(Story updated with additional context on "QE2" effect and closing prices.)
(Story updated with S&P commentary)
NEW YORK (
) -- Although municipal bond ETFs have stabilized recently, analysts believe the volatility -- spurred by debt crises in the states and a bearish outlook by a noted analyst -- could return.
Over the last few weeks, the municipal bond exchange-traded funds had exhibited a bout of volatility triggered by
fiscal policy decisions and grim comments from a leading industry analyst.
On Tuesday, the
iShares S&P National AMT-Free Municipal Bond Fund
ended Tuesday's regular trading session down 0.1% to $98.72, and the
SPDR Nuveen Barclays Capital Municipal Bond ETF
finished flat at $21.43. The iShares fund has tumbled about 4.1% over the past year and about 6.7% over the past three months against a rally in the broader equities market.
Municipal bond funds had outflows of about $2.37 billion during the week ended Jan. 12, according to the Investment Company Institute.
"The whole fixed-income market has been more volatile since the Federal Reserve announced its second round of quantitative easing," Morningstar analyst Tim Strauts said.
Although the Fed's objective was to keep interest rates low and boost investor confidence through a second round of quantitative easing, or QE2, uncertainty surrounding the benefits of the measure led to a rise in yields and decline in prices across the entire fixed income space, including Treasuries. The changes were even more pronounced in municipal bonds, given a combination of factors including their tendency to move in tandem with Treasuries and their low levels of liquidity.
The volatility got an extra boost as Meredith Whitney, the U.S. financial analyst who achieved fame through her accurate prediction of the global credit crisis, said on CBS'
program a few weeks ago that more than 100 American cities could go bankrupt in 2011 as the total debt load of cities and states across the country adds up to about $2 trillion.
More than 100 municipal bond defaults could occur, she predicted.
Still, Strauts said serious losses on municipal bonds in the ETF space don't require cataclysmic pronouncements from an analyst like Whitney.
"The typical municipal bond investor is an individual investor," and can be significantly influenced by headlines in general, he said.
"We saw larger discounts a few weeks ago as the market price got as much as 3% away from underlying net asset value calculation," he said.
"Someone's going to default, and there's going to be article about it; and that's only going to increase the volatility of the ETFs."
Standard & Poor's credit analyst Gabriel Petek noted in a report the potential for greater volatility in municipal bond prices in 2011. "We believe that notable rating downgrades, specific instances of severe fiscal problems and a generally softer environment for municipal credit could occur."
However, the analyst expects that the majority of state and local government bond issuers rated by S&P will maintain medium to high investment grade ratings. In the report, the analyst noted that the S&P/Investortools Municipal Bond Index, which includes $1.27 trillion of municipal debt outstanding, saw newly defaulted bonds of $2.65 billion, or 0.21% of the index in 2010.
"This is actually somewhat of a decline compared with 2009," where there was $2.9 billion of new defaults."
-- Written by Andrea Tse in New York.
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