Municipal Bond Clarity Coming?
Multiple concerns have been raised over the past six months regarding the fiscal health of U.S. states and the impact on the $2.9 trillion municipal bond market. In the past 19 weeks, since mid-November, municipal bond funds have experienced new outflows of approximately $30 billion. In fact, the first week of January witnessed a record $4 billion in outflows. Certainly U.S. equities received some of that fund flow. In addition, first quarter fixed income data suggests demand for Build America Bonds also benefited from continued muni outflows. Build Americas are plus 2% quarter to date supported by demand for yield.
During the first quarter I have had a front row seat for the muni debate. Multiple guests have visited the Fast Money desk to present their bearish or bullish thesis for investors. Throughout the debate, my instinct has been that we need further clarity; not enough evidence exists either way to make an indictment. I expect that we are now entering a period, the second quarter, when further clarity will be provided.
My focus for the second quarter will be on the expected increased issuance and the market's demand for increased supply. During the first quarter, 29 new governors focused on settling their new administrations into office as well as tackling budgets. New issuances were not priority. In fact Q1, with $45.5 billion issued, was the slowest quarter since 2003. I expect Q2 issuance to climb back above $50 billion and test the market's demand appetite. An early read will be the North Texas Tollway Authority $1.3 billion April issuance.
So the moment might just be here. Are investor fears about rising rates and credit deterioration for states and localities warranted? Will fund flows continue to exit and land in U.S. equities? Tax exempts have not recorded negative "second quarter" returns since 2007. Clarity might await in the coming quarter. It is worth watching - I certainly will be and suggest investors do as well.