A recent yr brings recent opportunities. It also brings loads of uncertainty to the table. From geopolitical woes and recession potential to recent taxation and macroeconomic headwinds, there’s so much to digest today. That is true for the standard and infrequently boring municipal bond market. Muni investors have so much on their plates this yr.
Because of this they will want to stay nimble.
Lively management could play an enormous role within the returns of municipal bonds this yr with indexes falling flat. Uncertainty and volatility a few host of muni-specific aspects are actually growing. And that requires a deft touch. Luckily, munis occur to be top-of-the-line sectors for lively to win out.
A Mixed Bag in 2024
For a lot of municipal bond investors, 2024 is a yr they’d prefer to forget. Returns for the fixed income asset classes weren’t bad per se, with intermediate-term munis returning a positive nearly 1.9% for the yr. Nevertheless, those returns were far below the exceptions. If you happen to remember, last yr was imagined to be the yr that inflation was whipped and the Federal Reserve (Fed) was going to chop rates by a considerable amount.
Nevertheless, with inflation still running a bit hotter than the Fed would love, those rate cuts have been lower than predicted. That’s thrown loads of uncertainty into the combo in regards to the municipal bond sector.
And now, other concerns have crept into the combo. The incoming Trump Administration has pledged some wide-sweeping changes to tariffs, taxes, and other policy points. That uncertainty and volatility has caused yields on Treasury bonds to maneuver higher, despite the Fed cutting rates.
For muni bond investors, this has created a series of crosswinds.
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Growing Volatility Amid Some Positives
The difficulty is that none of those concerns are going to go away any time soon. Many municipal bond analysts—from Goldman Sachs to BlackRock—now predict that volatility within the muni market could also be here to remain.
For starters, the specter of munis losing their tax-exempt status remains to be on the table. Because the Tax Cuts & Jobs Act sunsets this yr, many lawmakers wish to expand portions of the bill. Nevertheless, to make up for lots of the tax cuts, tax increases elsewhere might should be proposed. That has muni’s tax-exempt status now in query. This has thrown plenty of additional volatility onto the sector. While many analysts predict that the exemption won’t be actually challenged, there’s still a possible.
Meanwhile, the Trump Administration’s plans to launch tariffs, reorganize the Federal government, and throw a wrench into geopolitics are adding additional woes to the economy, inflation projections, and consumer trends.
This has come on the back of rising municipal bond supplies.
States and native governments have began to noticeably issue muni bonds once more now that rates of interest have declined from their highs and the Fed has begun pausing/settling in. For instance, each California and Texas had quite a few bond proposals on the ballot this past November that passed. With that in mind, major municipal bond underwriters now predict that 2025 will see about $500 billion in recent bonds launch on par with 2024. This chart from BlackRock highlights the issuance growth over the previous couple of years.
Source: BlackRock
These headwinds have been met head-on via some strong tailwinds for the municipal bond sector.
The interesting piece of the BlackRock chart happens to be that black line. This represents net issuance. The majority of latest muni supply this yr is definitely covering refinancing and reissues. With that, only $47 billion value of latest munis are hitting the market. That changes the availability/demand dynamic a bit. Furthermore, many analysts point to the undeniable fact that munis are still providing high yields. With greater than $7 trillion in money now yielding less due to the Fed’s rate cuts, analysts predict that supplies of munis might be sopped up by retail and institutional investors.
At the identical time, the issuers of munis—states and native governments—have only strengthened their funds over the past yr. Many states have turned to increasing sales taxes to limit any weakness in personal income or property taxes. At the identical time, many states have been proactive in budget cuts to lower your expenses. With that, rainy day funds are still 14.4% of the states’ general budgets.
So, 2025 is shaping as much as be a mixed bag for muni investors. The yield of bonds might be the actual consider determining actual gains.
Lively Management Could Be the Key
The query for investors is: How do they navigate the present muni environment for strong returns in 2025? The reply from a surprisingly wide swath of study stays nimble. The upper volatility of the upcoming yr isn’t any place for index investors; they’ll get whipped around by all of the shifts and volatility.
To this end, lively management might be the important thing to success.
Lively managers can over- or underweight portions of the market as they see fit or dive headfirst into these other opportunities. This could provide extra returns. On this case, it does. A study by Morgan Stanley showed that lively beats passive over 84 different rolling three-, five-, and 10-year periods with the additional lively return clocking in at 68 bps, 53 bps, and 33 bps, respectively, for the periods. These results have been echoed by a bunch of various studies.
This is very important as lots of the strategies to beat much of the muni sector’s volatility—resembling barbelling, specializing in credit, and searching to yield to drive returns- —are sometimes lost in an index fund. For instance, many municipal bond indexes exclude housing bonds, tobacco bonds, and bonds which might be subject to the choice minimum tax (AMT).
That’s not so with lively managers. As such, a convincing chorus of analysts point to the very fact this might be one of the best environment in years for lively managers to shine within the municipal bond sector.
The very best part is getting that lively exposure may be very easy. The variety of lively municipal bond ETFs continues to grow, while SMAs, mutual funds, and closed-end funds have long been wonderful vehicles to get activement management within the sector.
Lively Municipal Bond ETFs
These ETFs were chosen based on their ability to supply low-cost and lively exposure to the municipal bond market. They’re sorted by their one-year total return, which ranges from 2.2% to eight.6%. They’ve expense ratios between 0.19% and 0.65% and assets under management of $240M to $3B. They’re currently yielding between 1.1% and 6.8%.
| Ticker | Name | AUM | 1-year Total Ret (%) | Yield (%) | Exp Ratio | Security Type | Actively Managed? |
|---|---|---|---|---|---|---|---|
| HYMU | iShares High Yield Muni Income Lively ETF | $244M | 8.6% | 4.4% | 0.35% | ETF | Yes |
| NEAR | iShares Short Duration Bond Lively ETF | $2.96B | 5.2% | 6.8% | 0.25% | ETF | Yes |
| CGMU | Capital Group Municipal Income ETF | $2.59B | 3.7% | 4.18% | 0.27% | ETF | Yes |
| SMMU | PIMCO Short Term Municipal Bond Lively ETF | $630M | 3.1% | 2.9% | 0.35% | ETF | Yes |
| FMB | First Trust Managed Municipal ETF | $2.04B | 2.7% | 3.3% | 0.65% | ETF | Yes |
| MUNI | PIMCO Intermediate Municipal Bond Lively ETF | $1.75B | 2.5% | 3.2% | 0.35% | ETF | Yes |
| DFNM | Dimensional National Municipal Bond ETF | $1.42B | 2.2% | 1.1% | 0.19% | ETF | Yes |
Overall, volatility is coming to the muni sector with a vengeance. There are many positives and negatives. This has only driven uncertainty and the should be nimble. Investors seeking to add munis and their strong positives should look toward lively means to take a position inside the sector.
The Bottom Line
Heading into 2025, volatility and uncertainty is creating rough seas for the boring and staid municipal bond sector. Those seas require a powerful navigator. Meaning a healthy dose of lively management is with a view to generate positive returns.