Unmasked Potential for Munis in 2021

Our outlook for municipals this year

BlackRock’s municipal bond experts share their market outlook and the actions you can take to raise your portfolio’s potential in 2021.

The assets that command demand

Even as the pandemic spurred the most abrupt and severe selloff of modern history, the S&P Municipal Bond Index finished 2020 with a gain of 4.95% as strong demand for muni bonds broadly outpaced supply. We expect the positive momentum to continue in the coming year, albeit with moderated returns.

Municipal bond mutual funds have attracted positive flows from investors in each of the past seven years — since the extreme rate volatility infamously known as the “Taper Tantrum” stressed fixed income assets broadly in 2013. Demand for municipal bonds continues to be supported by highly accommodative monetary policy, while the potential for higher taxes under the new political regime underscores the appeal of tax-advantaged investments. Notching a solid return for a tumultuous 2020 also bodes well for munis in the months ahead as positive returns tend to create further demand.

Some volatility in fund flows can be expected given the forecast for low- to mid-single-digit returns and the likelihood of interest rates moving modestly higher and creating a steeper yield curve. Nevertheless, we anticipate another year of net positive flows into the asset class.

We view high yield municipals as a particularly appealing area to look for opportunities in 2021. The sector has lagged in the broader muni rebound from the pandemicinduced selloff, suggesting the potential existence of underpriced assets and room to move higher. By the end of 2020, investment grade municipals had recouped 138% of its outflows from the March selloff, while the high yield sector regained only 37%. In our view, high yield is poised to readily outperform investment grade. Nevertheless, investors need to be highly selective as the impact of the pandemic varies across market segments and issuers.