, I certainly hope they do, though that is a probabilistic outcome and not a certainty. Today, you can lock in 5.00%-6.00% TEY's with municipal bonds for some of your portfolio. That alone is a strong enough reason to be a buyer of some individual bonds here, purely for diversification and risk management. What about cash which is losing 2% in value per year due to inflation? Inflation should be a big concern for every investor. It is the silent and relentless enemy of cash and other low yielding fixed income vehicles. CPI came in fairly strong at 2.1%. If inflation expectations are 2.1% for 2018, do you want to end the year with 2.1% less cash buying power than you had at the beginning? Most definitely not.
Exempt municipal bonds have been an excellent store of value for decades and we can position you in attractive bonds that are well-suited for this market environment and interest rate cycle and which match your goals.
Visit our offerings page to review select high value municipal bonds and to learn why we like them. As asset managers and traders, we position our clients uniquely close to the municipal
bond market. Please contact us to learn how we can help you build individual bond portfolios.
Greg Lavine, CFA, CFP®