February 24, 2020 – The Dow Jones Industrial Average lost 3.56%, or 1,031 points on Monday, while the S&P 500 and Nasdaq fell 3.35% and 3.71%, respectively.
30-year Treasuries closed at 1.86%. A year ago, the same risk-free 30-year benchmark was 3.03%.
Equity investors appear to have underestimated the impact of the virus outbreak in China, which has spread to forty countries including Japan (838 cases/4 deaths), South Korea (833/8), Italy (152/6) and Iran (43/12). Based on available reports, there has been 35 confirmed cases in the United States, with no fatalities.
Several investment houses and economists have downgraded their growth forecasts for Q1 2020, although most revisions were cautious and predicated on the virus outbreak being contained by the end of March. As previously reported by BuyMuni, Moody’s Investor Service reduced it’s 2020 G-20 and China growth by 20 and 60 basis points, respectively.
Municipal market participants contacted by BuyMuni indicated that the flight-to-safety to Treasuries and fixed income securities will likely sustain the current municipal bond rally well into the second half of 2020.
Strong technical support, i.e. positive fund flows, will likely temper extreme volatility in munis even as Treasuries and equities whipsaw on coronavirus fears, U.S. election uncertainties and a weakened global economy worsen by last year’s trade tensions.
According to a recent Citi research report, municipal bond funds reported 59 consecutive weeks of inflows, netting almost +$14.9 billion of funds flowing into the market this year. In the high yield space, bond funds reported inflows of +$481.2 million for the week ending February 19th after reporting prior week inflows of +$636 million. Year-to-date, high yield funds have now netted about +$4.2 billion of funds flowing into the market.
Amid Ultra Low Interest Rate Environment, Do Dark Clouds Lie Ahead?
Investment houses including Morgan Stanley, Citi and Wells Fargo expect strong issuance growth in 2020, with growing momentum for taxable issuance; proceeds from these bonds have been used to refinance previously issued tax-exempt or Build America debt at lower interest rate for budget savings.
Issuers in California and New York State have ratchet issuance to fund capital projects, affordable housing and transportation projects to capitalize on low interest rates and steadily increasing tax revenues.
Over the medium to long-term however, two experienced municipal analysts BuyMuni spoke with believed that weaker economic growth, inflexible spending for social programs and a prolonged, low-rate environment could wreck havoc on state and local governments’ finances.
Corporate earnings growth have continued to taper this year, and business confidence has slowed as CEOs pared investments amid trade tensions and slowing U.S. growth.
Moreover, even as states and local issuers are hamstrung with poor revenue outlooks, low investment returns and/or low interest rates will exponentially raise the unfunded pension and OPEB liabilities for some of the nation’s largest issuers including New Jersey, California and Connecticut. For instance, based on the GASB 67 disclosure in the State of Connecticut’s 2018 financials, a mere 1% decrease in interest rate would increase the state’s unfunded pension liabilities from $21.7 billion to $25.9 billion, a significant increase of nearly 20%.
While the verdict is still out on whether blue states are losing population to lower-taxed red states, a recent Bank of America study analyzing IRS data concluded that higher tax states were indeed losing some of its productive residents, with a net outflow of nearly $32 billion of Adjusted Gross Income from high to low-taxes states in 2018.
Contact Lisa Lopez at LLopez@buymuni.com.
