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Record inflows push muni bonds to rich levels

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The views expressed in these posts are those of the authors and are current only through the date stated. These views are subject to change at any time based upon market or other conditions, and Eaton Vance disclaims any responsibility to update such views. These views may not be relied upon as investment advice and, because investment decisions for Eaton Vance are based on many factors, may not be relied upon as an indication of trading intent on behalf of any Eaton Vance fund. The discussion herein is general in nature and is provided for informational purposes only. There is no guarantee as to its accuracy or completeness. Past performance is no guarantee of future results.

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      By Nisha Patel, CFA, Portfolio Manager, Eaton Vance Management

      New York - The strong start to the year has continued in the municipal-bond market, with a fourth consecutive month of positive performance in February bringing the year-to-date return for the Bloomberg Barclays Muni Index to 1.3%.

      The asset class has been supported by strong fund inflows and an increasingly bond-friendly environment, including slowing growth and a dovish, data-dependent Federal Reserve.

      The rise in demand may stem from the continued value of municipals as a tax-advantaged investment option. This is particularly true in high-tax states, where the capping of state and local tax (SALT) deduction has raised investors' effective state income rate.

      Overall, it has been an impressive start to the year. Muni fund flows, at approximately $12 billion so far in 2019, have been particularly strong. According to Lipper, year-to-date flows have been the highest since Lipper began gathering data in 1992.

      With new-issue volume light to start the year, strong inflows have made munis richer relative taxable bond alternatives. Compared to comparable Treasurys and corporate bonds, we are now on the richer end of the recent trading range.

      Despite trading at richer ratios, we believe munis continue to be attractive for investors in the highest marginal tax brackets, and even more so for investors who may be tactically taking on credit risk by investing in bonds rated lower than AAA. The taxable-equivalent yield of the Bloomberg Barclays Municipal Bond Index is higher than the yields on taxable indices such as the Bloomberg Barclays US Aggregate Index and Bloomberg Barclays US Investment Grade Corporate Bond Index.

      Blog Image TABS Yield March 8

      Source: Bloomberg Barclays, as of 2/28/2019. Taxable equivalent yield assumes a maximum federal income tax rate of 37% and a 3.8% healthcare tax. The after-tax return for the investor may be even higher when the municipal exemption from state taxes is also included. Past performance is no guarantee of future results.

      Bottom line: Despite being fully valued compared to historic data, the increase in retail demand resulting from equity market volatility and unexpected tax-related hurdles may keep munis well-supported for the foreseeable future. When accounting for those themes, along with the advantages of attractive tax-adjusted yield compared to taxable alternatives, we believe munis still have a place in a diversified asset allocation strategy for investors in the highest tax brackets.