Analysts are conflicted over how municipal investors should protect their 2014 returns and mitigate their interest rate risk after long term yields fell to a five year low in the first-half rally.

Some are pushing investors to target intermediate maturities and others telling investors to adopt a barbell approach, a strategy where investors buy both short and long maturities.

Investors are especially concerned about how to position themselves, analysts said, because munis have turned profitable after a dismal 2013, and because the slew of economic data scheduled for release this week could determine whether the rally continues.

"This week is a really big week, we have the Fed, we have unemployment, some key info on how the third quarter is unfolding," Anthony Valeri, CFA and senior vice president of research at LPL Financial, said in an interview. "If there is any indication the economy is still sluggish, or the rebound of the second quarter was weaker than expected, then prices may stay high."

The bombardment of key economic reports will start to be publicized on Wednesday with the Federal Open Market Committee meeting announcement holding most of the market's attention.

Minutes from the June FOMC meeting showed the Federal Reserve's tapering will probably be completed in October, assuming economic conditions allow, rather than in December. There had been some question as to whether the Fed would end by cutting $15 billion in October or cut $10 billion in October and the final $5 billion in December.

Investors will also be slammed with the gross domestic product number on Wednesday, and the employment situation report and the personal income and outlays announcements on Friday.

Valeri said if the economy doesn't show too much improvement, "that's really the catalyst that is need[ed] to spark another rally."

Dorian Jamison, municipal research analyst at Wells Fargo Advisors, recommended that investors move away from the barbell strategy Wells Fargo advised earlier this year and focus on the intermediate part of the curve instead.

"Right now I would kind of differ from [the barbell] approach," he said in an interview. "I think there is value in the intermediate maturities, specifically in the two- to seven-year maturity range, sort of on the shorter end of the intermediate yield curve. [That area] is still steep, steeper than its three-year average. It's really among the steepest portions of the curve right now. We've really seen some flattening."

John Dillon, chief municipal bond strategist and managing director at Morgan Stanley Wealth Management wrote in the group's latest municipal market post that Morgan Stanley favors the four- to nine-year maturity range and above-market coupons such as the 5% coupon for defensive qualities. He cited the broader United States economic recovery and eventual higher interest rates as the reason for choosing this maturity range.

Morgan Stanley's more recent reports no longer acknowledge value in the 20-year range "amid further yield curve flattening," as it had on May 2.

"We're four to nine years," Dillon said in an interview. "The reason we removed that value in 20 year part of curve is we anticipated a strong muni market into the summer and we've gotten that, and at the same time you've gotten stronger payroll data, and more of a concern on inflation. Although [inflation] isn't a concern, he said, "it's on the radar, so we're sticking to four to nine."

Valeri said that investors could see the market becoming more expensive in August when there are reinvestment needs.

"I caution buyers going into that," he said. "If you're concerned about longer term total returns I wouldn't jump into long term right now, intermediates will give you better downside protection."

Jamison said that Wells Fargo has seen a lot of flattening on the long end, and said that the 15 to 30 year range is at a five year low right now. He said there isn't really a lot value further out on the curve.

"Investors can pick up over 80% of the high-grade muni yield curve over 15 years, as much as 70% of the high grade yield curve is in 10 years," he said. "Investors can pick up more than 50% of high grade muni yield curve in seven years."

Sean Carney, director and municipal strategist at BlackRock, said in an interview that the firm maintains its barbell approach to both the yield curve and credit curve that it has advocated the past couple months.

"The yield curve continues to flatten so this approach benefits from the bid for duration, while being tactical in duration management with our front end holdings," he said.

He predicted that volatility will increase as the fall approaches, and investors need to protect what they have earned thus far in munis.

"This year about a quarter of issuance has come in the first five years of the curve," he said. "In the eight to 15 year part of the curve, the part you define as intermediate, issuance has been 32% to 33%. What that tells us is the intermediate part of the curve has seen a good amount of issuance, and is ultimately the part of the curve that can feel heavy and lack some liquidity."

Hillary Flynn is the buyside reporter at The Bond Buyer.

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