With trading at a standstill and no big deals in the market, buy side strategists were looking ahead to the New Year. Here are some of their forecasts:
Mark Tenenhaus, director of municipal research, RSW Investments: What may be a surprise is that we fully expect that 2016 will see a further slowdown, not an increase, in growth of tax receipts. This is already in evidence in the waning months of 2015. What is also in evidence is the month-to month declines in new municipal bond issuance. It would therefore also not be a surprise if municipal bond issuance actually declines next year and that the net supply of bonds reflecting redemptions and maturities also is diminished.
Minimal tax and revenue growth will be a negative credit factor for many states and jurisdictions. Less bond issuance and availability can and may contribute to relative over performance of the municipal sector. With this backdrop, 2016 will be a year for separating the wheat from the chaff.
2016 income tax collections will not be nearly as strong as the prior year given the spotty performance of the equity markets this year. Personal income taxes are the largest component of tax receipts in just over 60% of the states.
The forecast points to slower revenue growth and less bonds being sold. Most state governments and essential service providers will be budgeting for lower growth and therefore should maintain their relatively strong credit profiles. Those jurisdictions that continue to raise taxes in an underperforming economy, such as Connecticut, and/or confront massive pension problems, like Illinois and New Jersey, will see their structural imbalances deepen. RSW continues to emphasize strong credit quality in what remains a relatively milquetoast recovery seven plus years after the Great Recession.
Adam Mackey, managing director of municipal fixed income at PNC Capital Advisors (from a Dec. 16 report by PNC's investment management team headed by Mackey): Contrary to consensus views we expect total returns for the municipal sector to be modestly positive in 2016. We lean towards inflation, commodity pricing and demand for fixed-income instruments acting as bullish catalysts for bond prices. Placing client portfolios on the long side of credit risk again in 2016 is difficult to justify as the compensation for taking municipal credit risk has narrowed materially. High valuations and macro headwinds point us toward a high-grade bias and we continue to look warily upon local government and appropriation-backed debt, and maintain a neutral duration profile relative to our benchmarks.
Overall, we will look to increase the credit quality profile of all composites during 2016 and we expect to add more high-quality (AAA – AA) ratings category exposure at the expense of mid- and low-grade.
While we will favor a higher credit bias, certain lower grade credits will remain a significant contributor subject to individual selection criteria.
There continues to be much uncertainty around inflation or deflation and the impact on domestic and global growth given a measured pace of policy rate increases. If this environment holds, fixed-income investors could also consider adding volatility to portfolios to enhance yield.
As we enter 2016, once again market sentiment is for U.S. interest rates to move higher.
We are more inclined to think that the market's current view on the pace of interest rates is overly pessimistic and would not be surprised for investors to see 2016 returns more in line with 2015.
Michael Pietronico, chief executive officer, Miller Tabak Asset Management: Triple-A bonds will outperform triple-B bonds as credit risk takes center stage in the bond market. The municipal yield curve will resume a steepening trend by the summer of 2016 as the economy enters recession. Hospital bonds will be the worst performing sector of the municipal market as the likelihood of a repeal of Obamacare becomes more of a possibility.
John Mousseau, director of fixed income, Cumberland Advisors: My predictions for 2016 include a federal overseer for Puerto Rico, as well as the bellwether Puerto Rico bond trades back to 85 to 90 cents on the dollar.
In addition, we see an agency with federal oversight that eventually has bonding power -- think of a municipal assistance corporation for Puerto Rico.
Long municipal ratios go well under 100% as you get later in the year, a combination of higher Treasury rates and lower muni rates amid a backdrop of the Fed hiking short term rates, the Fed's rate hikes actually help to engender some higher inflation as smaller banks get more in the game and the velocity of money picks up.
Chicago/Illinois gets better during 2016. Chicago actually makes progress and Illinois starts the process to change their constitution to allow pension reform.
Lastly, Hillary Clinton is elected president and introduces a new BABS program in 2017.
Jeffrey Lipton, managing director and head of fixed income research and strategy, Oppenheimer & Co.: We see 2016 muni performance slightly ahead of 2015 performance, but don't expect double-digit returns. Munis are expected to outperform Treasuries in 2016 on lower tax-exempt issuance, strong demand and a favorable economic and credit backdrop.
We expect volume to be lower in 2016 relative to 2015, likely in the $360 billion to $385 billion range. Refunding activity is not expected to match what we have seen in 2015.
Any uncertainty over the pace of a "post-lift-off" tightening sequence could elevate the level of refundings early in the year, but the overall refunding economics will likely be tempered in 2016. New money financing may rise above 2015 levels, but not appreciably as we move through the election cycle and issuers continue to pursue fiscal austerity. Unfunded pension liabilities and OPEB's will continue to crowd out other funding commitments, including debt service. These considerations are likely to overshadow the presence of still-compelling borrowing terms that will likely be available in 2016 as well as significant infrastructure needs. We point out the importance of net supply figures, which account for the amount of redemptions and maturities. Factoring in these data points, we are seeing negative net supply for 2015 and we expect similar patterns for 2016.
In addition to favorable technicals, a stable credit environment, a largely retail dominated, buy and hold market and a minimal threat of tax-reform in 2016 should support the asset class next year.
We expect continued variability in relative value ratios over the near-term as Fed policy sentiment results in episodic bond market sell-offs. Election cycle rhetoric could assist muni relative value ratios.
As rates rise, we could expect some marginal widening in credit spreads with volatility mostly linked to unfunded pension liabilities and uneven revenue performance for various credits and sectors.
Chris Mier, managing director of analytical services at Loop Capital Markets: Our prediction we have is that increasing risk aversion will siphon investment flows from equities, high yield corporates, and other risky assets, and some of those assets will find their way into municipals, increasing the demand for municipal bonds on the margin.
George Friedlander, senior municipal strategist, Citi: 2016 will be the year in which the potential effects of accelerating technological change will become a more visible factor for state and local governments, and within the municipal bond market.
Affects include dampened inflation, limited tightening by the Fed, a continuing relatively flat yield curve, and more willingness for individuals to get back into the market and out along the yield curve. Over time, we expect more of a focus on potential credit implications as the effect of accelerating technological change hits various states and cities differently. However, this might not happen until after 2016.
