Jason Stipp: I'm Jason Stipp for Morningstar. A lot of twists and turns in the muni market over the last two and a half or three years. Here with me to talk about how he navigated that downturn is John Miller. He's CIO of Nuveen Asset Management. He's also going to tell us a little bit about what he's seeing today in the muni market. John thanks for joining me.
John Miller: Thank you for having me.
Stipp: So, when we look back through the credit crisis that we just went through, obviously a lot of differences in performance between funds and what we see in the muni market and the market overall. What were you seeing, 2007, 2008, through the downturn and what have you seen in the last year coming back?
Miller: The most significant features of the performance of muni funds in 2007 and 2008 was the fact that interest rates on municipal bonds were rising and credit spreads were widening. So, funds that were more exposed to the longer end of the yield curve, so they had higher durations and higher interest rate risks, those were hit harder. And funds that were exposed to triple B-rated muni bond credits or non-rated muni bond credits, those were hit harder because those credit spreads were widening out. Much of which was due to a less liquid trading environment and some of which was also due to the downgrades of the insurance companies that guaranteed a lot of municipal bond securities.
Stipp: So in some cases the value of the municipal bonds wasn't... If you could hold onto it. If you didn't have to sell it, then potentially the value could snap back. And it was just the fact that nobody at that time was buying.Read Full Transcript
Miller: Exactly right. And that's exactly what we have been seeing through 2009, and thus far in 2010. We have seen a significant snap-back in the valuation of these securities. A lot of the snap-back is really due to technicals improving. So, confidence is starting to be restored, cash flows came back into this asset class, individual investors looking to pick up very inexpensive tax-free municipal bonds. And the fundamentals throughout this recession and throughout this credit crisis have stayed relatively resilient throughout. So there were a significant amount of value being picked up by individual investors. And now you're seeing them pick up those values as the funds snap back, and as the bonds underlying the funds snap back.
Stipp: Sure, so given that, given that we have seen a run up. What does the opportunity set look like today? So, maybe there were lots of opportunities in the middle of the downturn, perhaps, to get something really on the cheap. But today, what's the situation look like for investors that maybe would want to put some money to work in municipals?
Miller: A couple key things. First of all the market is very differentiated and very fragmented. So, what I mean by that, is that short-term, triple A-rated, natural triple As, or natural double As, have held up very well and investors have been putting a lot of money into the short term part of the yield curve with low credit risk. Those bonds are relatively expensive. So, we're talking about yields in the 1% to 2 1/2% range, short end on the curve and a very, very high grade. Now, to pick up additional yield and total return opportunities, investors in this environment do have to be prepared to take on some additional risk.
And that could be risk by extending out on the yield curve. The muni yield curve is very steep, meaning as you go out, in terms of duration, you're picking up significant amounts of incremental yield.
In addition, credit spreads, although they have narrowed, they're still very wide relative to historical norms in the muni market. So, looking at triple B-rated credits, looking at double B or non-rated muni bond credits, there's still a lot of incremental yield pickup in those segments of the market as well. So more risk would generate more return.