Municipal Market Performance and Benchmark Rates: Looking back, months or years from now, April 2025 will be defined by the historic volatility triggered by President Trump’s “Liberation Day” tariff announcement on April 2nd. In the 7 trading sessions following the announcement, 30-year AAA municipal rates moved 150 basis points, touching a low of 3.96% and a high of 4.80% (over 7 days). As we highlighted in our special mid-month Got Volatility? report, the municipal market entered the month as a tinderbox looking for a spark, and found it. Under ordinary circumstances, April is a challenging month for municipal market performance, due to seasonal factors – tax-related selling, low monthly re-investment demand, and heightened new issue supply. When coupled with significant equity and UST volatility and loud whispers surrounding the potential changes to the tax treatment of municipal bonds, the result is municipal market volatility not seen since March-April 2020. As the market finally settled down mid-month, a resilient and constructive tone began to take hold, as broker-dealers, SMA investors, and cross-over (taxable relative value) buyers viewed the market as over-sold and the entry point favorable.
Despite the severe intra-month volatility, interest rates generally closed the month within ~20bps of where they started. The US Treasury curve steepened in April, as rates were lower by 19 bps and 3 bps in 5 & 10 years, respectively, and higher by 10 bps out 30 years. The municipal market underperformed it’s UST counterpart, with AAA yields rising by 15-20 bps, depending on tenor. The Bloomberg High Yield Index (LMHYTR) posted a monthly loss of (1.80%), underperforming the Bloomberg Barclays Municipal Index (LMBITR) for the first time since December of last year, which lost (0.81%).
Mutual Fund Flows: The positive fund flow momentum exhibited during most of Q1 feels like a distant memory as the outflow cycle that begin in the latter part of March, accelerated in April. Given the volatility and headwinds highlighted above, this comes as little surprise to market observers. Investment grade mutual funds have now experienced seven straight weeks of outflows, with April outflows totaling over $5B. The $3B weekly outflow in early April was the highest weekly figure dating back to June 2022. High-yield fund outflows were more subdued, by comparison, but still negative in April. After 13-straight weeks of inflows, high-yield funds experienced outflows all four weeks this month, totaling over $1.5B. Despite the April hiccup, year-to-date flows remain firmly positive for high-yield open-ended funds, with inflows totaling over $2.6B. High-grade funds have erased of this years inflows with outflows now totaling ($2.1B).
Primary Market Supply: April new issue supply is slated to total over $40B, down roughly 10% year-over-year, but still 10% higher than the trailing 5-year average. While high-yield supply remained healthy this month, the outcome of new issue pricing for borrowers felt particularly binary. Credits viewed favorably by the market place saw significant oversubscription levels and deals repriced lower by as much as 20 bps. On the other hand, credits with a “story” were viewed more skeptically, struggled to get priced, and remain on the sidelines until market conditions improve or the reality of a market clearing level that was previously unacceptable, becomes acceptable. Interestingly, April’s volatility and elevated yields, motivated LCP to pick-off some lower-investment grade (BBB-) new issue in the mid-high 5’s. Looking ahead, high yield new issuance appears robust in May. While broader municipal supply should remain elevated next month, reinvestment cash levels will improve, creating a more favorable backdrop for municipal performance, which has been positive in 15 out of the last 20 months of May.
So, what does the market volatility mean for investors in the non-rated municipal market? OPPORTUNITY.
The non-rated market is typically the last to recover after a period of dislocation. This is evident in the difficulty underwriters are having placing issues with a credit story. While high yield mutual fund flows remain positive in 2025, outflows in high yield funds totaled $1.5B in April. This put pressure on portfolio managers to raise cash to meet these redemptions. Forced selling into an illiquid market added to market volatility and dislocation. We were able to purchase bonds for a senior living community on which we have a favorable credit view 110 bps cheaper than in late March. Bonds that had been trading around 7.00% were now behind 8.00%, with no change in fundamental credit quality. Market dislocations resulting from technical factors (seasonal selling in April, new issue supply or retail investor moving in herd fashion) typically present opportunities for sophisticated investors to exploit. Notably, the dislocation in March 2020 was significant, but it was also rooted in substantial credit concerns. The onset of COVID created credit concerns across all sectors. How the municipal market generally, and our revenue bond sectors specifically would fare through COVID was unknown.
Looking ahead, May, June and July will bring significant coupon reinvestment (demand) back to the market. New issue supply should abate as we enter the summer months (borrowers issue to finance capital projects that are initiated during warmer months in northern United States). Combined, these should start to provide some market stability going forward, as noted above, we are already seeing that in the investment grade world.
Investors in our non-rated sectors today should expect new tax-exempt portfolio yields around 7.00%, or 11.50%+ taxable equivalent for maximum (40.8%) federal tax bracket investors. We are building portfolios today with a combination of new issues (priced around par) and older legacy issues with 5.00% to 5.50% coupons. The discounted coupons provide investors with significant price protection in the event interest rates trend lower in the coming years. Additionally, the discounted price is beneficial from a credit perspective, the borrowers have locked in long-term financing at very favorable rates.
Finally, while equity investors fret over the prospects of a recession and the impact on corporate earnings, non-rated municipal bond investors need to understand the implications for their specific revenue bond sectors. The need for congregate care (senior living) is not likely to abate due to an economic recession, likewise, charter school enrollment is generally not directly tied to economic cycles. The dislocation today provides long-term investors the opportunity to exploit the current market dislocation and construct tax-exempt portfolios that should generate high levels of tax-exempt income for many years to come. It has been a long time coming, but it seems the market opportunity is finally here.
The chart above shows the increase in value of $1,000,000 invested in the LCP composite at inception (net of management fees and expenses) vs. the benchmark, the Bloomberg High Yield Muni (LMHYTR) as well as the Bloomberg Muni (LMBITR) indices (it is not possible to invest in either Bloomberg Index). Please contact us with questions regarding credit profile, returns, taxable equivalent yields or further portfolio information. Past performance is not indicative of future results.