Munis are outperforming both high-yield corporates and investment-grade corporates so far this year. Here’s what it means for your portfolio.
The Signal
Fed Chairman Kevin Warsh’s break from forward guidance is looking less like a one-off posture and more like doctrine. Governor Christopher Waller, speaking this week at a Bank of Italy conference in Rome, said signals from policymakers on the future path of rates can still play a useful role if handled carefully — a mild counterpoint to Warsh’s approach, and a reminder that the committee is not of one mind on communication, let alone on the rate path itself. Three months ago the conversation was about cuts. Today it is just as often about hikes.
The muni market’s response has had more to do with supply and demand than with any single Fed signal this week. Yields eased roughly 8 basis points across most of the curve, then reversed and rose about 5 basis points on July 8th as renewed tension around the Iran conflict resurfaced. We remain buyers here, but the whipsaw is a reminder that geopolitics, not the Fed, is still setting the near-term tone.
We used the phrase “watching, not reacting” to describe Warsh’s posture in our July 2 edition. Waller’s comments this week confirm that discipline is spreading across the committee, even as consensus on the rate path itself remains elusive.
What’s Driving It
Munis are outperforming, and record supply isn’t standing in the way
State and local government bonds have gained 2.3% so far this year, ahead of high-yield corporates at about 2.2% and investment-grade corporates at 0.3%, according to data compiled by Bloomberg. That outperformance is happening despite a record calendar: June issuance totaled roughly $62 billion, the most for that month in at least a decade, and first-half sales reached about $295 billion, the largest first-half total in ten years. Demand has kept pace with supply rather than falling behind it, which is precisely why yields have held in even as the market absorbs this volume. We expect strong issuance to continue through the back half of the year, with demand remaining just as strong as investors continue to rotate out of speculative equity positions and into safer assets.
The Fed’s rate path remains a genuine coin flip
San Francisco Fed President Mary Daly said this week that inflation should start to slow, though she flagged considerable uncertainty around the broader economic outlook, noting that policy remains “in a slightly restrictive position” to help bring it down. Combined with Waller’s remarks, the picture is one of a committee holding steady and waiting on data rather than committing to a direction. We do not expect a move in the fed funds rate over the next few months, in either direction.
JFK’s New Terminal One is a credit-quality flag, not a panic button
Fitch placed the debt backing JFK’s New Terminal One project on Rating Watch Negative this week, citing a delayed opening, higher construction costs, and slower recovery in international passenger traffic. The move follows Moody’s own shift on the same credit to negative from stable less than two months ago. This is exactly the kind of credit we have long urged clients to evaluate carefully rather than avoid outright. If you hold this paper, now is the time to confirm it still meets our credit risk profile.
New York City’s new budget keeps its rating under watch
Mayor Zohran Mamdani and the City Council struck a $126 billion budget deal this week, and JPMorgan strategists note the city’s credit rating still faces downgrade risk despite the agreement. We trade this paper daily and there are specific attributes investors should understand before adding exposure here — reach out if you’re evaluating New York City credit.
Our Take
The headline this year is a good one: munis are outperforming other fixed income asset classes even while absorbing record supply. That combination — strong relative returns alongside heavy issuance — is unusual, and it reflects genuine demand, not just a lack of alternatives.
That said, this is not a moment for indiscriminate buying. Two variables are doing most of the work right now, and we are watching both closely. The first is the Fed’s rate path: with Waller and Daly both signaling patience but disagreement over direction, we think the committee is more likely to hold than move sharply in either direction over the next few months. The second is the Iran conflict, which continues to drive short-term yield volatility independent of anything coming out of Washington.
Credit selection still matters as much as ever. JFK’s New Terminal One and New York City’s rating outlook are both reminders that a strong macro backdrop does not erase credit-specific risk. We continue to favor higher-grade paper with strong essential-service characteristics or insurance, and we are being deliberate about where we add exposure within that universe.
We remain buyers 10 years and beyond on the curve, with roughly five-year call protection, in AA-rated paper from strong states. We are watching the Iran conflict and the Fed’s next data points closely, and we will act when the setup warrants it.
Recommendations
Stay in 10-year-plus maturities, with roughly five-year call protection
AA-rated paper from strong states remains our preferred profile in the current environment, balancing yield with the credit quality our clients expect.
If you hold JFK New Terminal One bonds, revisit them against our credit criteria
Between Fitch’s Rating Watch Negative and Moody’s negative outlook, this credit warrants a fresh look rather than a wait-and-see approach.
Treat record municipal issuance as an opportunity, not a warning
Demand has kept pace with an historic supply calendar, and we expect that dynamic to hold through the second half of the year.
Take a closer look at New York City credit before adding exposure
The city’s new budget doesn’t remove downgrade risk. Reach out if you’d like to discuss this in the context of your portfolio.
Let’s Talk
If you would like to discuss any of the above in the context of your portfolio, reach out. This market environment rewards preparation — and that is exactly what we are here to help with.
