Top of the Morning: Muni Market - 2H25 Outlook: The better half
At a Glance
The desk anticipates a resurgence in the municipal bond market during the latter half of 2025, driven by a rebound in performance metrics across various bond segments. Per the full note from UBS, the first half of 2025 saw munis lagging behind other fixed-income assets, primarily due to rising yields and a steepening yield curve. The expectation is that longer durations will regain favor, and specific sector dynamics will emerge, particularly benefiting state government bonds. As such, institutional traders should prepare for a potential shift in strategy towards longer-duration munis as conditions improve in the second half.
Key Takeaways
- 01Expectations for improved municipal bond performance in H2 2025 following a sluggish first half.
- 02Key sectors to watch include state government bonds, which have shown resilience against broader trends.
- 03Focus on the 3-7 year segment of the yield curve, which is currently outperforming the longer durations.
- 04Market dynamics suggest a continued preference for higher coupon bonds.
Full Analysis
What the desk is arguing
The desk asserts that the municipal bond market is likely to perform better in the second half of 2025, a sentiment echoed in UBS's recent report titled "The Better Half." This optimism is built on the observation that despite a dismal first half where munis underperformed relative to other fixed-income assets, key indicators show promise for recovery.
Supporting this view, the break from negative performance is indicated by the notable outperformance of the 3-7 year segment of the yield curve, which outstripped the longer-end by over 550 basis points. Additionally, 5% coupon bonds are projected to continue their advantage over 4% coupons, showcasing a preference shift that favors higher yields in the current market landscape.
Where it sits in our coverage
Our coverage indicates a consensus target of 1.075 for municipal bonds, reflecting a positive outlook. Major firms such as: - JPMorgan — 1.10 (Mar26) - BofA — 1.04 (Mar26) Illustrate a divergence in perspectives, with BofA representing the lower end.
The desk's target is aligned with other bullish outlooks, potentially sitting at the higher end of the forecast spectrum amidst optimistic recovery signs noted in the UBS report.
How other firms see it
In general, firms like JPMorgan and bullish institutions are aligned with a positive stance towards the municipal market, reflecting anticipated sector gains led by state government bonds. Conversely, BofA remains skeptical, positing a cautionary perspective on market recovery, leading to their lower target forecast of 1.04.
Investors should monitor the muni-to-Treasury spreads closely as a signal of market health, reflecting macroeconomic trends as the Federal Reserve navigates its monetary policy adjustments.
Market Implications
Traders should keep an eye on the 3-7 year bond segment for potential trading opportunities as it indicates longer-duration recovery. The next municipal bond issuance could significantly impact market sentiment, particularly in relation to Treasury yields.
From the original
A mid-year performance recap and outlook for the municipal bond market, including a look at why munis are poised for a better second-half performance. We also cover sector preferences, policy implications, and investment considerations for long-term munis. Featured is Sudip Mukhe
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