The municipal bond market is 'overvalued' : Black Rock Municipal Bonds Group Head

Peter Hayes, Black Rock's Municpal Bonds Group Head, discusses the state of municpal bonds and the recent FOMC meeting.

Video transcript

SEANA SMITH: We want to bring in Peter Hayes. He's the head of Black Rock's Municipal Bonds Group. Peter, always great to speak with you. We got the big announcement from the Fed yesterday-- I guess comments-- I should say-- from Fed Chair Jay Powell just in terms of tapering when we could potentially expect the Fed to begin tapering. What that timeline could look like could potentially. And middle of next year, what does all this mean for the muni market?

PETER HAYES: Well, hi, Seana. Thanks for having me. I would say a munis are a fixed income asset. And when the Fed moves, fixed income assets move. So the munis will move. The market will move up or down depending on which way interest rates go.

The one thing I will say, though, is if for those worried about rising interest rates, municipals tend to do much better in a rising rate environment. You can actually look at index returns this year. Most fixed income indices are flat to down. Munis are actually up 1 and 1/2%.

A little bit to do with structure, liquidity, nature of the market, et cetera. So certainly if the Fed tapers, interest rates move up, municipals will be impacted. Today is a good example. 10-year Treasury is moving up. And municipal prices are off a little bit.

ADAM SHAPIRO: Peter, I want to ask you about that rising interest rate environment, especially since we're looking at 2022, but also the impact from what could be the passing of the bipartisan infrastructure bill. But I got to ask you about what Fed Chair Powell said yesterday.

He under ethic issues. He froze his holdings of muni bonds when he became chair. But then it seemed in that press conference, he was really knocking muni bonds over the head as if not a great place to be. What did you think when he went there?

PETER HAYES: That was a bit baffling. I have to admit, you know, I think the comment was something around that came to the rescue. The market was about to collapse. The market was not about to collapse. We've seen this before in a couple of different environments.

The bad one was back around a financial crisis, et cetera. And all markets and those dislocations, they tend to seize up. Liquidity goes away. And it impacts prices. But when you look at the resiliency of the market through all of these different sell-offs-- and again, you can go back in time and go way back to the Meredith Whitney bankruptcy prediction.

The market bounces back. One thing I'll say about state and city governments is they have to have balanced budgets. A little bit different than the federal government as you're talking about, et cetera. So there is a lot in play for the muni market. I think that that comment was probably out of context, maybe didn't understand the nature of the market at the time.

There was a Fed backstop put in place-- a municipal liquidity facility. And by the way, only two issuers utilize that. Did it help maybe give some confidence to investors in the market at the time? Perhaps. But there was also a lot of other elements that I include in congressional fiscal stimulus. So I think that was sort of exaggerated, I would say, in my opinion.

SEANA SMITH: Peter, you mentioned state and local finances. Last time we spoke, you actually said that they were in pretty decent shape. Do you think that's still the case?

PETER HAYES: Oh. Wow, it's just amazing. We take a look at the budgets and where we were-- what-- April, May of 2020 when we were predicting enormous budget deficits. They've turned the corner. In fact, I would say that a lot of this congressional and fiscal stimulus we've seen still remains unspent.

They have to spend it by the end of 2024. But, you know, perhaps, that's a bit of an offset to some of the fiscal drag that will occur as this dissipates, et cetera. But fundamentally, the credit of the municipal market has never really been in better shape.

Puerto Rico's coming out of its bankruptcy. A lot of these other entities are running large budget surpluses. General Reserve funds are better. So Yeah, I would say we're in better shape than even the last time we spoke.

ADAM SHAPIRO: Despite the machinations on Capitol Hill, it's a good bet that $1.2 trillion bipartisan infrastructure bill will get passed. What are the implications for the muni bond market? And those who are listening to us right now who are thinking, OK, interest rates are going to start going up at some point. So maybe I should be looking to do what?

PETER HAYES: So I hear Gary Cohn talk about infrastructure. And depending on what number you use, $4 trillion, $5 trillion, $6 trillion, is what the US needs to spend on new infrastructure and repairing existing, et cetera. It's a big number. No one market is going to solve for all that.

I heard him talk about public private partnerships. Infrastructure banks are another element of that. But the municipal market is a very large liquid source of low-cost funding for issuers. It has been for a long time at the $4 trillion market.

It will be part of that solution over time. And again, these infrastructure bills play out over a number of years. It's not a one shot deal. So we're likely to see some increasing issuance over time. And to sort of answer your final point about what to do now. The market is a little bit overvalued. You know, one of the components here is that will taxes go up?

The marginal tax rate for individuals might go up to 39.6. The market is factoring in a much higher tax rate right now. And a lot of that is around interest rates, strong demand, low supply, et cetera. But nonetheless, it's a little overvalued. So it might be a time to just wait on the sidelines-- see if some of this infrastructure issuance comes to fruition and find a better entry point.