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A brief monthly update on what's happening in the municipal bond market.
The U.S. stock market surged in November, erasing October’s losses even amid a rising number of coronavirus infections. Propelled by progress toward potential coronavirus vaccines and hopes for a relatively smooth transition to power for president-elect Joe Biden, major U.S. equity indices closed the month with double-digit gains. Footnote 1 Meanwhile, the municipal market was characterized by a falloff in supply and robust demand. In the wake of October’s $72+ billion of issuance, just $18.8 billion was brought to market in November, of which $4.8 billion was taxable. Monthly issuance not only fell to its low-water mark for the year, but also represented the weakest monthly figure since February 2018. Footnote 2 Decreased supply, coupled with increased demand for longer-duration bonds, resulted in a bull flattener for the AAA Municipal Market Data (MMD) curve. Yields dropped by 5-7 basis points (bps) inside of 5 years, by 11-21 basis points from 6-10 years, by 23-29 bps from 11-15 years, and by 30 bps beyond 15 years. Footnote 3 Entering the holiday season, net negative supply may provide a tailwind for the municipal market as we close out 2020.
Encouraging vaccine prospects and post-election clarity spurred a broad market risk-on move in November. The Dow Jones Industrial Average jumped nearly 12%, posting its largest monthly gain since January 1987. Footnote 8 As risk assets generally rallied, the 10-year Treasury yield climbed to 0.98%, its highest level since March. Footnote 9 However, a surge in new coronavirus infections and renewed lockdowns largely suppressed Treasury yields, which closed the month roughly flat. Footnote 10 While municipals generally tracked Treasuries, the municipal curve flattened over the month, and the 10-year AAA municipal yield slipped ~20 bps to 0.72%. Footnote 11 As such, the 10-year municipal/Treasury ratio declined from 108% to ~86% – in line with pre-pandemic levels. Footnote 12
The resiliency exhibited by municipals can largely be attributed to supply/demand dynamics. November saw just $18.84 billion in new issuance – the lowest volume for the month since 1999. Footnote 13 However, this figure can largely be attributed to a concerted effort by issuers to close deals ahead of the November elections – contributing to both October’s record supply and November’s comparatively lackluster numbers. Monthly taxable issuance, which has surged this year, was just $4.82 billion, down 60% from last November. Footnote 14 Nonetheless, demand remained robust, with retail municipal investors adding a weekly average of ~$516 million to municipal funds during the month. Footnote 15 Following October’s negative return, the Bloomberg Barclays Municipal Bond Index returned 1.51% in November. Footnote 16 With risk appetites expanding, the Bloomberg Barclays Municipal High Yield Bond Index posted a 2.40% monthly return. Footnote 17
The COVID-19 pandemic remained the dominant credit theme in November. We believe the winter months are likely to bring additional credit stress and revenue loss across a variety of sectors, which could lead to rating agency downgrades. Nonetheless, we believe default risk is minimal in the high quality space, as most municipal issuers started the process of reducing expenditures and preserving liquidity in the spring in preparation for an uncertain fiscal outlook.
November also brought glimmers of hope – due in part to promising news about several COVID-19 vaccine candidates. These developments led to a marked improvement in the credit outlook for municipal sectors that have been hard hit by the pandemic, notably airports and transportation credits. Despite optimism that travel volumes may return to some semblance of normalcy in 2021, we believe that credit selection is key. We continue to focus on individual issuers with sufficient liquidity to withstand potentially slow-growth conditions and periodic market disruptions.
To learn more about investing in municipals at PIMCO, please visit pimco.com/munis
A brief monthly update on what's happening in the municipal bond market.
A brief update on what's happening in the municipal bond market.
Past performance is not a guarantee or a reliable indicator of future results.
A word about risk: Investing in the bond market is subject to risks, including market, interest rate, issuer, credit, inflation risk, and liquidity risk. The value of most bonds and bond strategies are impacted by changes in interest rates. Bonds and bond strategies with longer durations tend to be more sensitive and volatile than those with shorter durations; bond prices generally fall as interest rates rise, and low interest rate environments increase this risk. Reductions in bond counterparty capacity may contribute to decreased market liquidity and increased price volatility. Bond investments may be worth more or less than the original cost when redeemed. Income from municipal bonds is exempt from federal income tax and may be subject to state and local taxes and at times the alternative minimum tax; a strategy concentrating in a single or limited number of states is subject to greater risk of adverse economic conditions and regulatory changes.
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