Markets
(New York)
Munis had a wild and rough year in 2020. Everyone who invests in the sector is wondering what’s next. While the lack of direct state and municipal aid in the recent congressional package is a downer for muni investors, there is a lot to be happy about. Election certainty, good news on the vaccine front, and the inauguration of Biden are all raising the sector’s prospects. Biden is seen as more likely to help local state and municipalities with aid, which has raised prospects for the sector. Downgrades are a risk, but widespread defaults seem unlikely.
FINSUM: On the whole, things seem like they are set up for a pretty positive year. As to the possibility of downgrades, it is worth noting that downgrades usually trail economic performance, so they would take a while to come through.
(New York)
Munis have long been very popular with HNW clients because of their tax exempt income. However, a new—and slightly confusing—part of the industry is increasingly becoming popular. That new niche is taxable muni bonds. According to Barron’s “Taxable municipal bonds are the fastest-growing sector in U.S. fixed income. This year, issuance has totaled more than $170 billion, double the $85 billion sold in all of 2019. The total market has grown to $700 billion—sizable but still below the $3.7 trillion tax-exempt muni market”. Many think the new vaccines will give a boost to munis, which have suffered under COVID.
FINSUM: If you are interested in this market, check out Invesco’s Taxable Municipal Bond ETF (BAB).
(New York)
There has been a lot of talk about stocks this year, and a great deal of consternation about rates and bond prices. Yet despite all this, or maybe because of it, a middle-ground asset class has become one of the best performing of the year. Convertible securities are having a banner year. The $325 bn sector has returned over 36% through the end of November. A big portion of the gains has come from the outperformance of Tesla, which accounts for about 10% of the convertibles market. But there have been other nice victories too, such as “reopening” stocks like Carnival, Southwest Airlines, Lyft, American Airlines, and Dick’s Sporting Goods.
FINSUM: Converts do a good job capturing upside while protecting against upside, and this year has been a perfect storm for them.
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(Chicago)
Small caps are looking strong, and seem likely to outperform large caps over the next year. Small caps have seen two decidedly positive trends over the last month—an outperformance relative to the S&P 500, and increasing breadth. From a technical perspective, those are both encouraging. On the fundamental front, small caps are starting to follow a well-trodden path to success. Historically, every period since 1990 in which the Russell 2000 has outperformed the S&P 500, spreads have been widening. Bond watchers will have noticed that Treasuries have risen 28-40 bp recently across different maturities. Since that rise in yields seems likely to continue because of the growing debt needs of the US government, small caps may be in for a good run.
FINSUM: We really like this logic. Small caps tend to have a higher beta to GDP, so rising yields (hopefully indicating a better economic environment) should create additional spread widening, and thus be positive and create some continued outperformance.
(New York)
Investors are increasingly betting on a blue wave. More interestingly, the market’s calculus for what that blue wave to could mean to stock prices and the economy is changing. For much of this election cycle, a sweep by the Democrats was seen as a negative for the economy versus the status quo. However, in recent weeks investors have been shifting the other way—seeing a blue wave as a win for the economy. The reason why has to do with infrastructure spending and bigger and longer-term stimulus packages. While the possibility for this has been hurting Treasury prices because of the likely increased debt load, it also means that both infrastructure stocks and small caps seem poised to gain as we approach the election and well after it.
FINSUM: Small caps have just recently started to outperform their large cap cousins, a sign of the shift in perspective. Infrastructure stocks seem a good bet because no matter who wins the election there will probably be some deal on that front.
(New York)
Investors need to keep a very sharp eye on the bond market. The yield curve is steepening without any associated rise in economic activity. The reason why has to do with the election. Biden has been rising in the polls, and investors have been increasingly betting he will emerge victorious as part of a blue sweep. If that happens, it is assumed the US would issue a great deal more debt to fund stimulus packages. This means there would be significantly more Treasury bond supply than at present, and potentially calls into question the credit of the US government. As evidence of this trend, the spread between 5- and 30-year Treasuries just hit its largest since 2016.
FINSUM: This is a potential black swan event that no one has seen coming. The election seemed like it would be a dead heat through election day, but if the needle moves more towards Biden, the whole picture for fixed income will change.