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Market News Commentary - From The Desk of David Loesch 02.04.2021Submitted by Tax Free Municipal Bonds/Fixed Income Specialists/DRL Group on February 4th, 2021
- MUNI bond rating downgrades exceeded upgrades last year for the first time since 2014. There were 390 downgrades compared to 296 upgrades in 2020. The cuts impacted $215.2B of securities or about 84% of the total rated debt; $42.1B saw their ratings increase. This change is to be expected under the 2020 pandemic pressures. I foresee these rating downgrade numbers to be lower in 2021 as the economy gets back on its feet. However, I do not expect to see many upgrades; I suspect we start to see movement on that “front” in 2023. Most of these downgrades were confined to lower rated securities, project financing, hospitals and CCRC’s.
- One trade in the MUNI markets getting attention is the BBB- “rated” trade. Investors are piling into “near junk” bonds to boost returns without the pitfalls of risker debt. Many in the industry consider BBB- rated paper a "bright spot" in the markets at this time and continue to buy this credit. Broker/Dealers are starting to recommend a small allocation of this credit class into portfolios. BBB-rated paper in 2020 lagged the overall recovery of higher-grade paper; however, I expect this class to do reasonably well in 2021 and 2022 with lower rates in front of us. DRL tries to avoid this asset class, based on past experience typically when this asset class is “piled into” that is usually the time to be a seller in our opinion.
- Senate Democrats put the $1.9T stimulus deal on a "fast track" to passage, increasing the likelihood it will get done on a party-line vote as of 2/2. With a 50-49 vote Tuesday, the Senate opened debate on a budget resolution for the 2021 year and will be on track to pass this massive bill very soon. Schumer indicated Tuesday, they will not "dilute" the bill, and it will pass as is. If this is the case, expect ~$300B to go to municipalities, further propping up our markets, resulting in firmer pricing.
- As to the above point, House and Senate Committees will have until 2/16 to come up with the bill's elements. That legislation (if passed) must stay at or below $1.9T and adhere to Senate rules. I continue to expect this massive deal to get done.
- Senator Warren will join the Senate Finance Committee, a panel that oversees tax, trade, and health care legislation. We have been discussing "higher taxes" for quite some time; this appointment will give Warren more ability to exercise influence over tax increases, which is an essential priority for the Biden Administration. I fully expect taxes to move up for all Americans making over $50K per year on a sliding scale. I think you will see MUNI's move in price based on tax adjustments' anticipation.
- Yellen discussed with US financial regulators Tuesday the recent volatility in the financial markets, specifically GME. She believes the integrity of the markets is vital and has asked for a discussion in the recent volatility and if these activities are consistent with investor protection while also providing "fair and orderly markets." I suspect these will be topics discussed throughout the year. With the volatility we have seen in these trades, many retail investors are setting themselves up in month's end for disaster; Yellen is concerned about this as well.
- Visible supply begins the week at $9.4B and continues to be below the average of $13.9B for 2020. Visible supply is moving up, but I do not expect this market to be 100% until the summer. Low primary market flow will translate to a “supply squeeze” on our markets and should be a plus for bondholders.
- Dealer inventories are at an all-time low. Major dealers slashed their holdings of MUNI debt to an average of $10.3B since the 2nd Q of 2020, which is half of the average over the last five years. Inventory continues to fall in 2021 to $6.4B on 1/13. This reduction is attributed to the larger banks posting losses during the panic that followed the pandemic's first wave in March. I believe this is an excellent opportunity to capture street trades. With low inventories, low primary supply, and cash-heavy retail, I suspect that we will continue to see pricing move up.
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