Correction Over

Yes, the correction in both stocks and bonds is now over. For the past forty-or-so years that would have been a good thing. But in a bear market, the end of a correction should be foreboding as the trend to lower prices reasserts itself.

As in the past several years, U.S. treasury bonds are taking the leadership position. After many months of weakness in 2021 and 2022, the correction in bonds began in November as treasury prices across all maturities began to rally. Oftentimes, corrections in a bear market can seemingly occur on a dime and suddenly thrust prices higher. The correction lasted until the middle of January and now the bear trend should reassert itself.

It is the municipal market, of all places, where we can see the correction at its fullest. Last year was among the worst ever for bond market performance but even horrible markets correct. Beginning in mid-November, prices on treasuries leapt upwards and yields, which had been moving higher, suddenly plunged lower.

Municipal bonds are a spread product. Investors buy them because the tax exemption gives them a higher net yield after taxes. So, it would make sense that municipal bonds would rally in the correction like the prices of US treasury securities.

And rally they have. Municipal prices are much higher; yields lower. Spreads, the difference between municipal yields and after-tax treasury yields, are among the lowest I have ever encountered in my thirty-plus years in the business. As a spread product, I would say municipals are fully priced, if not beyond fully priced. So now that the treasury market is moving back to the bear market trend, municipals are perhaps doubly vulnerable. Prices are poised to fall, and spreads look poised to widen. Such a convergence makes a strong argument for exiting mainstream bond portfolios.

My advice was to exit bond portfolios in March 2020, but failing that, now appears to me to be an excellent time to move out. Depending on the type of bond investment you own, you may have seen your double digit down performance trimmed back to something more modest. Think of this as similar to the performance of the Dow Jones Industrials in 2022. At nearly 37,000 in January 2022, the index was down 22% in October from the high. The correction brought the 2022 figure to down about 9% (figures per Bloomberg). Many stock and bond funds performed worse last year. And in a bear market, everything gets mauled, so be prepared.

Look at the yields below in this month’s featured San Angelo municipal bond. Compare these yields to those of the Paris, TX Water bonds in the October 2022 letter. There has been a dramatic shift with lower yields across all maturities. Together with the lack of spread in the municipal market this month and you have bond prices jumping dramatically, perhaps the best in many years. But like we saw with the Dow, municipal bonds were correcting double-digit down performance in 2022. The correction looks powerful, but now municipals are poised to suffer a double whammy of both higher yields and higher spreads.

You know The Select Approach^TM works. You are not riding bond prices lower or looking for a trade. We are looking for the right bonds, worthwhile bonds. Now is not the time to own a portfolio of municipal bonds put together by Wall Street. Now is the time to know your risks and control your risks and that is by owning assets that mature. A bond portfolio does not do that.

Tell your friends buying bonds does not make sense simply because tax-exempt yields are no longer 1%. Buying bonds does not make sense. Now is the time to sell bond portfolios. Now continues to be the time to buy worthwhile bonds. You have been doing that for years. Tell your friends to come and join us.

City of San Angelo, TX

Combination Tax and Revenue Certificates, Series 2023

AA S&P Underlying   AA+ Fitch Underlying

Due 2/15   Dated 1/1/23 Maturity 2/15/48

$41,135,000 Sold

Years   Maturity           Coupon      Yield*

1         2024             5.00%           2.50%

2         2025             5.00%           2.34%

3         2026             5.00%           2.33%

4         2027             5.00%           2.35%

5         2028             5.00%           2.36%

6         2029             5.00%           2.38%

7         2030             5.00%           2.40%

8         2031             5.00%           2.43%

9         2032             5.00%           2.49%

10          2033          5.00%           2.52%

11          2034**       5.00%           2.63%

12          2035**        5.00%           2.77%

13          2036**        5.00%           2.96%

14          2037**        5.00%           3.06%

15          2038**        5.00%           3.17%

16          2039**       5.00%           3.24%

17          2040**       4.00%           3.66%

18          2041**       4.00%           3.71%

19          2042**       4.00%           3.77%

20          2043**       4.00%           3.83%

21          2044**       4.00%           3.88%

25          2048**       4.00%           4.06%

*Yield to Worst (Call or Maturity) ** Call 2/15/33

Source: Bloomberg

This is an example of a new issue priced the week of 1/12/23

Prices, yields and availability subject to change