The Buffalo Springfield song refrain, “…what’s that sound, everybody look what’s going down” applies as much to the financial markets of today as it did to life in 1967.
We seem to have reached a tipping point where investors and traders are intent upon stealing the Fed’s thunder and have begun to drive interest rates higher on their own. In my view, bearish talk and sentiment have led to the selling of mutual fund shares, which has led to the selling of cash bonds, pushing prices lower and yields higher.
Because a large portion of the muni market is owned by retail investors who are sensitive to these issues, mutual fund and ETF price declines have the potential to force even more selling.
“What’s going down” is more than just prices. I believe several factors are likely at work in pushing this anxious market to act before the news is actually on the tape: a sea change in overall sentiment, talk of the rotation out of bonds into stocks and the subsequent performance of these securities and, lastly, the possibility that the Fed will scale back its quantitative easing policy. Where does this leave concerned investors?
As often happens during times of market volatility, corrections — dramatic changes in market direction evidenced by great price changes — are very often overdone. Momentum in this type of market may be difficult to stop and generally overshoots reasonable endpoints. [Muni Bond ETFs Slip on Rate Concerns]
Let’s not overlook the fact that, in my view, these higher taxable equivalent yields may some time in the future look attractive versus equities and corporates once more. The seasonal technicals governing the positive outlook for near-term demand are still in place. I am not the only one suggesting that this is not the time to abandon the baseline philosophy that municipals should remain prominent in one’s portfolio.
James Colby is a portfolio manager and senior municipal strategist at Market Vectors ETFs.