Munis and the Markets, June 2018

by Team of PIMCO, 7/13/18

SUMMARY

  • We believe U.S. economic expansion and federal tax cuts will be generally supportive of municipal credit fundamentals in 2018.
  • We expect municipals to outperform taxables on a taxable-equivalent basis as they have in prior tightening cycles as the relative value of tax-exempt income versus taxable income increases at higher absolute yields.
  • We believe constructive supply/demand dynamics will be supportive of the muni market as we enter the second half of the year, but anticipate heightened bouts of market volatility during any sell-offs due to lower bank and insurance company participation in the space related to their lower tax rates.

Market Snapshot

Market Snapshot Chart

Month in Review

  • The Bloomberg Barclays Municipal Bond Index returned 0.09% in June. The Bloomberg Barclays Municipal High Yield Index continued to outperform the investment grade segment of the market, returning 0.50% on the month, driven by strong returns in the MSA Tobacco and water and sewer sectors.
  • Muni bond mutual fund demand was positive during the month. Lipper reported $2.3 billion in combined weekly and monthly net inflows for the month, largely from flows into long term funds.
  • June supply was in line with the last few months, at $31 billion, while year-to-date supply is down 21%. This is as expected, given heightened supply in late 2017 in anticipation of tax-reform.
  • As rates remain fairly volatile, munis outperformed Treasuries in the front end of the curve, and are now close to levels at the beginning of the year. The long end, however, underperformed as 30 year MMD/UST ratios reached their wides year-to-date.
  • Over the next few months we expect the supply-demand dynamic to be favorable for munis, as seasonally high redemptions will be met with continued subdued supply.

Sector Returns

Sector Returns Chart