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Tale of Two Curves

We have an interesting divergence between the U.S. Treasury bond market and yield curve and the municipal tax-exempt bond market and yield curve. We can compare the U.S. Treasury curve to a very recent sale of Allegheny County general obligation bonds and we see some startling differences, and conclude that either U.S. Treasuries are now too rich (low in yield) or Municipals are screaming, “Buy me!” The spread between the 10-year and 30-year Treasury is just 14 basis points (0.14%) being a 2.84% and a 2.98% respectively, but we turn our attention to the Allegheny County G.O. bonds the spread between the 10 and 25 year maturities is a full 150 basis points (1.50%), 10-times more in yield. The 10-year maturity on Allegheny County was sold yielding 2.80% and the 2043 maturity was sold yielding 4.09% to maturity.

Allegheny County is rated by Moody’s Aa-3 and Stand & Poor’s AA- so the strength of the County isnt exactly as strong as the U.S. Federal Government but its arguably stronger than a similarly rated corporate bond. Its important to know that the yield on the ten-year in each sector was virtually the same, as 2.80% vs. a 2.84% but when the curve moves into longer maturities it takes a different path. The curve on the Allegheny County bonds continues its upward slope while the Treasury curve flattens. Its also important to remind ourselves that the Allegheny County bonds yield is tax-exempt at the state and Federal level. So in 25-years you can get a 4.09% tax-exempt yield (in agency trades) but only 2.98% in a 30-year investment in Treasuries.

We also have to observe that U.S. Treasuries are “non-callable” and most municipals maturing past 10-years are callable. In the case of Allegheny County the bonds are callable in 2028 (10-years) and most bonds sold past 10-years were sold with higher coupons resulting in premiums and premium bonds must be calculated to the call and premium bonds produce higher yields to maturity.

The choice is clear, municipal bonds have many advantages over Treasuries and yield is certainly one in the belly of the curve and longer, and in premium bonds. When making a decision always compare yields and always look at the curve.

DISCLAIMER: This report is based on data obtained from sources we believe to be reliable. Hefren-Tillotson does not, nor any other party, guarantee the accuracy or completeness of this report or make any warranties regarding results obtained from its usage. All opinions and estimates included in this report constitute the firms judgement as of the date of this report and are subject to change without notice. This report is for informational purposes only and is not intended as an offer or solicitation to buy or sell the securities herein mentioned.

Timothy Davis
Director of Fixed Income

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