Higher-end real-estate developments are starting to tap the MUNI market through what is being called “luxury dirt deals,” which will carry higher yields due to the added risk associated with these deals. This year, MUNIs have helped finance a vacation home golf enclave in FL, a resort near Zion National Park, and a $4.2B redevelopment in Atlanta’s downtown area. There is no denying we will see more of these types of issues; however, with the risk associated with these types of transactions, I suspect DRL will not be participating in such deals.
With US inflation holding steady and housing prices holding, I feel this is undercutting the chances of a 50bps cut next week and has been swaying for quite some time to 25bps. I suspect today’s reading will not deter the FED from cutting rates; however, it will reduce the size of the cut. This is why you are seeing yields tick up post numbers 9/11 morning.
August CPI’s report indicated firms are having difficulty passing higher input pricing onto consumers even as freight costs have risen. This suggests that further margin compression is coming, and firms may lay off personnel to cut costs. We will continue to see compression and layoffs. However, I do not think we will see a full-on recession. Munis should continue to strengthen; however, I expect pricing to fade as the realization of a 50bps move fades, and we are seeing this in today’s market.
MUNIs have historically been a “laggard” asset class compared to other courses, which is understandable due to the lower volatility. MUNIs out of high-tax states such as CA and NY continue to perform well based on those residents’ demand for that paper. We are seeing more ETFs focusing on these states, which means they will buy paper in these states, putting added pressure on this sector (moving yields down). The bottom line is that we will continue to see this happen through 2025, pushing yields down for various reasons. If you are seeking paper from high-income states, over time, I suspect yields will grind lower (faster) than the general market in this asset class.
Consumer inflation expectations have stabilized both at the short- and longer-term horizons in recent months. However, Americans continue to grow more concerned about their ability to keep up with debt payments. Overall, I suspect many Americans are not seeing a decrease in their living expenses, which will continue to be of concern to many….and the FED is watching this.
Fund flows remain strong, with investors adding 539MM to MUNI bond funds in the week ending 9/4. As we have mentioned, this will continue for quite some time, and these funds will need to buy paper to satisfy the demand for paper to place with the inbound funds. This should continue to push yields down regardless of what the FED does next week.
We feel the bond market has ended its long question regarding the FED, wondering if rates will be cut by 50bps next week. Swap traders, as of yesterday, 9/11, have priced in a .25 reduction next week. The T markets pared losses in the wake of the inflation data on Wednesday, 9/11, while stocks closely tied to the economy, including equipment rental companies and debt-heavy small caps, were among the most hit in the trading session on 9/11.
If the case for a 50bps rate cut next week, the CPI report does nothing to support that cut. We have thought 25bps for quite some time, and I continue to see 25bps next week. Even though the upside surprise in core CPI was almost entirely driven by two volatile components (hotel and airfares), the latter of which does not feed into the FED preferred measure. The bottom line here is that CPI does not support 50bps, and we do not think the FED will act on 50.
The Bottom Line:
As we have been saying for quite some time, you will see rates grind lower, credit quality hold strong, and issuance heavy over the next 30 days. This will create buying opportunities. Of course, anything can happen, but if we stay the course, bondholders should be pleased with the direction of rates over the next few quarters.
At The DRL Group, we specialize in helping high-net-worth investors maximize tax-free returns by proactively maintaining their custom bond portfolios through all market conditions.
David Loesch
[email protected]
www.drlgroup.net
605-B Park Grove
Katy, TX 77450
866.664.4040 (toll-free)
281.398.8600 (direct)
Securities are offered through New Edge Securities, Inc., a registered Broker-Dealer, FINRA and SIPC member. The DRL Group is not a subsidiary or control affiliate of New Edge Securities, Inc.New Edge Securities, Inc. has no affiliation with Bond Desk Trading LLC, Bond Trader Pro, Tradeweb Direct, Bondpoint, TMC, or any other ECN.
Do not buy discount bonds based on the Yield-to-Call (YTC). YTC does not indicate total return; this yield is valid only if the security is called. Bonds may be callable on multiple dates or any date following the first call date, so yield to call is based on the earliest stated call date. Discounted bonds may be subject to capital gains tax. Bonds may be subject to OID (Original Issue Discount). Bonds could also be subject to the DeMinimis Rule; please consult your tax advisor for further clarification. Insured bonds are issued for timely principal and interest payment only, do not cover potential market loss, and are subject to the insurance company’s claims-paying ability. Municipal income may be subject to state, local, and Alternative Minimum Tax (AMT) taxation. Corporate and Municipal securities are subject to gains/losses based on the level of interest rates, market conditions, and credit quality of the issuer. Non-rated (NR), With-Drawn (WR), or below investment grade bonds, lower-rated bonds carry a greater potential risk of default & should be considered by sophisticated investors only.
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