MUNICIPAL MARKET UPDATE Highlights 14

MUNICIPAL MARKET UPDATE
2 0 14
Munis Follow Script, But Rates May Direct Act II
Highlights
}October marked the 10th consecutive month of gains for the municipal
bond market.
}Although a positive month, it was a volatile one—a trend that is likely to
continue as the Fed and interest rate policy attracts greater attention.
}After 852 costly days, Stockton (CA) emerged from bankruptcy. Bondholders
took a haircut in the restructuring, while pensioners were unimpaired.
Peter Hayes
Market Overview
Munis followed their seasonal script in October, but not without some drama (i.e.,
volatility). Economic weakness in Europe stoked an investor flight to safety early in
the month that benefited both municipal bonds and U.S. Treasuries. As investors
turned their sights back to risk assets in the latter half of the month, the municipal
market saw somewhat of a correction, but not enough to interrupt its perfect
performance streak.
As expected, the Federal Reserve (Fed) ended its extraordinary program of bond
purchases (quantitative easing, or QE) in October, with little market impact. For the
most part, municipal bonds took directional cues from the Treasury market, but
were unable to keep pace with their taxable counterparts. Still, munis continue to
offer attractive value, particularly on an after-tax basis.
In terms of supply/demand, October played out as expected in that muni supply
increased (as issuers move to execute deals before year-end) and demand waned.
New issuance of $36 billion was 45% higher than the prior month; demand was a
slower but respectable $2.7 billion, bringing the year-to-date flows into municipal
Managing Director and Head of the
Municipal Bonds Group
James Schwartz
Managing Director and Head of
Municipal Credit Research
Sean Carney
Director and Municipal Strategist
BlackRock Municipals Group
Number of members: 52
Average years’ experience: 18
Assets under management
(9/30/14): $114 billion
Strategy and Outlook
The volatility seen in October is likely to continue
as the Fed and interest rates play a larger role in
the market. Now that QE has ended, the markets
will begin to anticipate the Fed’s next move (i.e.,
interest rate hikes).
Duration
} Neutral
Yield Curve
} Barbell (0-2 and 10-15 years)
While investors should prepare for more market
gyrations and potential corrective action, we
would stress that both supply/demand and
market fundamentals are solid and the asset
class represents good value from an income and
credit quality perspective.
} Locals in lien-status states, particularly CA school districts
Overweight Sectors
} State tax-backed and essential-service bonds, particularly
the Southwest (TX), Plains and Southeast (VA) regions
} Dedicated-tax bonds
Underweight Sectors
} Land-secured, senior-living and pre-refunded bonds
} Student loans
} Local tax-backed issues, particularly in AL, NV, AZ, MI,
IL, RI and PR
Making Headlines
Stockton (CA) made headlines in October when a federal
judge approved its bankruptcy exit plan. While health care
benefits to retirees were cut, the California Public
Employees Retirement System (CalPERS) was not impaired
as part of the debt restructuring, despite a recent ruling that
such an impairment would be legal under federal law.
Ultimately, the issue of whether public pensions could be cut
in a Chapter 9 negotiation was not addressed in Stockton,
leaving the market without a legal precedent on this front. Like
the harsh lesson learned in Detroit, bondholders remain below
public pensioners in bankruptcy restructurings, and need to
be particularly cautious in the case of fiscal distress.
In New York, Goldman Sachs sold $1.68 billion in bonds to
finance the construction of the 80-story, 3 World Trade Center
project. The bonds were issued under the Liberty Bond
Program that was put in place after 9/11 to fund improvements
to downtown Manhattan. As such, the deal offered investors a
rare opportunity to buy triple-tax-exempt high yield paper.
MONTHLY CHANGE IN YIELDS
AAA Muni Yield (%)
Term
2 years
10/31/14
9/30/14
10/31/14
0.36
0.36
0.57
0.49
1.17
1.12
1.76
1.61
10 years
2.17
2.07
2.49
2.34
30 years
3.09
3.01
3.20
3.07
MUNICIPAL AND TREASURY CURVES, 10/31/14
4.0%
3.0
2.0
1.0
0
2 yrs
5 yrs
The S&P Municipal Bond Index returned 0.55% in October,
bringing year-to-date gains to 8.49%. Performance continues
to be led by long maturities, which are now up a remarkable
13.93% for the year. High yield also remains a standout, despite
modest underperformance for the month. Across sectors,
lifecare and health care did well, while public power trailed in
October. As shown at right, both muni and Treasury rates fell
on the month, with Treasuries experiencing a larger move.
10 yrs
30 yrs
TERM
AAA Munis
Treasuries
Sources: BlackRock; Bloomberg.
MUNICIPAL PERFORMANCE ANALYSIS
Oct. 2014
YTD 2014
S&P Municipal Bond Index
0.55%
Long maturities (20+ yrs.)
0.73
13.93
Intermediate maturities (3-14 yrs.)
0.51
6.54
Short maturities (6 mos.-3 yrs.)
0.08
1.08
-0.03
12.94
Pre-refunded bonds
0.13
1.72
General obligation (GO) bonds
0.51
7.13
High yield
By the Numbers
Treasury Yield (%)
9/30/14
5 years
YIELD
funds to $20.8 billion. Meanwhile, state and local
governments have been prudent in balancing revenues and
spending, a positive for creditworthiness and overall market
fundamentals. States that are struggling tend to be those
with burdensome pension obligations.
8.49%
Regions
California
0.69
9.76
Florida
0.66
8.69
New Jersey
0.58
8.03
New York
0.49
7.85
Pennsylvania
0.68
8.92
-1.83
9.02
Puerto Rico
Source: S&P Indexes.
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Investment involves risk. The two main risks related to fixed income investing are interest rate risk and credit risk. Typically, when
interest rates rise, there is a corresponding decline in the market value of bonds. Credit risk refers to the possibility that the issuer
of the bond will not be able to make principal and interest payments. There may be less information available on the financial
condition of issuers of municipal securities than for public corporations. The market for municipal bonds may be less liquid than for
taxable bonds. A portion of the income may be taxable. Some investors may be subject to Alternative Minimum Tax (AMT). Capital
gains distributions, if any, are taxable. Index performance is shown for illustrative purposes only. You cannot invest directly in an
index. Past performance is no guarantee of future results.
This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment
strategy. The opinions expressed are as of Nov. 7, 2014, and may change as subsequent conditions vary. The information and opinions contained in this material are derived from proprietary and
nonproprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. There is no guarantee that any forecasts made will come to pass.
Any investments named within this material may not necessarily be held in any accounts managed by BlackRock. Reliance upon information in this material is at the sole discretion of the reader..
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