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Goldman Sachs Asset Management Statement on the Russia-Ukraine War. Read it here.    

MUNICIPAL BONDS: ARE WE THERE YET?

June 9, 2022  |  3 Minute Read


By: Scott Diamond, Matt Wrzesniewsky


 

The municipal market is generally known for its steady returns and relatively low volatility—this year has been different. A sudden shift in The Fed’s policy toward more aggressive interest-rate hikes has prompted investors to pull money out of municipal mutual funds in 2022 at a near-record pace, in line with the approximately $70 billion worth of outflows that followed the 2013 Taper Tantrum. This has all but reversed the record inflow seen in 2021.

 

The Fed’s hawkish turn has pushed up yields and pushed down prices of nearly all types of bonds, munis being no exception1. But once the market stabilizes, investors will have an opportunity to reinvest at higher yields, locking in higher income and return potential. For most investors, though, the tricky part is deciding when to wade back in.

 

 

Exhibit 1: Change in Yield...Change in Fortune?

Sharp Spikes in Yields are Rare and Create Opportunity for Investors

Past performance does not guarantee future results, which may vary. The value of investments and the income derived from investments will fluctuate and can go down as well as up. A loss of principal may occur.

 

 

The month of May was the first month of positive returns for the municipal market since December 2021. The market returned +1.49% in May after a sudden reversal in sentiment mid-month after index yields hit 3.5%—roughly 5.9% on a tax-equivalent basis for investors at the highest tax bracket—and a reminder that there are now attractive potential alternatives to riskier assets.

 

The question lingering in many investors’ minds today is the age old one: are we there yet? While answering that question definitively is impossible, we do believe there are signs of stabilization and light at the end of this tunnel. With municipal yields at 10-year highs, we’ve started to see the market rally. There may be more ahead.

 

One reason is that market technical factors such as issuance and coupon payments have historically lent support in the summer months. We estimate $45.9 billion in coupon payments will hit the market from June through August. At the same time, we expect net new issuance to be negative, reducing supply for at a time when those coupon payments will need to be reinvested and $127 billion of bonds are called or are set to mature.

 

Also, credit health remains strong despite recent market volatility, bolstered by positive economic growth that has lifted tax revenues for states and local governments. Rainy day fund balances have swelled and the extra cash has led municipalities to meet their necessary pension contributions. For fiscal year 2022 rainy day balances are $100 billion, just shy of the record set for fiscal year 2021. And as we move through budget season, states are indicating surpluses, and some more than forecast. California has reported of nearly $100 billion of surplus revenue2. Both Texas and Florida also boast of sizable budget surpluses of $20 billion, respectively. And lastly, the backdrop has benefited BBB-rated Illinois with the first ratings upgrade in approximately two decades.

 

With some much anticipated relief for muni investors in May and signs that outflows may be slowing, municipals look attractive at current valuations, and we think they offer attractive income on both an absolute and tax-equivalent basis. Past periods of disruption have been fruitful entry points for long-term investors. With higher yields and a stable fiscal backdrop, municipals may not be on sale for long.

 

 

About the Authors

Scott Diamond

Co-Head of Municipal Fixed Income

Scott Diamond

Matt Wrzesniewsky

Fixed Income Strategist

Matt Wrzesniewsky

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1 Hawkish: Phrase used to explain the aggressive tone of the Federal Reserve, indicating that the Fed believes that the inflation rate is high enough to warrant concern.

2 Source: The California Legislature’s Nonpartisan Fiscal and Policy Advisor, Florida Governor Ron DeSantis’ website, Texas Comptroller’s office. 

 

Disclosures  

Risk Considerations

Investments in fixed income securities are subject to the risks associated with debt securities generally, including credit, liquidity, interest rate, call and extension risk.

Although Treasuries are considered free from credit risk, they are subject to interest rate risk, which may cause the underlying value of the security to fluctuate.

Diversification does not protect an investor from market risk and does not ensure a profit.

General Disclosures

This material is provided for educational purposes only and should not be construed as investment advice or an offer or solicitation to buy or sell securities.

THIS MATERIAL DOES NOT CONSTITUTE AN OFFER OR SOLICITATION IN ANY JURISDICTION WHERE OR TO ANY PERSON TO WHOM IT WOULD BE UNAUTHORIZED OR UNLAWFUL TO DO SO.

Prospective investors should inform themselves as to any applicable legal requirements and taxation and exchange control regulations in the countries of their citizenship, residence or domicile which might be relevant.

Past performance does not guarantee future results, which may vary. The value of investments and the income derived from investments will fluctuate and can go down as well as up. A loss of principal may occur.

Views and opinions expressed are as of June 3, 2022 for informational purposes only and do not constitute a recommendation by Goldman Sachs Asset Management to buy, sell, or hold any security. Views and opinions are current as of the date of this commentary and may be subject to change, they should not be construed as investment advice.  Individual portfolio management teams for Goldman Sachs Asset Management may have views and opinions and/or make investment decisions that, in certain instances, may not always be consistent with the views and opinions expressed herein.

This information discusses general market activity, industry or sector trends, or other broad-based economic, market or political conditions and should not be construed as research or investment advice. This material has been prepared by Goldman Sachs Asset Management and is not financial research nor a product of Goldman Sachs Global Investment Research (GIR). It was not prepared in compliance with applicable provisions of law designed to promote the independence of financial analysis and is not subject to a prohibition on trading following the distribution of financial research. The views and opinions expressed may differ from those of Goldman Sachs Global Investment Research or other departments or divisions of Goldman Sachs and its affiliates. Investors are urged to consult with their financial advisors before buying or selling any securities. This information may not be current and Goldman Sachs Asset Management has no obligation to provide any updates or changes.

Economic and market forecasts presented herein reflect a series of assumptions and judgments as of the date of this presentation and are subject to change without notice. These forecasts do not take into account the specific investment objectives, restrictions, tax and financial situation or other needs of any specific client. Actual data will vary and may not be reflected here. These forecasts are subject to high levels of uncertainty that may affect actual performance. Accordingly, these forecasts should be viewed as merely representative of a broad range of possible outcomes. These forecasts are estimated, based on assumptions, and are subject to significant revision and may change materially as economic and market conditions change. Goldman Sachs has no obligation to provide updates or changes to these forecasts. Case studies and examples are for illustrative purposes only.

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The indices referenced herein have been selected because they are well known, easily recognized by investors, and reflect those indices that the Investment Manager believes, in part based on industry practice, provide a suitable benchmark against which to evaluate the investment or broader market described herein.

This material is provided for informational purposes only and should not be construed as investment advice or an offer or solicitation to buy or sell securities. This material is not intended to be used as a general guide to investing, or as a source of any specific investment recommendations, and makes no implied or express recommendations concerning the manner in which any client’s account should or would be handled, as appropriate investment strategies depend upon the client’s investment objectives.

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Date of first use: June 8, 2022

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