Municipal market update 31 Dec 2017

Transcription

1 31 Dec 2017 NOT FDIC INSURED MAY LOSE VALUE NO BANK GUARANTEE

2 Moderate growth and a flattening yield curve in 2018 Themes/predictions for 2018 U.S. real GDP reaches 3% and nominal GDP 5% for the first time in more than a decade. Unemployment falls to the lowest level in nearly 50 years, threatening to break below 4%; the rise in overall inflation remains muted. The Federal Reserve raises rates 2 or 3 times as the Powell Fed continues a slow and steady march towards normalization. The U.S. Treasury yield curve remains flat but does not invert, as longer rates slowly drift higher. The 10-year yield trends toward 3%. Expect meaningfully lower municipal supply due to tax reform, with strong demand. With high quality bonds scarce and demand strong, high yield spreads tighten to less than 200 versus AAA municipals. The downward trajectory of defaults continues (excluding Puerto Rico), the slowest pace since Municipals outperform Treasuries, as bonds perform their traditional role of diversifying volatility from other asset classes. Massive new issuance in December 2017 creates scarce supply. Strong market technicals support solid fundamentals. Certain statements may be deemed forward-looking statements. Please note that any such statements are not guarantees or intended to constitute a prediction of any future performance; actual results or developments may differ materially from those projected. 2

3 Municipals have been resilient during uncertain environments Bloomberg Barclays Municipal Bond Index Returns 14% 12% 10% 8% 6% 4% 2% 0% 11.68% Terrorist attacks 5.16% Corporate accounting scandals 9.60% Fed funds rate raised 17 times 5.31% 4.48% 3.51% 4.84% Monoline insurance downgrade 3.36% Liquidity crisis 12.91% Municipal default scare 2.37% Debt ceiling U.S. downgrade 10.69% 6.78% Taper tantrum 9.05% 3.30% Fed funds rate increases 0.25% 5.45% 5.21% Average annualized return -2% -4% -2.47% % Volatility in the municipal market has increased since Data source: Bloomberg, L.P., 2017 data as of 31 Dec Past performance is no guarantee of future results. All investments carry a certain degree of risk, including possible loss of principal, and there is no assurance that an investment will provide positive performance over any period of time. Index returns include reinvestment of income and do not reflect investment advisory and other fees that would reduce performance in an actual client account. Indexes are unmanaged and unavailable for direct investment. 3

4 The municipal yield curve flattened in 2017 AAA-rated G.O. yield curve Dec Dec Percent Years of maturity Lack of sustained inflation will keep long rates from rising dramatically. Data source: Thomson Reuters MMD. Past performance is no guarantee of future results. 4

5 Potential effects of 2017 tax reform New tax legislation may have some impact on supply and demand New advance refunding bonds will not be tax exempt Issuers typically use these bonds to reduce borrowing costs Refunding activity has dominated new issuance the past five years, so this could restrict new issue supply Derivatives or other structures could replace advance refunding bonds State and local tax (SALT) will have a $10,000 deductibility cap A $10,000 cap on SALT deductions could increase tax burden for individuals who itemize deductions Future efforts to raise property and income taxes could become more politically challenging Municipal bonds issued in high-tax states may experience increased investor demand Mortgage deduction cap is lower Deduction cap for mortgages over $750,000 has a modest risk of slowing home sales in areas of the country with high home values Excise tax was added to investment income of private, non-profit universities and colleges Credit profiles within this small universe could come under pressure Corporate income tax rate was cut to 21% from 35% Lowers the municipal taxable equivalent yield for corporations, but may only marginally reduce corporate demand Certain statements may be deemed forward-looking statements. Please note that any such statements are not guarantees or intended to constitute a prediction of any future performance; actual results or developments may differ materially from those projected. 5

6 Marginal tax rate reductions have little correlation to the municipal-to-treasury ratio History shows municipal bond prices are not affected by federal income tax rates PERIOD MAXIMUM TAX RATE BOND BUYER 20 / 10-YEAR TREASURY YIELD BOND BUYER 20 / 30-YEAR TREASURY YIELD % 87.7% 87.4% % 91.0% 89.0% % 85.7% 85.3% % 90.2% 84.5% % 93.5% 88.8% During the Reagan Era taxes were cut, but municipal bonds produced a return of 15.2% During George W. Bush s presidency taxes were cut, but municipal bonds produced a return of 5.5% During Barack Obama s tenure taxes were raised and the municipal-to-treasury ratio increased 2017 tax reform may increase municipal demand Data source: Bloomberg, L.P.; Maximum Tax Rate, Walters Kluwer, CCH, WBOT2013/029IncomeTaxRates.asp. Past performance is no guarantee of future results. Indices are unmanaged and unavailable for direct investment. 6

7 2017 new issuance was slightly less than 2016 New capital versus refunding issuance Issuance ($ Billions) $500 $400 $300 $200 $100 $388 B $194 B Refunding New capital Estimate Average total issuance New capital average $ E 2017 new issuance was down nearly 2% versus Data source: Securities Industry and Financial Markets Association (SIFMA.org), U.S. Bond Market Issuance and Outstanding, 31 Dec Estimate for 2018 from Nuveen Asset Management. 7

8 Building individual bond portfolios has become more difficult Professional managers can help in an environment of increased assets and lower inventory Broker/dealer municipal inventory ($ billions) $70 $60 $50 $40 $30 $20 $10 $0 1Q Q 2017 $66 billion $646 billion (up 71%) $378 billion $20 billion (down 70%) $800 $600 $400 $200 $0 Municipal mutual fund assets ($ billions) Broker/dealer inventory declined 70% since 2008, while municipal mutual fund assets grew 71%. Other factors that support investing with a professional manager: Less than 6% of new issuance is for insured bonds Municipal assets under management have increased since 2008, adding $304 billion in mutual funds, $203 billion in managed accounts and $23 billion in exchange-traded funds Data source: Bond Buyer and Federal Reserve Flow of Funds. Data as of 30 Jun 2017, most recent available. 8

9 Long-term municipals remain inexpensive relative to U.S. Treasuries AAA municipal s value relative to Treasuries 210% 180% 10-year MMD/UST ratio 10-year ratio average 30-year MMD/UST ratio 30-year ratio average 150% 120% 90% Average ratios since year bond ratio: 93% 10-year bond ratio: 84% Current 30-year: 93% 60% Current 10-year ratio: 83% Data source: MMD Thompson/Reuters for fair value Municipal 10- and 30-Year Index AAA General Obligation bonds; Bloomberg for 10- and 30-year U.S. Treasury yields, 01 Jan Dec Represents the relative value of municipal yields to Treasury yields. Past performance is no guarantee of future results. 9

10 High yield municipal spreads remain wide despite strong performance Bloomberg Barclays High Yield Municipal Index versus AAA yields HY - MMD AAA HY - MMD AAA average Basis points HY-AAA spread average: 258 bps Pre-crisis average: 190 bps Pre-crisis average HY-MMD AAA ex-puerto Rico 273 bps ex-puerto Rico bps /95 10/97 10/99 10/01 10/03 10/05 10/07 10/09 10/11 10/13 10/15 10/17 Data sources: Municipal Market Data AAA-rated bonds, Bloomberg Barclays High Yield Municipal Index, Thompson Reuters, 31 Oct Dec Charts show data to the earliest period available. Past performance is no guarantee of future results. High yield or lower-rated bonds and municipal bonds carry greater credit risk, and are subject to greater price volatility. Ratings shown are from S&P and are subject to change. AAA,AA,A, and BBB are investment grade ratings; BB,B, CCC/CC/C and D are below-investment grade ratings. Indices are unmanaged and unavailable for direct investment. Pre-crisis period is 31 Oct Dec

11 BBB municipal spreads are ahead of pre-crisis average S&P 20-Year BBB yields versus AAA yields 300 BBB-AAA S&P BBB-AAA S&P average 250 Pre-crisis average 200 Basis points BBB-AAA spread average: 102 bps Pre-crisis spread average: 62 bps 91 bps /98 4/00 4/02 4/04 4/06 4/08 4/10 4/12 4/14 4/16 Data source: Standard & Poor s AAA and BBB municipal bond yield curves for bonds due in 20 years, 30 Apr Dec Charts show data to the earliest period available. Past performance is no guarantee of future results. High yield or lower-rated bonds and municipal bonds carry greater credit risk, and are subject to greater price volatility. Ratings shown are from S&P and are subject to change. AAA,AA,A, and BBB are investment grade ratings; BB,B, CCC/CC/C and D are below-investment grade ratings. Indices are unmanaged and unavailable for direct investment. Pre-crisis period is 30 Apr Dec

12 High yield municipals are cheap relative to high yield corporates Bloomberg Barclays High Yield Municipal vs. Barclays High Yield Corporate Municipal high yield Corporate high yield Ratio Average Yield (percent) Ratio Current ratio: 90% Average ratio: 79% 0.50 Current muni yield: 5.14% Current corp yield: 5.72% /95 10/98 10/01 10/04 10/07 10/10 10/13 10/ Data source: Bloomberg L.P., 31 Oct Dec Past performance is no guarantee of future results. Representative Indexes: High Yield Municipal: Bloomberg Barclays High Yield Municipal Index; High Yield Corporate: Bloomberg Barclays U.S. High Yield Corporate Index. High yield or lower-rated bonds and municipal bonds carry greater credit risk, and are subject to greater price volatility. Indices are unmanaged and unavailable for direct investment. 12

13 Defaults are running at the lowest level since 2008 (excluding Puerto Rico) Defaults have increased, but meaningful increases are due to Puerto Rico $30 $27.8 Market total Municipal payment defaults ($ billions) $25 $20 $15 $10 $5 $0 $26.0 $22.7 $21.9 $4.3 $3.4 $3.8 $2.8 $2.4 $1.0 $0.5 $1.1 $0.5 $0.9 $0.9 $1.6 $1.5 $2.3 $1.8 $0.2 $ Excluding Puerto Rico Puerto Rico There were 7 Chapter 9 bankruptcy filings in Puerto Rico made up 94% of 2016 defaults. Data sources: Municipals Weekly Bank of America/Merrill Lynch Research, 1 Dec Data as of 01 Dec 2017, most recent data available. Data represents defaults on the entire universe of bonds, both rated and unrated, and includes Puerto Rico defaults. 13

14 Credit continues to improve as ratings upgrades outpaced downgrades Moody s upgrades vs. downgrades, third quarter 2017 Upgrades Downgrades All Public Finance Tax & Appropriation Revenue Moody s upgrades vs. downgrade, YTD through 30 Sep 2017 Upgrades Downgrades All Public Finance Tax & Appropriation Revenue Data source: Moody s Investor Service, U.S. Public Finance, Sector In-Depth, 30 Nov

15 State revenues have recovered fully since the financial crisis States' tax revenue percentage growth 15% 10% 5% 0% -5% 5.2% 2.5% -4.1% -3.1% 3.2% 2.2% 5.7% 8.2% 10.2% 11.2% 5.1% 3.2% 3.9% 3.5% 3.7% 5.6% 9.8% 10.2% 5.7% 3.2% 0.4% -0.7% 4.7% 6.1% 5.5% 6.9% 3.9% 2.2% 1.5% -2.5% 1.4%1.3%3.1% 1.8% -10% -15% -12.1% -11.0% -16.3% -20% 2Q08 3Q08 4Q08 1Q09 2Q09 3Q09 4Q09 1Q10 2Q10 3Q10 4Q10 1Q11 2Q11 3Q11 4Q11 1Q12 2Q12 3Q12 4Q12 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15 4Q15 1Q16 2Q16 3Q16 4Q16 1Q17 2Q17 Allotting money to pay for pensions and other long-term benefits remains a major issue. Data source: The Nelson A. Rockefeller Institute of Government, State Revenue Report, Dec

16 Stress in the system continues Top 10 typical warning signs of a potential impending municipal bankruptcy 1. Late budgets 2. High turnover 3. High unemployment 4. Low per capita income 5. Low real estate market values per capita 6. High debt service to total expenditures 7. Large unfunded pension benefits 8. Inability to balance budget 9. Small general funds balance 10. Statements indicating lack of support for debt service 16

17 Bonds with similar ratings are not created equal Range of yields for A-rated municipal and corporate bonds 4.2% 1.8% 1.2% 4.0% 2.1% 1.6% 5.0% 2.4% 0.6% 5.7% 4.3% 2.9% 2.9% 2.4% 1.2% 4.8% 3.7% 3.3% 5.3% 3.4% 0.9% 5.1% 4.3% 4.0% 5.4% 3.6% 1.9% 4.8% 4.4% 4.1% High Avg Low Municipals Corporates 2-Year 5-Year 10-Year 20-Year 30-Year Maturity The yields of 30-year, A-rated bonds ranged from 1.9% to 5.4%. The range for corporate bonds was smaller at 4.1% to 4.8% Data source: S&P/Investortools and BofA Merrill Lynch, 31 Dec Past performance is no guarantee of future results. Universes are the A-rated bonds in the S&P Municipal Bond Index and the BofA Merrill Lynch U.S. Corporate, Government & Mortgage Index. Any reference to municipal credit ratings refers to the highest rating given by one of the following national rating agencies: S&P, Moody s or Fitch. Credit ratings are subject to change. AAA, AA, A and BBB are investment grade ratings; BB, B, CCC, CC, C and D are below-investment grade ratings. Dispersion describes the size of the range of values expected for a particular variable. Yield refers to the interest or dividends received from a security and is usually expressed annually as a percentage based on the investment s cost, its current market value or its face value. 17

18 Retirees have fared better than investors in Chapter 9 Recoveries in large municipal bankruptcies 100% Debt Recovery level 80% 60% 40% Pensions Other Post-Employment Benefts (OPEBs) 20% 0% Central Falls, RI Vallejo, CA Jefferson County, AL Harrisburg, PA Stockton, CA Detroit, MI San Bernardino, CA Debtholders often lose out to pensions during bankruptcy, demonstrating the importance of credit research. Data source: Moody s Investors Service, 25 Feb

19 Municipals are attractive relative to sovereign debt Japanese debt is trading at negative yields for maturities of less than 10 years and around 0% for 10 years and longer The European Central Bank (ECB) extended its asset purchase program through December 2018 U.S. Treasuries became more attractive on a relative basis after the U.S. election Municipals are reporting higher yields, particularly on a taxable-equivalent basis Global bond yields and ratings Yield (%) year 10-year 30-year Linear (30-year) Switzerland Aaa/AAA Japan A1/A Germany Aaa/AAA Denmark Aaa/AAA Austria Aaa/AA+ United Kingdom Aa1/AAA United States Aaa/AA+ Municipal Bonds Aaa/AAA Municipal Bonds TEY Aaa/AAA Data source: Bloomberg L.P., 31 Dec Past performance is no guarantee of future results. Municipal bonds represented by the Municipal Market Data (MMD) scale. Tax equivalent yields shown based on highest marginal tax rate of 43.4%. 19

20 Municipals are more attractive on an after-tax basis Taxable and tax-equivalent yields 10% Taxable yield 8% Taxable equivalent yield = Tax-exempt yield (100%-marginal tax rate) 8.68% Taxable-equivalent yield 1 Tax-exempt yield 2 Yield 6% 4% 5.72% 5.14% 2% 3.04% 2.03% 1.80% 2.63% 3.56% 2.11% 0% Corporate bonds Municipal bonds Corporate bonds Municipal bonds Corporate bonds Municipal bonds Short term Intermediate term High yield 1 The taxable-equivalent yield is based on the highest individual marginal federal tax rate of 37%, plus the 3.8% Medicare tax on investment income (the Net Investment Income Tax). Individual tax rates may vary. 2 Some income may be subject to state and local taxes and the federal alternative minimum tax. Data source: Bloomberg L.P., 31 Dec Past performance is no guarantee of future results. Yields are yield-toworst. Yield-to-worst is the lowest potential yield that can be received on a bond without the issuer defaulting. Taxableequivalent yield is the yield a taxable investment needs to possess (before taxes) for its yield to be equal to that of a taxfree municipal investment. The yields shown are based on the highest individual marginal federal tax rate of 37%, plus the 3.8% Medicare tax on investment income. Individual tax rates may vary. They do not take into account the effects of the federal alternative minimum tax (AMT) or capital gains taxes. Representative Indexes: Short Term Corporate Bonds: Bloomberg Barclays U.S. Government/Credit 1-3 Year Index; Short Term Municipal Bonds: Bloomberg Barclays Municipal Short Index; Intermediate Term Corporate Bonds: Bloomberg Barclays U.S. Government/Credit Intermediate Index; Intermediate Term Municipal Bonds: Bloomberg Barclays Municipal Intermediate Index; High Yield Corporate Bonds: Bloomberg Barclays Corporate High Yield 2% Issuer Capped Index; High Yield Municipal Bonds: Bloomberg Barclays High Yield Municipal Bond Index. Different benchmarks, economic periods, methodologies and market conditions will produce different results. It is not possible to invest directly in an index. 20

21 Municipals have exhibited lower volatility with strong risk-adjusted returns 25 3 year Municipals have exhibited the lowest volatility among asset classes Standard deviation year 10 Year 0 U.S. Treasury Year U.S. Treasury 20+ Year Global Bonds High Yield Corporates International Equity Emerging Markets U.S. Equity High Yield Municipals Investment Grade Municipals Municipals have been relatively attractive on a risk-adjusted basis Sharpe ratio U.S. Treasury Year U.S. Treasury 20+ Year Global Bonds High Yield Corporates International Equity Emerging Markets U.S. Equity High Yield Municipals Investment Grade Municipals Data source: Morningstar, 31 Dec Dec Past performance is no guarantee of future results. Representative Indexes: Treasuries: Bloomberg Barclays U.S Year Treasury Index and the Bloomberg Barclays U.S. 20+ Year Treasury Index; Global Bonds: Bloomberg Barclays Global Aggregate Unhedged Index; High Yield Corporates: Bloomberg Barclays High Yield Corporate Index; International Equity: MSCI EAFE Index; Emerging Markets: MSCI Emerging Markets Index; U.S. Equity: S&P 500 Index; High Yield Municipals: S&P Municipal High Yield Index and Investment Grade Municipals: Bloomberg Barclays Municipal Bond Index. Indices are unmanaged and unavailable for direct investment. 21

22 Staying the course usually benefits investors There are three periods where municipal yields increased by at least 100 basis points in less than one year. We examined the total return of hypothetical $100,000 portfolios held for 3-, 6-, and 12-month periods following the spike. September and October 2008: the credit crisis and associated liquidity challenges. October 2010 to January 2011: heavy supply in the tax-exempt and Build America Bonds markets and elevated investor concerns over municipal defaults and bankruptcy due to an analyst s prediction (which proved to be highly inaccurate). May to September 2013: Investors reacted to the Federal Reserve s announcement to taper quantitative easing and the municipal market struggled due to elevated fund outflows, bankruptcy in the City of Detroit and concerns over Puerto Rico. Staying invested benefited investors through the recovery period: principal was recovered in a minimum of 3 months and a maximum of 12 months. Hypothetical examples are shown for illustrative purposes only and do not represent the performance of an actual portfolio. Individual investor results will vary. Different benchmarks and economic periods will produce different results. 22

23 Portfolios were eventually compensated for patience Missing even the first two weeks of a market rebound resulted in lower portfolio values. After yield spike Funds reallocated in 2 weeks Funds reallocated in 12 weeks Portfolio remained invested Funds reallocated in 4 weeks For an initial hypothetical investment of $100,000, in each period: First bar: reduction in principal value as yields spiked. Second bar: principal value if the portfolio had remained fully invested for the 12-month periods in 2008 and 2010/11 and Subsequent bars: value off of these lows if the investor reallocated funds 2 weeks, 4 weeks and 12 weeks after yields peaked. Period /09/2008 Sep /10/2008 Oct Period /10/2010 Oct /01/2011 Jan Period /05/2013 May - 05/09/2013 Sep $88,975 $106,588 $101,472 $99,500 $95,037 $93,543 $107,590 $106,038 $106,203 $104,498 $93,243 $102,902 $100,704 $100,297 $100,135 $0 $20,000 $40,000 $60,000 $80,000 $100,000 $120,000 Data source: Bloomberg L.P., 30 Sep Representative Index: Bloomberg Barclays Municipal Bond Index. Hypothetical examples are shown for illustrative purposes only and do not represent the performance of an actual portfolio. Individual investor results will vary. Different benchmarks and economic periods will produce different results. Index returns include reinvestment of income and do not reflect investment advisory and/or other fees that would reduce performance in an actual client account. All indices are unmanaged and unavailable for direct investment. Hypothetical results are no guarantee of future results. 23

24 Outlook Opportunities Municipal-to-Treasury ratios are elevated, and Treasuries are inexpensive compared to other sovereign debt Corporate-backed municipals are yielding more than equivalent taxable corporate bonds High yield municipal spreads remain wide, although total defaults have declined (excluding Puerto Rico) Lack of refunding supply will reduce 2018 issuance Fundamentals are strong, with credit rating upgrades exceeding downgrades Challenges Federal fiscal stimulus could lead to higher inflation Strong demand and weak supply could make municipals appear expensive for new money purchases The Fed may increase rates two or three times in 2018 on its path to normalization Pension funding remains the key issue affecting GO credits Certain statements may be deemed forward-looking statements. Please note that any such statements are not guarantees or intended to constitute a prediction of any future performance; actual results or developments may differ materially from those projected. Investing involves risk, including possible loss of principal. This information should not be relied upon as investment advice or recommendations. For additional information, please refer to Risks and Important Disclosures provided at the end of this presentation. 24

25 Appendix 25

26 High yield municipals outperformed in Bloomberg Barclays Municipal Index Returns 15% 12% 12.86% 9.69% 9% 7.47% 8.19% 6% 5.83% 3% 0.92% 3.14% 0% 1 Year 5 Year 10 Year 20 Year Long (22+) High Yield High Yield (ex Puerto Rico) Maturity/type Data source: Bloomberg L.P., 31 Dec Past performance is no guarantee of future results. Returns for the 1, 5, 10, 20 and 22+ year maturities are based on segments of the Bloomberg Barclays Municipal Bond Index: Bloomberg Barclays 1-Year Municipal Bond Index, Bloomberg Barclays 5-Year Municipal Bond Index, Bloomberg Barclays 10-Year Municipal Bond Index, Bloomberg Barclays 20-Year Municipal Bond Index, Bloomberg Barclays Long Bond Municipal Bond Index; High Yield by the Bloomberg BarclaysHigh Yield Municipal Bond Index. All investments carry a certain degree of risk, including possible loss of principal, and there is no assurance that an investment will provide positive performance over any period of time. High yield or lower-rated bonds and municipal bonds carry greater credit risk, and are subject to greater price volatility. Index returns include reinvestment of income and do not reflect investment advisory and other fees that would reduce performance in an actual client account. Indexes are unmanaged and unavailable for direct investment. 26

27 The way rates rise can determine how fixed income may react Since 1994, there have been three periods of increasing federal funds rates. PERIOD 1 04 FEB 1994 TO 01 FEB 1995 PERIOD 2 30 JUN 1999 TO 16 MAY 2000 PERIOD 3 30 JUN 2004 TO 29 JUN 2006 Starting rate level 3.00% 4.75% 1.00% Number of hikes Duration 12 Months 10 Months 24 Months Ending rate level 6.00% 6.50% 5.25% Magnitude 300 basis points 175 basis points 425 basis points Data sources: Bloomberg, Data shown applies to the actual time periods noted in the table. Past performance is no guarantee of future results. One basis point equals.01%, or 100 basis points equal 1%. Different benchmarks and economic periods will produce different results. All investments carry a certain degree of risk, including possible loss of principal, and there is no assurance that an investment will provide positive performance over any period of time. Each period has its own specific factors that may help or hurt the total returns of bonds. These may be economic in nature or technically driven. 27

28 The way rates rise can affect returns along the yield curve PERIOD 1 04 FEB 1994 TO 01 FEB 1995 PERIOD 2 30 JUN 1999 TO 16 MAY 2000 PERIOD 3 30 JUN 2004 TO 29 JUN 2006 Bloomberg Barclays Municipal Index 6-month return before Total return during Change in yields during 6-month return After Total return across three periods 6-month return before Total return during Change in yields during 6-month return After Total return across three periods 6-month return before Total return during Change in yields during 6-month return After Total return across three periods 1-year 2.45% 2.06% +204 bps 3.77% 8.50% 1.35% 3.11% +92 bps 2.99% 7.63% 0.28% 3.40% +188 bps 2.08% 5.85% 3-year 3.35% 0.70% +175 bps 5.22% 9.51% 0.66% 2.43% +80 bps 3.89% 7.12% -0.31% 3.46% +132 bps 2.57% 6.78% 5-year 4.38% -0.95% +152 bps 6.83% 10.45% -0.21% 1.90% +68 bps 5.02% 6.78% -0.90% 4.76% +77 bps 3.22% 7.16% 10-year 6.13% -3.49% +142 bps 8.55% 11.19% -1.73% 1.71% +53 bps 6.92% 6.87% -0.81% 7.81% +30 bps 4.77% 12.05% 20-year 6.53% -4.91% +128 bps 7.64% 9.03% -1.13% -1.04% +70 bps 8.85% 6.50% -0.18% 12.53% -20 bps 5.52% 18.53% 22+year 6.73% -6.21% +128 bps 8.29% 8.40% -1.68% -2.68% +75 bps 9.69% 4.95% -1.26% 15.93% -47 bps 6.17% 21.53% Yield curve flattened 76 bps Best performer: 10-year Yield curve flattened 17 bps Best performer: 1-year Yield curve flattened 235 bps Best performer: 22+ Data source: Bloomberg L.P. Past performance is no guarantee of future results. Representative Indexes: 1-Year Bonds: Bloomberg Barclays 1-Year Municipal Bond Index; 3-Year Bonds: Bloomberg Barclays 3-Year Municipal Bond Index; 5- Year Bonds: Bloomberg Barclays 5-Year Municipal Bond Index; 10-Year Bonds: Bloomberg Barclays 10-Year Municipal Bond Index; 20-Year Bonds: Bloomberg Barclays 20-Year Municipal Bond index; 22+-Year Bonds: Bloomberg Barclays Long Municipal Bond Index; Municipal Bond Market: Bloomberg Barclays Municipal Bond Index. Different benchmarks and economic periods will produce different results. Index returns include reinvestment of income and do not reflect investment advisory and/or other fees that would reduce performance in an actual client account. All indices are unmanaged and unavailable for direct investment. All investments carry a certain degree of risk, including possible loss of principal, and there is no assurance that an investment will provide positive performance over any period of time. Each period has its own specific factors that may help or hurt the total returns of bonds. These may be economic in nature or technically driven. 28

29 Staying the course usually benefits investors There are three periods where municipal yields increased by at least 100 basis points in less than one year. We examined the total return of hypothetical $100,000 portfolios held for 3-, 6-, and 12-month periods following the spike. September and October 2008: the credit crisis and associated liquidity challenges. October 2010 to January 2011: heavy supply in the tax-exempt and Build America Bonds markets and elevated investor concerns over municipal defaults and bankruptcy due to an analyst s prediction (which proved to be highly inaccurate). May to September 2013: Investors reacted to the Federal Reserve s announcement to taper quantitative easing and the municipal market struggled due to elevated fund outflows, bankruptcy in the City of Detroit and concerns over Puerto Rico. Staying invested benefited investors through the recovery period: principal was recovered in a minimum of 3 months and a maximum of 12 months. Hypothetical examples are shown for illustrative purposes only and do not represent the performance of an actual portfolio. Individual investor results will vary. Different benchmarks and economic periods will produce different results. 29

30 When rates rise, staying the course may be best Period 1: September October 2008 Principal was recouped and grown within 12 months of the yield spike. Yield curve change during yield spike period Value of a hypothetical $100,000 portfolio 9/12/2008 Sep /15/ Oct Change in market yields 1-year 5-year 10-year 22+ year Municipal bond market Yield 6% 5% 4% 3% 2% 1% Years to maturity Return following yield spike Yield spike 12 months 6 months 3 months Total returns $80,381 $99,042 $95,537 $90,618 $88,975 $91,672 $93,576 $102,056 $104,809 $103,410 $99,790 $102,692 $104,337 $102,556 $100,221 $104,055 $106,614 $106,551 $106,247 $106,588 $60,000 $70,000 $80,000 $90,000 $100,000 $110,000 Data sources: MMD Benchmark Yields for 1- to 30-Year AAA Rated Bonds and Bloomberg L.P., 31 Jul Representative Indexes: 1-Year Bonds: Bloomberg Barclays 1-Year Municipal Bond Index; 5-Year Bonds: Bloomberg Barclays 5-Year Municipal Bond Index; 10-Year Bonds: Bloomberg Barclays 10-Year Municipal Bond Index; 22+-Year Bonds: Bloomberg Barclays Long Municipal Bond Index; Municipal Bond Market: Bloomberg Barclays Municipal Bond Index. Hypothetical examples are shown for illustrative purposes only and do not represent the performance of an actual portfolio. Individual investor results will vary. Different benchmarks and economic periods will produce different results. Index returns include reinvestment of income and do not reflect investment advisory and/or other fees that would reduce performance in an actual client account. All indices are unmanaged and unavailable for direct investment. Hypothetical results are no guarantee of future results. 30

31 When rates rise, staying the course may be best Period 2: October 2010 to January 2011 Principal was recouped within 6 months with principal growth within 12 months of the yield spike. Yield curve change during yield spike period 12 10/12/2010 Oct /14/2011 Jan Change in market yields Value of a hypothetical $100,000 portfolio 1-year 5-year 10-year 22+ year Municipal bond market Yield 6% 5% 4% 3% 2% 1% 0% Years to maturity Return following yield spike Yield spike 12 months 6 months 3 months Total returns $99,986 $97,834 $94,626 $88,001 $93,543 $100,502 $99,210 $96,792 $92,009 $96,312 $101,048 $102,180 $101,017 $98,723 $100,585 $101,599 $105,656 $109,102 $109,060 $107,590 $60,000 $70,000 $80,000 $90,000 $100,000 $110,000 $120,000 Data sources: MMD Benchmark Yields for 1- to 30-Year AAA Rated Bonds and Bloomberg L.P., 31 Jul Representative Indexes: 1-Year Bonds: Bloomberg Barclays 1-Year Municipal Bond Index; 5-Year Bonds: Bloomberg Barclays 5-Year Municipal Bond Index; 10-Year Bonds: Bloomberg Barclays 10-Year Municipal Bond Index; 22+-Year Bonds: Bloomberg Barclays Long Municipal Bond Index; Municipal Bond Market: Bloomberg Barclays Municipal Bond Index. Hypothetical examples are shown for illustrative purposes only and do not represent the performance of an actual portfolio. Individual investor results will vary. Different benchmarks and economic periods will produce different results. Index returns include reinvestment of income and do not reflect investment advisory and/or other fees that would reduce performance in an actual client account. All indices are unmanaged and unavailable for direct investment. Hypothetical results are no guarantee of future results. 31

32 When rates rise, staying the course may be best Period 3: May 2013 to September 2013 Principal recouped within 12 months of the yield spike. Yield curve change during yield spike period Value of a hypothetical $100,000 portfolio 5/1/2013 May /5/2013 Sep 2013 Change in market yields 1-year 5-year 10-year 22+ year Municipal bond market Yield 5% 4% % % 1% % Years to maturity Return Following Yield Spike Yield spike 12 months 6 months 3 months Total returns $100,163 $97,500 $93,526 $88,464 $93,243 $100,438 $99,538 $96,000 $91,838 $95,820 $100,699 $101,420 $99,143 $96,537 $98,998 $101,020 $102,562 $102,811 $103,101 $102,902 $60,000 $70,000 $80,000 $90,000 $100,000 $110,000 Data sources: MMD Benchmark Yields for 1- to 30-Year AAA Rated Bonds and Bloomberg L.P., 31 Jul Representative Indexes: 1-Year Bonds: Bloomberg Barclays 1-Year Municipal Bond Index; 5-Year Bonds: Bloomberg Barclays 5-Year Municipal Bond Index; 10-Year Bonds: Bloomberg Barclays 10-Year Municipal Bond Index; 22+-Year Bonds: Bloomberg Barclays Long Municipal Bond Index; Municipal Bond Market: Bloomberg Barclays Municipal Bond Index. Hypothetical examples are shown for illustrative purposes only and do not represent the performance of an actual portfolio. Individual investor results will vary. Different benchmarks and economic periods will produce different results. Index returns include reinvestment of income and do not reflect investment advisory and/or other fees that would reduce performance in an actual client account. All indices are unmanaged and unavailable for direct investment. Hypothetical results are no guarantee of future results. 32

33 Municipal bonds have historically defaulted at rates lower than equivalently rated corporates Moody s average cumulative default rates, , municipals vs. Corporates 1 5 YEAR HISTORY 10 YEAR HISTORY Rating Corporate Municipal Difference Corporate Municipal Difference Aaa Aa A Baa Ba B Caa-C 0.09% 0.00% 0.09% 0.38% 0.00% 0.38% 0.30% 0.01% 0.29% 0.78% 0.02% 0.76% 0.77% 0.03% 0.74% 2.22% 0.07% 2.15% 1.63% 0.16% 1.47% 3.93% 0.40% 3.53% 8.39% 2.34% 6.05% 16.28% 4.23% 12.05% 21.90% 12.43% 9.47% 36.17% 17.77% 18.40% 35.59% 20.26% 15.33% 50.31% 26.41% 23.90% 1 Special Comment: U.S. Municipal Bond Defaults and Recoveries, , Moody s Investors Service. The universe represents 16,000 bonds rated by Moody s in this study. Past performance is no guarantee of future results. 33

34 Correlation with high yield municipals is low Municipal high yield bonds tend to be less cyclical than corporate bonds due to the essential, public purpose which is often involved. This helps to explain the low correlations. CORRELATION MATRIX: 1 JUL DEC 2017 Bloomberg Barclays High Yield Muni Bloomberg Barclays High Yield Muni 1.00 Bloomberg Barclays U.S. Corporate High Yield Bloomberg Barclays U.S. Aggregate Bond Bloomberg Barclays U.S. Municipal Bond Bloomberg Barclays U.S. Corporate Investment Grade Bloomberg Barclays U.S. Treasury Long Bloomberg Barclays Global Ex U.S. Treasury Bond Bloomberg Barclays Asset Backed Securities Bloomberg Barclays MBS (fixed rate) Bloomberg Barclays Emerging Market S&P 500 Bloomberg Barclays U.S. Corporate High Yield Bloomberg Barclays U.S. Aggregate Bond Bloomberg Barclays U.S. Municipal Bond Bloomberg Barclays U.S. Corporate Investment Grade Bloomberg Barclays U.S. Treasury Long Bloomberg Barclays Global Ex U.S. Treasury Bond Bloomberg Barclays Asset Backed Securities Bloomberg Barclays MBS (fixed rate) Bloomberg Barclays Emerging Market S&P Data source: Morningstar Direct, 01 Jul Dec Past performance is no guarantee of future results. Correlation is a statistical measure of how two securities move in relation to each other. Perfect positive correlation (a correlation co-efficient of +1) implies that as one security moves the other security will move in lockstep, in the same direction. Alternatively, perfect negative correlation (a correlation co-efficient of -1) means that securities will move by an equal amount in the opposite direction. If the correlation is 0, the movements of the securities are said to have no correlation; their movements in relation to one another are completely random. For a full description of the indices identified on this page, please refer to the end of this presentation. High yield or lower-rated bonds and municipal bonds carry greater credit risk, and are subject to greater price volatility. Additional risks are disclosed at the end of this presentation. 34

35 Chapter 9: municipal distress is not the same for all bondholders BEST OUTCOME FOR BONDHOLDERS WORST Central Falls, RI Harrisburg, PA American Airlines Jefferson County, AL Detroit Water & Sewer Central Falls makes bondholders top priority Harrisburg avoids BK with State support American Airlines airport facility leases held value Enterprise revenue bonds were deemed secure in the Jefferson County case Detroit W/S bondholders received par value in a tender offer made by the city Vallejo, CA San Bernardino, CA Detroit Unlimited Tax GO CalPERS remains an issue Some selective defaults; others paid in full Detroit unlimited tax GO bond holders received $0.74 Detroit COP Stockton COP $0.34 recovery rate for Detroit Ltd Tax GO 14% recovery rate for Detroit Annual Appropriation Debt Stockton s Capital Improvement Lease Revenue Bonds have an estimated recovery rate of 11% PAR VALUE AFFECTED ~$12 billion ~ less than $1 billion ~ less than $2.6 billion Certificate of Participation (COP) is a type of financing where an investor purchase a share of lease revenues rather than a bond being secured by those revenues. 35

36 Puerto Rico bonds have underperformed the broad municipal market Losses since 2013 have diminished prior returns Cumulative Return $1.8 $1.6 $1.4 $1.2 $1.0 $0.8 April 2010 Moody s upgrades Puerto Rico to A3 from Baa3 February 2014 S&P/ Moody s downgrade Puerto Rico to below investment grade S&P Municipal Bond Puerto Rico Index S&P Municipal Bond Index S&P Municipal Bond High Yield Index $ Data source: Morningstar, 01 Oct Dec Past performance is no guarantee of future results. Nuveen Asset Management internally downgraded Puerto Rico bonds in September High yield or lower-rated bonds and municipal bonds carry greater credit risk, and are subject to greater price volatility. Credit ratings are subject to change. AAA, AA, A and BBB are investment grade ratings; BB, B, CCC, CC, C and D are below-investment grade ratings. Indices are unmanaged and unavailable for direct investment. 36

37 Risks and Important Disclosures Clients should consult their financial advisors regarding unknown financial terms and concepts. This information is intended for use by clients with their financial advisors. Clients should consult their financial advisors before making any investment decisions. Financial advisors should consider the suitability of the manager, strategy and program for its clients on an initial and ongoing basis. This material is not intended to be a recommendation or investment advice, does not constitute a solicitation to buy or sell securities, and is not provided in a fiduciary capacity. The information provided does not take into account the specific objectives or circumstances of any particular investor, or suggest any specific course of action. Investment decisions should be made based on an investor s objectives and circumstances and in consultation with his or her advisors. Past performance does not guarantee future results. Charts are for illustrative purposes only and do not reflect any Nuveen investment. A WORD ON RISK All investments carry a certain degree of risk, including possible loss of principal, and there is no assurance that an investment will provide positive performance over any period of time. Debt or fixed income securities are subject to credit risk, market risk and interest rate risk. The value of and income generated by debt securities will decrease or increase based on changes in market interest rates, the credit quality of issuers and general economic and market conditions. As interest rates rise, bond prices fall. Credit risk refers to an issuer s ability to make interest and principal payments when due. High yield or lower rated bonds carry heightened credit risk and potential for default. Investors investing in municipal securities should contact their tax advisor regarding the suitability of tax-exempt investments in their portfolio. Nuveen is not a tax advisor. If sold prior to maturity, municipal securities are subject to gain/losses based on the level of interest rates, market conditions and the credit quality of the issuer. Income may be subject to the alternative minimum tax (AMT), and in some cases other federal income taxes, and/or state and local taxes, based on state of residence. Income from municipal bonds held by a portfolio could be declared taxable because of unfavorable changes in tax laws, adverse interpretations by the Internal Revenue Service or state tax authorities, or noncompliant conduct of a bond issuer. The statements contained in this presentation are the opinions of Nuveen Asset Management, LLC and data available at the time of publication. It contains information from third party sources believed to be reliable but are not guaranteed as to accuracy and not intended to be all inclusive. It does not constitute an offer, solicitation, or recommendation regarding securities or investment strategy and is not intended to predict or depict performance of any investment. Hypothetical examples are shown for illustrative purposes only and do not represent the performance of an actual portfolio. Individual investor results will vary. Different benchmarks and economic periods will produce different results. Clients should consult their professional advisors before making any tax or investment decisions. This presentation should not be regarded by recipients as a substitute for the exercise of their own judgment. This presentation contains numerous assumptions. Different assumptions could result in materially different results. Nuveen Asset Management, LLC is a registered investment adviser and an affiliate of Nuveen LLC. 37

38 Index Definitions The Municipal Market Data 10- and 30-year insured scales are compilations of the previous day s actual trades for AAA-rated 10- and 30-year insured bonds, respectively. The Bloomberg Barclays 1-Year Municipal Bond Index measures the returns of general obligation bonds, revenue bonds, insured bonds and pre-refunded bonds, all in the maturity range of 1 to 2 years. The Bloomberg Barclays 3-Year Municipal Bond Index measures the returns of general obligation bonds, revenue bonds, insured bonds and pre-refunded bonds, all in the maturity range of 2 to 4 years. The Bloomberg Barclays 5-Year Municipal Bond Index measures the returns of general obligation bonds, revenue bonds, insured bonds and pre-refunded bonds, all in the maturity range of 4 to 6 years. The Bloomberg Barclays 10-Year Municipal Bond Index measures the returns of general obligation bonds, revenue bonds, insured bonds and pre-refunded bonds, all in the maturity range of 8 to 12 years. The Bloomberg Barclays 20-Year Municipal Bond Index measures the returns of general obligation bonds, revenue bonds, insured bonds and pre-refunded bonds, all in the maturity range of 17 to 22 years. The Bloomberg Barclays Asset Backed Securities Index has three subsectors: credit and charge cards, autos and utility. The index includes pass-through, bullet and controlled amortization structures. It includes only the senior class of each ABS issue and the ERISA-eligible B and C tranche. The Manufactured Housing sector was removed as of January 1, 2008, and the Home Equity Loan sector was removed as of October 1, The Bloomberg Barclays Emerging Market Index is an unmanaged index of fixed and floating rate USD-denominated debt from emerging markets in the Americas, Europe, Middle East, Africa and Asia. The Bloomberg Barclays Municipal Bond Index covers the USD-denominated long-term taxexempt bond market. The index has four main sectors: state and local general obligation bonds, revenue bonds, insured bonds and pre-refunded bonds. The Bloomberg Barclays Municipal Short Index is a rules-based, market-value weighted index comprised of publicly traded municipal bonds that cover the U.S. dollar denominated short-term tax-exempt bond market, including state and local general obligation bonds, revenue bonds, insured bonds and pre-refunded bonds The Bloomberg Barclays Long Municipal Bond Index measures the returns of general obligation bonds, revenue bonds, insured bonds and pre-refunded bonds, with maturities of more than 22 years. The Bloomberg Barclays U.S. Aggregate Bond Index represents securities that are SECregistered, taxable and dollar denominated. The index covers the U.S. investment grade fixed rate bond market, with index components for government and corporate securities, mortgage passthrough securities and asset-backed securities. The Bloomberg Barclays U.S. Corporate High Yield Index measures the market of USDdenominated, non-investment grade, fixed-rate, taxable corporate bonds. Securities are classified as high yield if they fall within the middle rating of Moody s, Fitch and S&P is Ba1/BB+/BB+ or below. The index excludes emerging market debt. The Bloomberg Barclays U.S. Corporate Investment Grade Index includes publicly issued U.S. corporate and specified foreign debentures and secured notes that meet the specified maturity, liquidity and quality requirements. To qualify, bonds must be SEC-registered. Securities must be an investment grade credit security. The Bloomberg Barclays U.S. Government/Credit 1-3 Year Index includes all medium and larger issues of U.S. government, investment-grade corporate, and investment-grade international dollardenominated bonds that have maturities of between 1 and 3 years and are publicly issued. The Bloomberg Barclays Global Aggregate Unhedged Index measures the performance of global bonds. It includes government, securitized and corporate sectors and does not hedge currency. The Bloomberg Barclays High Yield Corporate Bond Index is an unmanaged index considered representative of non-investment-grade bonds. The Bloomberg Barclays High Yield Municipal Bond Index is an unmanaged index composed of municipal bonds rated below BBB/Baa. 38

39 Index Definitions The Bloomberg Barclays U.S. Government/Credit Intermediate Index measures the performance of U.S. dollar denominated U.S. Treasuries, government-related and investment grade U.S. corporate securities that have a remaining maturity of greater than one year and less than ten years. The Bloomberg Barclays U.S. High Yield 2% Issuer Capped Index tracks the performance of U.S. noninvestment-grade bonds and limits each issue to 2% of the index. The Bloomberg Barclays U.S. Mortgage-Backed Securities (MBS) Index covers agency mortgagebacked pass-through securities (both fixed-rate and hybrid ARM) issued by Ginnie Mae (GNMA), Fannie Mae (FNMA) and Freddie Mac (FHLMC). The Bloomberg Barclays U.S Year Treasury Bond Index measures the performance of U.S. Treasury bonds with 10 to 20 years until maturity. The Bloomberg Barclays U.S. 20+ Year Treasury Bond Index measures the performance of U.S. Treasury bonds with more than 20 years until maturity. The Bloomberg Barclays Ex U.S. Treasury Bond Index includes public obligations of the U.S. Treasury with a remaining maturity of one year or more. Securities must be a U.S. Treasury security to be included. The Bloomberg Barclays U.S. Treasury Index includes public obligations of the U.S. Treasury. Treasury bills are excluded by the maturity constraint but are part of a separate Short Treasury Index. In addition, certain special issues, such as state and local government series bonds (SLGs), as well as U.S. Treasury TIPS, are excluded. STRIPS are excluded from the index because their inclusion would result in double-counting. The Bloomberg Barclays U.S. Treasury Long Index includes securities in the long maturity range of the U.S. Treasury Index. Securities must have a maturity of 10 years or more. The U.S. Treasury Index represents public obligations of the U.S. Treasury with a remaining maturity of one year or more. The BofA Merrill Lynch U.S. Corporate, Government and Mortgage Index is a broad-based measure of the total rate of return performance of the U.S. investment grade bond markets. The Index is a capitalization weighted aggregation of outstanding U.S. treasury, agency and supranational, mortgage pass-through, and investment grade corporate bonds meeting specified selection criteria. The MSCI EAFE Index is composed of all the publicly traded stocks in developed non-u.s. Markets. The MSCI EAFE Index consists of the following 22 developed market country indices: Australia, Austria, Belgium, Denmark, Finland, France, Germany, Greece, Hong Kong, Ireland, Israel, Italy, Japan, the Netherlands, New Zealand, Norway, Portugal, Singapore, Spain, Sweden, Switzerland and the United Kingdom. The MSCI Emerging Markets Index is a free float-adjusted market-capitalization-weighted index that is designed to measure equity market performance of emerging markets. The MSCI Emerging Markets Index consists of the following 21 emerging market country indices: Brazil, Chile, China, Colombia, Czech Republic, Egypt, Hungary, India, Indonesia, Korea, Malaysia, Mexico, Morocco, Peru, Philippines, Poland, Russia, South Africa, Taiwan, Thailand, and Turkey. The S&P 500 Index is a capitalization-weighted index of 500 stocks designed to measure the performance of the broad domestic economy. The S&P Municipal Bond Index is an unleveraged, market value weighted index designed to measure the performance of the investment-grade municipal bond market. The S&P Municipal Bond High Yield Index consists of bonds in the S&P Municipal Bond Index that are not rated or are rated below investment grade. The S&P AAA Municipal Bond Index is a market value-weighted benchmark index designed to measure the performance of bonds rated AAA by S&P. The S&P BBB Municipal Bond Index is a market value-weighted benchmark index designed to measure the performance of bonds rated BBB by S&P. GPP-MMUPD-1217P AWC-M-02/18 39