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Munis: Pocket of ValueDavid Schassler, Portfolio Manager and Head of Portfolio and Quantitative Investment Solutions, VanEckNovember 19, 2020
Warning Signs in Duration Risk
The VanEck Vectors® Muni Allocation ETF (MAAX) tactically allocates among VanEck municipal bond ETFs based on interest rate and credit opportunities to seek capital appreciation plus tax-exempt income. It uses a data-driven, rules-based process that leverages technical and macroeconomic indicators to guide credit and duration exposure, seeking to avoid market risks when appropriate. The expanded PDF version of this commentary can be downloaded here.
The VanEck Vectors® Muni Allocation ETF (MAAX) had a NAV total return of -0.19% vs. -0.30% for its benchmark for the month.
October was a modestly weak month for municipal bond investments and MAAX slightly lagged its benchmark. The top performing positions were the VanEck Vectors® High Yield Muni ETF (HYD®), with a price return of -0.23% and the VanEck Vectors® Intermediate Muni ETF (ITM®) with a price return of -0.41%. MAAX’s bottom performing positions were in the VanEck Vectors® Short High Yield Muni ETF (SHYD®), returning -0.85% and the VanEck Vectors® Long Muni ETF (MLN®), returning -0.50%.
Average Annual Total Returns (%) as of October 31, 2020 1 Mo† YTD† 1 Year Life (05/15/19) MAAX (NAV) -0.19 -2.64 -2.44 0.52 MAAX (Share Price) -0.54 -2.88 -2.57 0.40 Bloomberg Barclays
Municipal Bond Index*
-0.30 3.02 3.59 4.24 Average Annual Total Returns (%) as of September 30, 2020 1 Mo† YTD† 1 Year Life (05/15/19) MAAX (NAV) -0.24 -2.45 -2.08 0.69 MAAX (Share Price) -0.08 -2.35 -1.93 0.83 Bloomberg Barclays
Municipal Bond Index*
0.02 3.33 4.09 4.74
†Returns less than a year are not annualized.
Expenses: Gross 0.38%; Net 0.38%. Van Eck Associates Corporation (the “Adviser”) will pay all expenses of the Fund, except for the fee payment under the investment management agreement, acquired fund fees and expenses, interest expense, offering costs, trading expenses, taxes and extraordinary expenses. Expenses are based on estimated amounts for the current fiscal year. Cap excludes acquired fund fees and expenses, interest expense, trading expenses, taxes and extraordinary expenses.
The table presents past performance which is no guarantee of future results and which may be lower or higher than current performance. Returns reflect temporary contractual fee waivers and/or expense reimbursements. Had the ETF incurred all expenses and fees, investment returns would have been reduced. Investment returns and ETF share values will fluctuate so that investors’ shares, when redeemed, may be worth more or less than their original cost.
*Bloomberg Barclays Municipal Bond Index is considered representative of the broad market for investment grade, tax-exempt municipal bonds with a maturity of at least one year.
While President Donald Trump has yet to concede the U.S. presidential election, it has become clear that Joe Biden will become the 46th President of the United States. There are key taxation issues that could have the potential to significantly impact the municipal bond market. President-elect Biden stated that he planned on increasing taxes for high income individuals, including an increased alternative minimum tax (AMT). However, Congress remains split and, given that tax increases require the approval of Congress, it is unlikely that Biden’s tax plan will gain enough support to pass. Higher taxes would have been bullish for muni bond prices as high income earners would likely look to this market for attractive after-tax yields.
Regardless of the outcome of the election and the future of taxes in the U.S., the municipal bond market offers investors what we believe to be a pocket of value in a world where reasonable yields are a scarcity. The 30-Day SEC yield for MAAX was 2.90% as of October month-end. Assuming that you are in the highest federal tax bracket, that equates to a taxable equivalent 30-Day SEC yield of 4.60%!
Currently, MAAX maintains a 35% allocation to high yield, a 35% allocation to investment grade long duration and a 30% allocation to intermediate-term investment grade.
The next section highlights the risk factors that led to this positioning.
Muni Risk Factors
The model that determines the allocations for MAAX considers this to be a stable risk regime as it relates to the two key risks taken by municipal bond investors: credit and duration. It measures risk via price levels, volatility and historical relationships. Risk is scored from 0 to 100. A score of 50 or lower implies that risk is low and a score of 50 or higher implies that risk is high.
The risk score for credit remains 0. This gives us confidence in the near-term stability of the credit markets.
Credit Total Risk Score
The risk score for duration, at 33, is elevated, but not yet at the critical level of 50 that is required to adjust our duration to bonds with higher durations.
Duration Total Risk Score
The duration risk score is elevated because of recent price weakness in long-duration investment grade bonds. Long duration bonds are trending downwards and underperforming short-duration bonds. This is a risk signal that duration risks may be rising. The 10-year U.S. Treasury yield hit a near-term low of 0.51% in early August and is now approximately 0.90%. While a major upside move in interest rates is unlikely, all-time low interest rates makes the threat of modest increases in yield a risk.
MAAX will continue to monitor the risks within the municipal bond market and seek to balance the risks and rewards of this asset class. While the current environment poses challenges for most asset classes, the indicators that drive MAAX’s allocations points to continued stability. This gives us the confidence to maintain our overweight exposure to both credit and duration within MAAX.
This content is published in the United States for residents of specified countries. Investors are subject to securities and tax regulations within their applicable jurisdictions that are not addressed on this content. Nothing in this content should be considered a solicitation to buy or an offer to sell shares of any investment in any jurisdiction where the offer or solicitation would be unlawful under the securities laws of such jurisdiction, nor is it intended as investment, tax, financial, or legal advice. Investors should seek such professional advice for their particular situation and jurisdiction.
An investment in the Funds may be subject to risks which include, fund of funds risk, high portfolio turnover, model and data risks, management, operational, authorized participant concentration and absence of prior active market risks, trading issues, market, fund shares trading, premium/discount and liquidity of fund shares and non-diversified risks. The funds may be subject to following risks as a result of investing in Exchange Traded Products including municipal securities, credit, high yield securities, tax, interest rate, call, state concentration and sector concentration risks. Municipal bonds may be less liquid than taxable bonds. There is no guarantee that a Funds’ income will be exempt from federal, state or local income taxes, and changes in those tax rates or in alternative minimum tax (AMT) rates or in the tax treatment of municipal bonds may make them less attractive as investments and cause them to lose value. Capital gains, if any, are subject to capital gains tax. A portion of the dividends you receive may be subject to AMT. For a more complete description of these and other risks, please refer to each Fund’s prospectus.
Bloomberg Barclays Municipal Bond Index is considered representative of the broad market for investment grade, tax-exempt municipal bonds with a maturity of at least one year.
The VanEck Vectors ETFs are not sponsored by, endorsed, sold or promoted by Bloomberg or Barclays and neither Bloomberg nor Barclays makes any representation regarding the advisability of investing in them. The only relationship to the Adviser with respect to the VanEck Vectors ETFs is the licensing of certain trademarks and trade names of Bloomberg and Barclays and the BLOOMBERG BARCLAYS INDICES that are determined, composed and calculated by Bloomberg without regard to the Adviser or any investor in the VanEck Vectors ETFs.
Investing involves substantial risk and high volatility, including possible loss of principal. Bonds and bond funds will decrease in value as interest rates rise. An investor should consider the investment objective, risks, charges and expenses of the Fund carefully before investing. To obtain a prospectus and summary prospectus, which contains this and other information, call 800.826.2333 or visit vaneck.com. Please read the prospectus and summary prospectus carefully before investing.
© 2020 VanEck.
Authored byDavid Schassler
Portfolio Manager and Head of Portfolio and Quantitative Investment Solutions, VanEck