In the 2Q 2020 issue of our quarterly publication, we:
- Discuss how the muni market is starting to recover, despite continuing fallout from the pandemic
- Provide a close-up credit selection review on Houston and other areas
- Offer a view on how the CARES Act is impacting the muni market
After experiencing record levels of volatility in the last few weeks of the first quarter, the municipal market began the process of healing during the second quarter— as yields reached historically low levels again (previous low was March 10). The quarter began with one of the most turbulent and volatile municipal markets in municipal history as COVID-19 fears entered the market and investors started to sell municipals—causing a spike in yields and extreme volatility not previously seen in the municipal market except for periods in 2008. The extreme volatility the market experienced as COVID-19 sparked a selloff across both high-yield and investment-grade municipals that led to over $30 billion in outflows and one of the most volatile municipal markets in recent history.
Despite the extreme volatility, municipal returns were strong across the yield curve as the broad S&P Municipal index (with average maturity of 12 years and a small allocation to high yield) returned 2.57% for the quarter and 1.97% year to date (YTD). Interestingly, the intermediate portion of the yield curve was the best-returning index at 2.81% for quarter and 2.48% YTD. High-yield municipals (bonds that are rated below investment grade) returned –1.09% YTD reflecting the continued volatility in that particular sector of the municipal market.
There are several events that typically occur to reverse an outflow cycle similar to the one that began in April: 1) municipal issuers are able to issue new deals, which are accepted by the market; 2) taxable buyers, typically overseas investors and banks and insurance companies buy tax-exempt municipals when valuations reach attractive levels above corporates and other taxable alternatives; and (3) tax-exempt investors dominated by individuals and households begin to reinvest in mutual funds, ETFs, and separately managed accounts (SMAs). After several weeks of fits and starts, all three occurred during the month of April as the market showed signs of healing.
Inflows into mutual funds and ETFs turned positive in mid-April and, despite one week of outflows, have remained positive for the last seven straight weeks, decreasing outflows to just $6.2 billion through July 1 according to Lipper. The result can be seen in the sharp rise in yields in late March (March 24 was the peak) followed by a sharp decrease at the end of the quarter—a sign of the healing process.
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