Come On In

One of the sales pitches for buying bonds (albeit an effective one) these past few years has been to buy bonds because now they earn you something. But while everyone knows 3% or 4% is greater than 1% or 2%, it is hardly a reason to do something silly.

The fact that interest rates were once near zero and now they are not should give you pause. Higher interest rates are not a recipe for bond investment performance. It was the trend toward lower interest rates over three decades that provided the wind in the bond bull market’s sails. With the new trend of higher interest rates, bond investors face headwinds that crimp performance.

Taking a longer-term perspective may help. The “higher” interest rates we now have are like where they were ten years ago. We buy a number of bonds issued ten or so years ago, so I am reminded daily. It also explains why the Bloomberg Municipal Bond Total Return Index for the past ten years is 2.73%. On December 2, 2014, the Index stood at 1064 and last week on November 29, 2024, it was 1355 (all prices and yields per Bloomberg). This Index covers the long-term tax-exempt bond market across four main sectors: state and local general obligation bonds, revenue bonds, insured bonds and prerefunded bonds.

The Index at 1355 is the same value as it was June 14, 2021 (1357), three- and one-half years ago. Your total return from those first 6.5 years was 4.24%, so owners of the Index are seeing their municipal bond returns erode. Earning zero for the past several years is a reality for owners of municipal bonds. That is the bond bear market at work, indicative of the headwinds bond investors now face.

Recognizing we are in a bond bear market is only the beginning when it comes to bond market investing. Performance is what matters, and you must know which bonds have better performance opportunities. Yet bond investors continue to invest in municipal bonds across all maturities.

Bond prices have bounced off their late 2022 lows (municipal bonds) and late 2023 lows (US Treasury bonds) making two year returns of 4.16% and 2.55% for the year to date on municipals look, rather, okay. But the past two to three years is not the trend; it is the countertrend as we have talked about for many months since the correction began.

The good news is we have been able to find worthwhile bonds during this intervening period. I believe these bonds are worthwhile in this environment as well as when the correction ends, and we begin to trend again to higher long-term interest rates.

Are we close, or merely closer, to reverting to trend I do not know. That is not what is important. What is important is we realize there are opportunities to buy worthwhile bonds that appear to me to have worthwhile performance opportunities. That is The Select Approach^TM.

Will the Federal Reserve cut rates at its December 18th meeting? Looking at three- and six-month treasury bill yields it appears they will. Three-month treasury bills hit 4.45% on November 27^th, almost 100 basis points from their 5.40% plateau earlier. Six-month treasury bills have traded near 4.40%, again about 100 basis points from their 2023 to 2024 plateau. A cut of 25 basis points would move the Federal Reserve target to 4.50%, down from its 5.50% high. The Fed is, after all, a product of the bond market.

Lower short-term interest rates, like treasury bills, certainly pressure other short-term alternatives, like municipal bonds. As we have seen, it does not necessarily have an outsized effect on long-term interest rates, like the long Katy ISD yields below. In a bear market those higher long-term yields may prove to be a mirage. We take a different approach, The Select Approach^TM.

Katy Independent School District, TX

Unlimited Tax School Building and Refunding Bonds, Series 2024

Aa1 Moody Under (Aaa on PSF) AA S&P Under (AAA on PSF)

Due 2/15   Dated 12/1/24 Maturity 2/15/45

$218,785,000 Sold

Years   Maturity       Coupon        Yield*

1         2025             5.00%           3.17%

2         2026             5.00%           2.92%

3         2027             5.00%           2.78%

4         2028             5.00%           2.79%

5         2029             5.00%           2.81%

6         2030             5.00%           2.85%

7         2031             5.00%           2.89%

8         2032             5.00%          2.97%

9         2033             5.00%          3.00%

10       2034             5.00%          3.06%

11       2035**          5.00%          3.09%

12       2036**          5.00%          3.17%

13       2037**          5.00%          3.24%

14       2038**          5.00%          3.29%

15       2039**          5.00%          3.32%

16       2040**          5.00%          3.36%

19       2043**          4.00%          3.96%

21       2045**           4.00%          4.01%

*Yield to Worst (Call or Maturity) **Callable 2/15/34

Source: Bloomberg

This is an example of a new issue priced the week of 11/25/24

Prices, yields and availability subject to change