SPDR® Nuveen Municipal Bond ETF [MBND] – Q2 2022 Commentary
With a longer duration posture relative to its benchmark, MBND returned -2.43% for the quarter as the yield curve steepened as interest rates rose by 0.05% on bonds due in one year, by 0.25% on bonds due in five years, and by 0.54%, 64%, and 65% on maturities of 10, 20, and 30 years.
For the quarter, MBND returned -2.43%. The yield curve steepened during the second quarter as interest rates rose by 0.05% on bonds due in one year, by 0.25% on bonds due in five years, and by 0.54%, 64%, and 65% on maturities of 10, 20, and 30 years, respectively, according to the Refinitiv MMD scale of yields of general obligation bonds rated triple-A. The fund’s longer duration posture relative to the benchmark hurt performance. Rating allocation detracted from performance, and sector allocation contributed positively to performance. Security selection was the largest detractor from performance.
The fund’s taxable municipal bond exposure hurt performance in the second quarter. Taxable municipals underperformed tax-exempt municipals and US Treasuries. Taxable municipals make up only a small percentage of the fund’s holdings so the overall impact was less impactful than duration positioning.
Quarter in Review
The first quarter was the most challenging quarter for municipal bonds since 1980, as returns were negatively impacted by US Treasury market volatility, persistent inflation concerns, and geopolitical tensions. Notably, credit fundamentals remain very strong, with positive economic growth boosting tax revenues to all-time records. Once the US Federal Reserve (Fed) proves successful in reigning in inflationary pressures, interest rate volatility should begin stabilizing. We believe today’s more attractive bond valuations and much higher yields bode well for longer-term performance.
AAA municipal benchmark interest rates more than doubled, from 1.03% to 2.18%, as the 10-year Treasury sold off while municipal-to-Treasury ratios cheapened meaningfully. Municipal-to-Treasury yield ratios have risen sharply, which indicates municipals underperformed Treasuries for the quarter. Municipals ended 2021 relatively rich by historical standards, given the economic and credit quality recovery, moderate bond supply, 18 months of robust inflows, and the prospect of higher taxes. In the 10-year portion of the yield curve, municipals were valued at 67% of Treasuries to begin the quarter, increasing to 94% by quarter-end. The 30-year ratio, which is typically cheaper, moved similarly from 78% to 104%, compared to the long-term average of 93%.1 Supply declined by 14% from the same period last year to $94.8 billion, primarily because refunding dropped by 42%.2 The market selloff appears to have stalled the incentive of many issuers to refund existing issues, at least temporarily.
Portfolio Positioning and Outlook
Going into the second quarter, the fund’s effective duration was a half a year longer than the benchmark. Although we shortened duration, which helped given the rising rate environment, the fund still had long-duration positioning relative to the benchmark. In particular, an overweight to bonds with durations 10 years and longer hurt performance during the quarter. The back up in rates has provided attractive relative value to the intermediate and longer end of the curve going forward, although continued volatility in the fixed income market due to inflation prints and Fed uncertainty continue to present challenges to the market.
An overweight in bonds rated single-A and triple-B hurt performance, as did an underweight to bonds rated triple-A and double-A. The fund benefitted from an overweight to Special Tax bonds and an underweight to IDR/PCR bonds. The fund has a roughly 3% position in taxable municipal bonds that were slight detractors to performance for the quarter. Top contributors to performance included Salt Lake City Airports, Brightline Rail and Florida Highway DOT bonds. Names that detracted include Asante Health, New York City general obligations, and Illinois State bonds. Premium to NAV moved to 0.055%.3
1 Bloomberg, as of 6/30/22 and Municipal Market Data, June 2022. 2 Bloomberg, as of 6/30/22 and Municipals Weekly, June 2022. 3 Nuveen Perform as of 6/30/22.
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