Municipal bonds vs Treasuries after Trump’s win
Last Update: 25/12/2024
One of the effects of Donald Trump’s election victory has been to further boost the growth of yields on Treasuries, U.S. government bonds. According to some analysts, this “rally” could bring yields on 10-year bonds to around 5 percent. It is the effect of an expectation of higher interest rates and for a longer period, along with higher levels of expected inflation than a few months ago.
This new market condition is prompting many investors to look around for effective diversification on the government bond front. One idea might be municipal bonds, i.e., bond issues of state and local governments in the United States, which are often exempt from federal and, in some cases, even state taxes. This type of instrument enjoys certain advantages:
- Interest rates on municipal bonds are high relative to the 10-year average, with yields often exceeding those on Treasuries when taxation is taken into account. As muni bonds offer interest that is exempt from federal taxes.
- The expected declining supply of new municipal bonds, coupled with stable or growing demand (including from the maturation of old bonds), creates an imbalance that supports prices and yields.
- The financial condition of local and state governments is sound, with high levels of reserves and low probability of default.
So let’s look at how these instruments are performing relative to Treasuries. We test this by comparing two etfs: the iShares National Muni Bond ETF (MUB) and the iShares 7-10 Year Treasury Bond ETF (IEF). We see the strength ratio between the two.
In the chart above we observe how the balance of power has reversed since early September, going in favor of Municipals over Treasuries. A movement generated by falling prices of the latter and rewarding greater price stability of the former.
If we look at the correlation between the two instruments, however, we observe how it is still strongly positive.
