Market Sector Update
- Municipal bond market performance was driven primarily by the Treasury market, which rallied aggressively. Weaker U.S. economic data, coupled with flight to quality buying on Russia/Crimea tensions resulted in very strong market performance.
- Defaults in the municipal bond asset class continue to be extremely rare and heavily concentrated in the high-yield category. While we anticipate increased headline risk from cities and countries that have experienced severe stress and deterioration for many years (Detroit and Puerto Rico), we continue to believe that these problems are not systemic, and that they will remain isolated.
- State and local governments have rebounded from the recession, with tax revenue growing for 16 quarters through the three months ended Dec. 31, 2013, according to Census bureau data.
- The municipal yield curve flattened significantly in the quarter, but it is still very steep historically.
- While rates declined in Q1 we do not expect this to be the start of a new bull market trend. We are cautiously optimistic that the softer Q1 economic data was weather related, and will subsequently be reversed, and that the Russia/Crimea situation will remain contained. We expect the back-up in rates to gain momentum as we move further into 2014. The Fund is positioned with a lower interest rate sensitivity versus our benchmark and is holding a significant cash position.
- Treasury and municipal rates are still extremely low by all historical standards. We remain very cautious as we believe that interest rates will need to normalize at some point in time. Therefore, the portfolio duration is quite a bit shorter than our benchmark. We continue to maintain our overweight slant to spread product in the A-BBB range.
- We will continue to hold a larger percentage of longer maturity bonds in an attempt to exploit the steep slope of the yield curve, and we will continue to place emphasis on diversification, higher (overall) credit quality and yield curve positioning.
- As always, the Fund will actively seek to uncover relative value opportunities between states, sectors and security structures while also attempting to exploit opportunities presented by the shape and slope of the yield curve.
- We remain confident that defaults will continue to be much lower than any other fixed-income alternatives, besides U.S. Treasuries.
- This year's congressional elections weaken chances of a far reaching tax code overhaul that would roll back or alter municipal bond's tax exemption. We also expect negative headlines from old municipal bankruptcy cases working their way through the court systems and decisions influencing the actions of other struggling municipalities in the future.
- We expect Treasury yields to be the primary driver of the investment grade municipal bond market as we move through 2014. A potentially stronger U.S. economy in second half of the year and a calmer geopolitical environment, may stimulate an increase in investor rotation into risk assets. This could put pressure on the municipal bond market.
- While it is certainly plausible that the long-running bull market in bonds might be over, we are not convinced an outright bear market is beginning. This will need to be validated by continued economic growth, a reversal of unprecedented Fed activities, and a rotation out of safe harbor assets and into risk assets.
The opinions expressed in this commentary are those of the Fund’s manager and are current through March 31, 2014. The manager’s views are subject to change at any time based on market and other conditions, and no forecasts can be guaranteed. Past performance is no guarantee of future results.
Risk Factors. As with any mutual fund, the value of the Fund’s shares will change, and you could lose money on your investment. An investment in the Fund is not a bank deposit and is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Fixed-income securities are subject to interest-rate risk and, as such, the net asset value of the Fund may fall as interest rates rise. The Fund may include a signif cant portion of its investments that will pay interest that is taxable under the Alternative Minimum Tax. These and other risks i are more fully described in the Fund’s prospectus. Not all funds or fund classes may be offered at all broker/dealers.
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