Munis after Q1 — and April — and 8 reasons why we are still constructive

Munis after Q1 — and April — and 8 reasons why we are still constructive

[6/1/22] — The Perspective below is an update to an April 22 Perspective. Our overall thesis remains the same, but certain factors have been revised based on recent market developments.

Municipal bond yields have moved considerably higher this year in response to increasing U.S. Treasury yields and muni mutual fund outflows. Markets are repricing a more aggressive tightening cycle for 2022 as the Federal Reserve tries to bring down stubbornly high inflation.

Muni bond funds, after record inflows of $101 billion in 2021, experienced outflows for 19 consecutive weeks in 2022.* The result? The first quarter total return of the Bloomberg Municipal Bond Index (-6.23%) marked the worst quarter since Q3 1981 (-9.69%). It was also the worst return for a first quarter since 1980.

Bloomberg Muni Index quarterly return analysis (1990–2022)

municipal bond performance during certain macro events

Source: Bloomberg Municipal Bond Index.

Typically, such a market return could be a negative omen for future muni fund flows. And maybe it will be. Muni fund outflows pressure returns as managers sell bonds to raise cash for redemptions. Muni bond funds have been in outflows in early 2022 as $57 billion has been redeemed as of May 20, 2022 (JPMorgan).

However, we believe brighter days are ahead for the asset class.

1. Our analysis (above) shows that historically, muni index returns are positive in the 3 quarters after a difficult return quarter.

2. Historically, muni index returns usually turn positive 2–3 months before muni fund outflows end (see table below).

muni performance when outflows end

Source: Lipper U.S. Fund Flows 2021, JPMorgan.

3. Muni index yield (as of 5/18/22) is at its highest point since 2011 and pricing in an aggressive Fed. This higher yield (income) should help dampen further price declines if rates move higher.

4. Overall, we believe muni sector credit fundamentals remain strong.

5. We view muni taxable equivalent yields as attractive at nearly 6% (as of 5/18/22, see below).

6. State and local pension funding is at its highest level since 2008 (Pew Charitable Trusts).

7. Muni defaults remain within long-term ranges and are isolated in the lowest rated/non-rated cohorts.

8. Higher interest rates could dampen refunding/refinancing activity, reducing new issue supply estimates.

Muni taxable equivalent yields (TEY) are attractive at nearly 6%

municipal bond taxable equivalent yield

Sources: Bloomberg Municipal Bond yield data, with Putnam analysis of impact of 40.8% tax rate. The 40.8% tax rate comprises 37% (highest marginal U.S. income tax rate) + 3.8% Net Investment Income Tax rate.

We believe investors may want to consider an allocation to the municipal bond asset class.

Learn more about our active, research-driven approach to tax-exempt investing.


The Bloomberg Municipal Bond Index is an unmanaged index of long-term fixed-rate investment-grade tax-exempt bonds. You cannot invest directly in an index.

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The views and opinions expressed are those of the authors as of May 2022, are subject to change with market conditions, and are not meant as investment advice.

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