Municipal bond funds have struggled so far in 2022, posting record outflows in the Lipper funds flow week ending Wednesday, June 15 and posting an average market loss year-to-date of 9.98% – their biggest drop of any annual return dating dates back to 1992 when Lipper started tracking weekly net feeds. Year-to-date, municipal debt funds have returned $72.5 billion net, eclipsing record net outflows of $64.2 billion in 2013.

As inflation concerns intensified during the week of cash flows and the likelihood of a 75 basis point (bp) interest rate hike became more likely, broad indices were hammered as investors were pricing in the possibilities of the US economy hitting a hard landing and ending in a recession.

For the week of flows, the 10-year Treasury yield rose 30 basis points, closing the week at 3.33% after hitting a closing high of 3.49% on June 14 – its highest close ever. since April 14, 2011 – after the Federal Open Market Committee raised its policy rate by an aggressive 75 basis points.

The writing was on the wall after the Consumer Price Index (CPI) report, released earlier in the week, showed US inflation rose 1% in May, beating expectations of investors. 0.7% analysts. The year-over-year increase of 8.6% was the highest since 1981.

The Producer Price Index provided further confirmation that inflation could persist and the Fed should be aggressive, with the price of wholesale goods and services jumping 0.8% in May and demand prices final reaching 10.8% for the last 12 months. month period.

In the last week of fund flows, municipal debt funds suffered a net outflow of $5.6 billion, their third-largest net outflow on record and the largest since March 25, 2020.

For the week, they were down 3.01%, posting their third largest weekly market decline since 1992. With the Federal Reserve signaling its intention to raise rates since the start of the year, it was not not surprising to see that the group had seen 20 weeks of net releases in the last 24.

The 15 consecutive weeks of net redemptions seen recently this year is the longest run of exits seen since the 33-week net redemption run that ended on January 8, 2014.

Recall in 2013 that investors fell victim to the progressive speculation and negative press that plagued issuers in Detroit and Puerto Rico, both facing default issues. The only similarity is that for both periods, returns started relatively low and the potential for price appreciation was/is minimal.

As then, taxable investors will now have to reevaluate why they are using municipal debt funds in their portfolios – diversification and tax-free income. As the 40-plus-year bond bull market is over and the market correction and weak performance are painful, the possibility of investing money at higher yields may be attractive – but investors will need to stick around. cautious as they look for attractive entry points.

Despite the Fed’s aggressive interest rate hike in June, some pundits believe the Fed may still be a bit behind the curve and volatility should still be present as municipal yields remain range-bound. and that the new broadcast schedule is muted.

As noted earlier, however, the dichotomy between mutual funds and ETFs is very pronounced in the municipal debt fund space. Municipal bond ETFs have attracted $10.8 billion net year-to-date, while their conventional municipal bond fund brethren have returned some $83.3 billion.

And while we don’t know if investors really focus on the passively managed aspects of municipal bond ETFs, they can selectively use ETFs for increased tax efficiency via in-kind redemptions, relatively lower expenses, and ease of entry and exit throughout the day.

Thus, some investors may turn to ETFs to test the waters for attractive entry points. I should mention, however, that the assets under management of the two structures are quite different, with the total net assets of conventional municipal debt funds hovering around $803.7 billion and their ETF counterparts at just $86.6 billion.

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Editor’s note: The summary bullet points for this article were chosen by the Seeking Alpha editors.