After months of anguish, municipal bond investors are finally seeing a moment of reprieve.
State and local government debt rose Tuesday, with 30 year maturities heading for their biggest one-day gain since June, as traders weighed the odds that the Federal Reserve will moderate the pace of its policy tightening. According to Bloomberg, the yields on municipal bonds fell by as much as 7 basis points Tuesday, with a key index fresh off its biggest jump in three months.
The rally feels more like a pleasant interruption than a trend, said Sylvia Yeh, co-head of municipal fixed income at Goldman Sachs Asset Management LP.
There are still signs that Fed officials will overlook the economic softness in their fight against inflation, despite the fact that demand for bonds has picked up and new issue supply is unusually light for October.
It's a question that is being asked across global markets, which have rallied this week amid speculation that central banks could moderate their hawkish stance to prevent a hard landing. The S&P 500 Index is on course for its best two-day surge since April 2020, while the yields on 10 year Treasuries fell nearly 20 basis points on Monday.
Vikram Rai, head of Citigroup Inc.'s municipal bond strategy group, said it was a fake rally driven by a lack of new bond sales. When the rate market stabilizes and mutual funds have cash to put to work, we will only see a legitimate rally. In 2022, municipal bonds have lost nearly 12%, on track for the worst yearly performance since at least the 1980 s, driven by the Fed's aggressive rate hikes. Yields on benchmark 10 year municipal bonds had jumped as high as 3.24% in late September, the highest since early 2011 -- and more than 200 basis points from where they started the year.
Dan Solender, head of municipals at Lord Abbett Co, said that municipal bond yields have reached attractive levels with strong credit fundamentals and they just want to see stability in rates, which might be finally happening. Dennis Derby, a portfolio manager at Allspring Global Investments LLC, said the rally would need to be sustained to reverse the mutual-fund outflows that have persisted for much of 2022. According to Refinitiv Lipper data, investors yanked $3.6 billion from municipal bond mutual funds during the week ending Sept. 28, the eighth week of withdrawals.
He said there was still apprehension in the space but we are seeing more client interest in moving into the asset class.
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