Municipal bonds in particular have been sensitive to changes. High demand has sent prices soaring and yields tumbling to record lows, said Chris Ryon, managing director and co-portfolio manager along with Josh Gonze of the Thornburg Municipal Bond unit.
Investors are not getting paid to take risk in the current muni market, Ryon said. “Muni bonds are overvalued,” he said. “Credit spreads are very narrow and investors are not getting paid much to purchase longer maturity securities. For example, real yield, meaning inflation-adjusted yield, in the last five years reflects what Ryon termed “the period of the new normal.”
During that period, he explained, investors were getting paid 1.3% above PCE (a Federal Reserve inflation measure). Today, by contrast, they’re paid 77 basis points, or 0.7% above the PCE, “so they’re not receiving much of a real yield.”
So why buy munis? They’re cheap relative to U.S. Treasurys as measured by the muni-to-Treasury ratio, which compares the yield of a triple-A muni to the yield on a Treasury, Ryon said.
He also said the high yield market in fixed income is currently overvalued. “It’s been full speed ahead there. People have continued to pile into the high yield market.”
Corporates Rule
By contrast, he said, Thornburg “continues to like corporate bonds. Corporate balance sheets are in great shape. They’re generating a lot of cash since the recession.”
Gonze also underscored the challenges, including compressed spreads and lower-than-normal yields, currently confronting muni investors and other fixed-income investors.
“Investors are keenly interested in generating income, so inflows into bond funds continue,” he said.
Thornburg, he said, “is focused mainly on the short end of the curve and higher quality bonds, so we are positioned to exploit any blip upward in interest rates or credit spreads,” Gonze continued.