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SALT, Fed drive muni bonds to best start since 2014

State and local government bonds are headed for their strongest start to a year since 2014, propelled by an influx of cash into municipal-debt mutual funds as investors seek out tax havens and the Federal Reserve holds off on interest rate increases.

The securities have returned 1.8% in 2019, putting them on track for the best first-quarter showing in five years. That’s roughly double the gain for Treasurys, according to Bloomberg Barclays indexes.

The outperformance has been driven in part by a push among investors to cut their tax bills after the new limit on state and local deductions was ushered in, a trend that Bank of America analysts said they expect to continue. The Fed’s decision to step back from tightening monetary policy is also boosting fixed-income investments.

Managers reduced their allocation to Treasuries ahead of the Fed’s latest meeting to 24.2%, the lowest since September.
(EDITORS NOTE: Image was created using a variable planed lens.) The Marriner S. Eccles Federal Reserve building stands in Washington, D.C., U.S., on Friday, Nov. 18, 2016. Federal Reserve Chair Janet Yellen told lawmakers on Thursday that she intends to stay in the job until her term expires in January 2018 while extolling the virtues of the Fed's independence from political interference. Photographer: Andrew Harrer/Bloomberg

“SALT is creating elevated demand, especially on the two coasts,” said Michael Pietronico, CEO of Miller Tabak Asset Management. “The perception that the Federal Reserve is on hold has helped pull cash off the sidelines.”

Investors have added about $12.6 billion to muni bond mutual funds since early January, with about $1.6 billion sent in during the week ended March 13, the tenth straight weekly gain, according to Lipper US Fund Flows data. At the same time, the pace of new bond issuance hasn’t kept up with demand, analysts say; a factor that helped push the prices of top-rated 10-year bonds earlier this month to their highest against Treasurys since at least 2001.

“We expect demand to remain strong, supply to remain light — it’s going to be a struggle to find value,” said Pietronico, who anticipates that muni bonds will return from 3% to 4% this year. “As the year progresses, we think it will get more brutal.”