Like Treasuries and Treasury Inflation-Protection Securities (TIPS), municipal bonds betrayed their normally docile reputations in March as the conflict in Iran stirred increased volatility for normally subdued corners of the bond market.
Read more: Muni Bond Investors: Let’s Talk TAXF
Indeed, there’s no getting around it: Municipal bonds and the related ETFs proved vulnerable to macroeconomic duress and rising Treasury yields last month. However, there are some bright spots for advisors and fixed income investors to consider. First, in broad terms, the overall state of the municipal bond market is solid.
Second, some market observers believe the case for munis is underpinned by a compelling technical picture, coupled with strong credit fundamentals. Add to that, the March decline experienced by these bonds and muni ETFs may have opened the door to value opportunities.
“That said, the recent market repricing has meaningfully improved valuations. During March, 10-year AAA municipal yields rose by 60 basis points to 3.12%, while 30-year AAA yields increased by 30 basis points to 4.47%,” according to BlackRock. “Municipal-to-Treasury ratios—a key gauge of relative value—also widened by 1 to 8 percentage points across the curve, further enhancing the attractiveness of the asset class.”
Don’t Dither on Munis
In general, bonds are considered a slow-moving asset class. While municipal debt usually embodies that spirit, now probably isn’t the time for the advisors and investors to slow play munis. History suggests that munis experience rough months, as was the case in March, but they often snap back in rapid fashion.
“Against this backdrop, we believe valuations are becoming more compelling and may represent a desirable entry point for deploying capital,” added BlackRock. “Should global uncertainties begin to subside, the combination of strong technicals and solid fundamentals could support a meaningful rebound in performance. Historically, municipal bonds have demonstrated the ability to recover quickly following event- driven sell-offs. Across the past five such episodes since 2020, the asset class has recaptured approximately 50% of its drawdown within five trading sessions on average.”
Another reason to consider acting fast with muni ETFs: The group is about to enter a period of favorable seasonality, potentially indicating municipal bonds are one way for market participants to deal with the “sell in May and go away” blues regarding equities.
“Looking ahead, the market is approaching a favorable seasonal period spanning June through August,” concluded BlackRock. “During this time, supply typically shifts from net positive in the spring to net neutral or negative in the summer, as reinvestment income from maturities, calls, and coupons meets or exceeds new issuance. This dynamic has historically created a meaningful seasonal tailwind. Over the past five years, municipal bonds have generated average total returns of +0.80% during the summer months, led by June and July.”
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Originally published on ETF Trends
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