Where Should You Look for Muni Income Now?

Munis rarely make headlines. Lately, though, they’ve earned the spotlight.

Yields haven’t been this high since 2008, and after taxes, they can give corporate bonds and private credit a run for their money. But with extra risk barely paying off and over 50,000 bonds to choose from, selectivity matters.

We asked Allspring’s Nicholos Venditti, Head of Municipal Fixed Income, and Molly Landes, Head of ETF Capital Markets, where their teams see opportunity, and where they’re treading carefully.

Q: How has the prospect of a rising rate environment impacted the Allspring municipal bond strategy? 

A: [Nicholos] Periods of higher rates have historically created favorable entry points for municipal investors, and we believe today’s environment is no different. Right now, our focus is on income. Municipal yields are now higher than they have been at any point since the Great Financial Crisis of 2008. Tax-equivalent yields may make municipals even more attractive, particularly when compared to corporate bonds and private credit, and they may often carry lower credit risk as well.

In the current rate environment, we are focused on active positioning across the yield curve with an eye toward bonds that offer more yield per unit of duration risk. Generally speaking, we prefer bonds with maturities of 15 years or less as the steepening yield curve has allowed us to find securities that offer similar yields to longer-dated securities, but in many cases materially less duration and maturity risk. 

Q: How is the team looking at the artificial intelligence (AI) buildout? Is this creating new opportunities in the municipal world or not having much of an impact? 

A: [Nicholos] While the AI buildout is having vast impacts on equity markets, the infrastructure spending related to this massive shift is also reverberating across fixed income. With literally trillions of dollars required for data centers, power, and other related infrastructure modernization, municipalities across the country are seeing emerging opportunities and changing priorities due to the impact this technology is having on markets. 

Two areas in particular that are heavily linked to AI from a municipal perspective right now are in the prepaid-gas and prepaid-energy segments of the market. Public power represents the most direct municipal effect of the AI buildout, while the prepaid-gas sector has grown significantly in the past two years to make up nearly 10% of many municipal bond indexes, creating new prospects in the space for active investors to play the AI trend in the fixed income world. 

Q: What are some subsectors or areas of interest that the team is focused on right now in the tax-exempt fixed income world? 

A: [Nicholos] With tight spreads and a lack of compensation for incremental credit risk in markets right now, we are focused on conventional municipal bonds, shifting towards higher rated securities with stable and durable finances. 

Meanwhile, one area that we are less optimistic on right now is in the higher-education space. Demographics are not favorable for many programs while high tuition costs and extended graduation timelines are putting pressure on less well-known schools in this space. We find that, in fixed income, avoiding the bad apples can often be as fruitful as finding the right ones, so we think it is important to consider bonds from universities on a case-by-case basis as there are still great opportunities in the space overall.

Overall, given how many municipal bonds are in the market (over 50,000), we believe research and staying nimble are the keys to success. Many offerings are so small that they never enter major indexes which, are largely focused on more sizable municipals for inclusion. We think this gives us an opening to outperform and allows us to select from a vast pool of securities that benchmark-oriented strategies may not even have on their radars.

Q: Tax efficiency is always top of mind for municipal investors. Can you discuss why recent innovations in ETF share classes could be of interest for tax-conscious investors? 

A: [Molly] The proliferation of ETF share classes on top of existing mutual fund strategies looks to put tax efficiency front-and-center for investors. In general, thanks to the creation and redemption mechanism inherent to ETFs, assets in classic mutual funds can now be moved “in-kind” out through the ETF share class, potentially reducing capital gains across the portfolio. 

Additionally, capital-loss carryforwards will remain in the strategy for use by both mutual fund and ETF share class holders. This potential removal of lower basis securities and the retention of higher basis ones can have the effect of improving after-tax outcomes for all. 

The addition of the ETF share class also gives the strategy another mechanism for handling investor flows. Instead of having to potentially buy and sell securities to meet every new dollar that enters or leaves the portfolio, ETF primary-market activity can be utilized, reducing the overall number of taxable events for investors across the strategy. This technique should make the investment experience even more efficient going forward, no matter your preferred wrapper. 

Q: Allspring just launched two municipal ETFs which are structured as share classes of existing mutual fund strategies. Why were these selected to be in the first wave of ETF share classes for the firm? 

A: [Molly] The Strategic Municipal Bond ETF (ASTM) and the High Yield Municipal Bond ETF (AHYM) are joined by the Short-Term High Income ETF (AHIC) as the first wave from Allspring in the growing ETF share class trend. For our municipal ETFs, these are among the first active municipal ETFs in the industry to be structured as an ETF share class of an existing mutual fund, so we are excited to be at the forefront of this product evolution for clients in the tax-exempt bond world. 

Building on our longstanding experience in municipal bond investing, we launched these products in response to client demand. We believe municipal bonds are compelling for income-focused investors right now and the desire to access our strategies in an ETF structure is feedback we have heard from clients. As we noted, ETFs generally have a better handle on capital gains management so this could potentially improve after-tax performance for shareholders as well.

This means that ETF investors now have access to our time-tested municipal strategies in a tax-efficient, exchange-traded vehicle.

Q: How do you see these new ETF share classes fitting into the existing product lineup, what do investors need to know about their role in portfolio construction?

A: [Molly] The new ETF share classes simply provide advisors and end clients with an additional way to pursue desired investment outcomes. 

Some advisors or clients may prefer an ETF, an SMA, a traditional mutual fund or some combination, and now, no matter what best suits your needs, you can access the same strategy across product types.  

So, I see the ETF share class providing more choice, greater flexibility, and another efficient way to access our investment strategies which have proven themselves in a range of markets.

Disclosure

Carefully consider a fund’s investment objectives, risks, charges, and expenses before investing. For a current prospectus and, if available, a summary prospectus, containing this and other information, visit allspringglobal.com. Read it carefully before investing.

It is possible that an active trading market for ETF shares will not develop, which may hurt your ability to buy or sell shares, particularly in times of market stress. Shares may trade at a premium or discount to their net asset value (NAV) in the secondary market. These variations may be greater when markets are volatile or subject to unusual conditions. There can be no assurance that active trading markets for the shares will develop or be maintained by market makers or authorized participants. Shares of the ETFs are not redeemable with the ETF other than in creation unit aggregations. Instead, investors must buy or sell the ETF shares in the secondary market at market price (not NAV) through a broker-dealer. In doing so, the investor may incur brokerage commissions and may pay more than NAV when buying and may receive less than NAV when selling. All investing involves risk, including the possible loss of principal. Bond values fluctuate in response to the financial condition of individual issuers, general market and economic conditions, and changes in interest rates. Changes in market conditions and government policies may lead to periods of heightened volatility in the bond market and reduced liquidity for certain bonds held by the fund. In general, when interest rates rise, bond values fall and investors may lose principal value. Interest rate changes and their impact on the fund and its share price can be sudden and unpredictable. High yield securities and junk bonds have a greater risk of default and tend to be more volatile than higher-rated securities with similar maturities. Municipal securities risk includes the ability of the issuer to repay the obligation, the possibility of future tax and legislative changes and other factors, that may adversely impact the liquidity and value of the municipal securities in which the fund invests. A portion of the fund’s income may be subject to federal, state, and/or local income taxes or the alternative minimum tax. Any capital gains distributions may be taxable. Consult the fund’s prospectus for additional information on these and other risks.

Allspring ETFs are not available for distribution outside the United States.

Allspring Global Investments^TM is the trade name for the asset management firms of Allspring Global Investments Holdings, LLC, a holding company indirectly owned by certain private funds of GTCR LLC and Reverence Capital Partners, L.P. These firms include but are not limited to Allspring Global Investments, LLC, and Allspring Funds Management, LLC. Certain products managed by Allspring entities are distributed by Allspring Funds Distributor, LLC (a broker-dealer and Member FINRA/SIPC).

This material is for general informational and educational purposes only and is NOT intended to provide investment advice or a recommendation of any kind — including a recommendation for any specific investment, strategy, or plan.

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