Interest rates have recently shown signs of moving upwards. A recent article reminds us that some of the recent turmoil in the municipal bond market might be due to the yield rise on the 30 year U.S. Treasury bond. In the first half of November, 2010 the yield rose less than 0.4%, causing the value of the 30 year US Treasury bond to fall by 6%. Ouch.
We are also reminded that leverage is being used by some mutual funds and closed-end funds, causing even more volatility. The Eaton Vance National municipal income fund was down 7% at one stage in November, 2010. We would avoid municipal bond mutual funds funds that use leverage.
So the big drivers of municipal bond pricing right now are:
- Interest rate fluctuations
- Extra supply due to cramming Build America Bond issues in before the end of the year
If you take a look at the following chart showing the Vanguard intermediate term mutual fund, one a California municipal bond fund [VCAIX] and the other a U.S. Treasury fund [VFITX], you can see that they have both fallen with a similar velocity. VCAIX lost 2.59% during this 35 day period. It currently yields 3.12%. Ouch. Holding individual bonds helps mitigate this fluctuation.