The Long Strange Trip Of The Muni Market In 2020

Sometimes the light’s all shinin’ on me
Other times I can barely see
Lately it occurs to me
What a long strange trip it’s been

“Truckin,” by the Grateful Dead

(Lyrics by Robert Hunter)

Those great lines from a great song sum up the 2020 investment year in general and particularly in munis, as we look at the markets before the pandemic, in the middle of the March collapse, and now as we near the end of the year.

Source: Bloomberg

We can see how low US Treasury rates and municipal bond rates had both fallen at the end of 2019. A lot of the drop in rates was due to US rates “catching up” with those in Europe and Japan. We see very low tax-free to Treasury yield ratios. It’s important to remember that these are AAA yields, and most of the state general-obligation paper in muni markets yields more than this.

By mid-March, we see full-blown turmoil in the muni market. But remember, this turmoil was not limited to just tax-free bonds; corporate bonds, stocks, oil – all were plummeting. This was a liquidity event, not a credit event, as we have previously written. The chart below shows the bond fund outflows, which were unprecedented.

The bond fund outflows of March followed the downdraft in oil prices caused by the onset of the pandemic, which caused the sharp sell-off in the stock market.

This grab for liquidity produced what we saw in March, with Treasury yields falling precipitously and yields on munis, as well as other instruments, moving significantly higher. The yield ratios seen in the March 20th chart are unparalleled for muni cheapness. We saw AA and AAA state general-obligation bonds with maturities less than four years yielding 10 times as much as Treasurys (3.0% vs. 0.3%). In 35-plus years of managing bond portfolios, this author had never seen that anomaly until this year.

As we know, the cheapness didn’t last long. Private money moved into the space abandoned by the bond funds, and it happened in a fairly short period of time. The rebound at the end of March was one of the most vigorous muni rallies ever witnessed. By the end of the month, muni bond yields, while still cheap to Treasurys, had closed two-thirds of the gap. Clearly, there was little issuance in March and indeed for the next month plus, as most issuers took a wait-and-see attitude to issuing bonds until the storm settled down.

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Disclaimer: The preceding was provided by Cumberland Advisors, Home Office: One Sarasota Tower, 2 N. Tamiami Trail, Suite 303, Sarasota, FL 34236; New Jersey Office: 614 Landis Ave, Vineland, NJ ...

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