Is Now A Good Time To Buy Municipal Bonds

One of the reasons may be a higher so-called municipal-Treasury ratio, comparing muni bonds and nearly risk-free Treasury yields, explained Kozlik. The higher the percentage, the more attractive muni bonds become.

is now a good time to buy municipal bonds

Municipal bonds have taken a beating this year as investors retreat amid rising interest rates. The market, however, could be poised for a comeback thanks to unusually attractive relative yields and strong balance sheets at state and local governments.

Since rising market interest rates typically cause bond prices to fall, some investors worry about the Federal Reserve's expected interest rate hikes. But muni bonds are still a good option for certain clients, advisors say.

"I like muni bonds as a place for clients to park their money," said certified financial planner Jordan Benold, partner at Benold Financial Planning in Prosper, Texas, explaining how it's a good spot for funds awaiting other opportunities.

The purpose of this article is to discuss the state of the municipal (muni) bond market, both tax-exempt and taxable. This is a sector I have long favored within the IG credit markets, often owning it exclusively and holding no IG corporate debt (I do have some high-yield corporate exposure). However, I saw a heightened level of interest rate risk back in 2021 for this sector in particular and began to fade on my outlook. In hindsight, this was certainly vindicated, the problem was I saw the sell-off in the first half of 2022 as a buying opportunity, and that has had limited success. The sector continues to see intense pressure, with investors bailing on leveraged CEFs that are a popular way to play the space. Net result, my muni positions are in the red for the year (so far).

Outstanding Credit QualityThanks to the federal aid throughout the Covid crisis and an anticipated pandemic downturn that proved short-lived, municipalities are in great fiscal shape, sources say.

Patel adds, Multiple rounds of federal fiscal stimulus during the pandemic and the result of revenues exceeding forecasts have brought about a situation where most states and most issuers are two to three times better off from a liquidity standpoint going into this recession than they were going into 2008.

Historically, once the Fed stops raising interest rates, intermediate-term muni bonds perform a lot better than short-term options. On average, those intermediate durations paid more than 4% more in total return six months after the peak fed funds rate. For example, in December 2018, intermediate-term munis paid 3.6% better, returning 4.8% compared with 1.2% for short-term munis.

In 2022, the Bloomberg Barclay's US Aggregate Bond Index, which represents the vast investible universe of US bonds, is set to do something it has never done before: lose value for the second year in a row.

However, as 2023 begins, bonds look poised to once again deliver their traditional virtues of reliable income, capital appreciation, and relatively low volatility. For the first time in decades, bond yields are high enough that income-seeking retirees can use them to help support a 4% withdrawal rate from their portfolios.

Because bond prices typically fall when interest rates rise, bond markets have long been sensitive to changes in rates by central banks. But they are also influenced by other factors such as the health of the economy and that of the companies and governments that issue bonds. Since the global financial crisis, though, the interest rate and asset purchase policies of the Fed and other central banks have become by far the most important forces acting upon the world's bond markets. In 2022, the focus of their policies shifted from supporting markets to trying to fight inflation and bond markets reacted badly.

That means angst about how interest rates might affect bond prices shouldn't obscure the fact that the return of rates to historically normal levels may present a long-awaited opportunity in bonds for those who seek income and principal protection. For years, as Managing Director of Asset Allocation Research Lisa Emsbo-Mattingly puts it, "The Fed had been financially repressing savers, especially retirees." Now, higher rates mean that retirees and savers may be able to earn attractive returns without taking much risk in 2023 and beyond.

Not only are yields up, prices of many high-quality bonds are down as a result of the 2022 selloff. That means opportunities exist for those with cash to buy relatively low-risk assets at bargain prices even as they pay yields that are higher than they have been in decades.

Emsbo-Mattingly expects the Fed to continue to raise the federal funds rate further until it has an impact on inflation. If inflation comes down closer to the 2.5% range where the Fed wants and expects it in 2023, real rates, which are bond yields minus the rate of inflation, could rise further into positive territory. This would help high-quality bonds to once again be meaningful contributors for many retirees who are looking to supplement Social Security, pensions, and other sources of income.

The opportunities provided by higher rates could be short-lived. Getting inflation under control is the focus of Fed policy in the months ahead, but the central bank also wants to make sure it has room to cut rates if the economy goes into recession, potentially in 2023. Rate cuts are the most powerful tools the Fed has to stimulate economic growth and the central bank wants to be able to make impactful cuts when necessary. That could mean that the opportunity to add low-risk, high-yielding bonds to your income strategy may not be there if you wait too long.

If you're considering individual bonds, you should know that the bond market is large and diverse and getting the best prices can be tricky. Fidelity can help by offering a wide range of ways to research bonds as well as professional help to construct a portfolio that reflects your needs, your tolerance for risk, and your time horizons.

In general, the bond market is volatile, and fixed income securities carry interest rate risk. (As interest rates rise, bond prices usually fall, and vice versa. This effect is usually more pronounced for longer-term securities.) Fixed income securities also carry inflation risk, liquidity risk, call risk, and credit and default risks for both issuers and counterparties. Unlike individual bonds, most bond funds do not have a maturity date, so holding them until maturity to avoid losses caused by price volatility is not possible. Any fixed income security sold or redeemed prior to maturity may be subject to loss.

Lower yields - Treasury securities typically pay less interest than other securities in exchange for lower default or credit risk.Interest rate risk - Treasuries are susceptible to fluctuations in interest rates, with the degree of volatility increasing with the amount of time until maturity. As rates rise, prices will typically decline.Call risk - Some Treasury securities carry call provisions that allow the bonds to be retired prior to stated maturity. This typically occurs when rates fall.Inflation risk - With relatively low yields, income produced by Treasuries may be lower than the rate of inflation. This does not apply to TIPS, which are inflation protected.Credit or default risk - Investors need to be aware that all bonds have the risk of default. Investors should monitor current events, as well as the ratio of national debt to gross domestic product, Treasury yields, credit ratings, and the weaknesses of the dollar for signs that default risk may be rising.

Bonds are generally considered a less-risky asset than stocks. Still, they haven't been immune to the selloff investors experienced this year that has sent all three major stock market indexes tumbling into bear markets. The Federal Reserve has been raising interest rates to battle high inflation and most recently hiked rates by three-quarters of a percentage point for the third time in a row. The Bloomberg Global Aggregate Index of government and corporate bonds is down more than 20% since the beginning of the year, signaling the global bond market has entered a bear market for the first time in around three decades.

That company or government is agreeing to pay you back your principal (the amount of money they're borrowing from you) when the bond matures on a specific date, as well as regular interest payments (called the coupon). For example, if you buy a bond for $1,000 that matures in 10 years and pays a 4% interest payment annually, you'll receive $40 annually until the 10 years are up, at which time you'd also get back your $1,000. The yield is the overall return you get on a bond.

There is a wide variety of types of bonds, with different payment timelines and minimum investments. Most bonds offer fixed coupon rates. But the interest on the Series I Savings Bond or I bond, for example, is made up of both a fixed rate and an inflation rate, which can change every six months. The duration on bonds vary, too, with most falling between one year and 30 years.

But when bond prices move down, bond yields move up. The reasoning comes down to supply and demand within the bond market. When there is less demand for bonds, new bond issuers have to offer higher yields to attract buyers. Meanwhile, bonds with lower yields that are already on the market become less valuable by comparison.

"It's a bad year if you held bonds starting on January 1st," explains James J. Burns, certified financial planner and president of JJ Burns & Company. "It's a great year for someone who's got cash to invest."

And actually moderating how much risk you take is much easier in bonds than in stocks: If you want to have a low-volatility bond portfolio, you buy bonds with shorter durations and higher credit quality, Plecha explains. (Credit quality refers to how likely a borrower is to repay their debt. Shorter-term bonds are less volatile because you're not locking up your money as long.) 041b061a72