What Covid-19 could mean for muni bond markets

July 7, 2020

What Covid-19 could mean for muni bond markets

The negative economic and fundamental credit consequences from COVID-19 are raising concerns among municipal investors. As the unfortunate effects of the pandemic endure, municipal entities are faced with growing revenue shortfalls as sales and income tax revenues decline and social service costs spike in sympathy with demand. Some of the largest municipal issuers and state governors have made public appeals for additional federal aid with the growing size of losses, which has caught the attention of the market, prompting questions surrounding whether the current level of federal aid is enough.

We do not expect the pandemic to result in wide-scale defaults among municipal credits. The vast majority of credits have underlying strengths, such as extensive taxing power and independent rate setting authority that support flexibility to continue making debt service payments. That said, the potential for rating agencies to downgrade certain credits is high as changes in revenue and cost profiles will likely persist across all sectors and worsen in the coming weeks and months. With this level of economic disruption, weaker municipal credits have a propensity to be stressed and even default. However, we are confident that the overall credit picture for investment grade municipal bonds remains solid.

Sherri Tilley, investment strategist, Dan Barton, head of municipal bond research and Dan Rabasco, head of municipal bonds, Mellon

The Bloomberg Barclays Municipal Bond Index Total Return Index Value Unhedged USD covers the USD-denominated long-term tax exempt bond market. The index has four main sectors: state and local general obligation bonds, revenue bonds, insured bonds and prerefunded bonds.

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Bonds are subject to interest rate, credit, liquidity, call and market risks, to varying degrees. Generally, all other factors being equal, bond prices are inversely related to interest-rate changes and rate increases can cause price declines. Municipal income may be subject to state and local taxes for out-of-state residents. Some income may be subject to the federal alternative minimum tax for certain investors. Capital gains, if any, are taxable.

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