Matthew McQueen, Head of Municipal Banking and Markets and Global Mortgages within the Global Markets business at Bank of America, sits down with Bond Buyer Executive Editor Lynne Funk to talk about getting deals done amid an uncertain global macroeconomic landscape.
Transcription:
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Lynne Funk (00:09):
Hello everyone. Welcome. Welcome to this Bond Buyer Leaders Program. I'm Lynne Funk, executive editor at The Bond Buyer, and today I am delighted to welcome Matthew McQueen, who is head of municipal banking and markets and global mortgages within the global markets business at Bank of America. Matt, he leads trading and origination for residential mortgage backed, asset backed and commercial mortgage backed securitization as well as municipal securities and public sector banking. Matt also serves as co-chairman of the firm's Enterprise Volker Committee, co-chairman of the Market Conduct Trade Surveillance Forum, co-chairman of the Market Misconduct Council, and is a member of the Global Compliance and Operational Risk Committee. Previously he was head of mortgage and securitized product trading, and prior to that he headed various trading desks in the mortgage department. Matt joined Merrill Lynch in 2008 from Bear Stearns. So Matt, welcome. It's so great to have you.
Matthew McQueen (01:09):
Well, great, thanks Lynne. I really, I'm really excited to be here and look forward to this conversation and answering any questions that you and others may have. So thank you again.
Lynne Funk (01:23):
Awesome. So great to have you. So let's just get into it. We'll start off here. We came into this new year with expectations for multiple Fed cuts and slower but still solid economic growth. Now we're in September and we await the Fed meeting in just less than two weeks, and maybe we'll finally get that first rate cut. Perhaps you could kick things off with a bit of a macroeconomic picture as you and BofA see it as we head into the last four months of 2024.
Matthew McQueen (01:55):
Sure, absolutely. Well, right now our research department is calling for a 25 basis point cut in September and a 25 basis point cut in December. Now if you look at the market, there's about a 100 basis points of cuts priced in between now and the end of the year. So the market is definitely ahead of that forecast. And you think about where we've gone over the course of the year, and you alluded to this, right, coming into the year rates were rates low. We came into the year close to about a 3.80% 10-year note, and now we're at a 3.74% as of today and we're at the lows of the year. And the better part of this year has been, I think, really strong economic data pushing out what we're expected cuts.
(02:49):
I think that has started to cool a bit in the last two months and we're starting to see not just the inflation data cooling, but we're starting to see some weaker-than-expected payroll numbers, some weaker-than-expected unemployment data. And so the market is really right now signaling that the Fed is done cutting. I think the Fed has all but signaled that they are done hiking, excuse me. And I'm thinking about cutting and I think the Fed is sticking with the same. And so really where we want to think about things is how weak is the economic data and is this really going to be a soft landing or is there something out on the horizon? I think that talking a little bit about the market, having a hundred basis points of cuts priced in, it kind of tells you that there's something more negative on the horizon in terms of whether it's credit performance or other economic data out there. And so look, we have a payroll number tomorrow that could be a very important number for determining whether or not we see the Fed cut and how much they cut between now and the end of the year. But that's the story right now.
Lynne Funk (04:06):
Great. So can you maybe drill down then into Munis, which this audience cares deeply about. Would you call this current market a rates driven one for municipal, particularly driven by U.S. Treasuries? I mean, munis have been underperforming US Treasuries of late and corporates. How do you see the current muni yields on a relative value to US treasuries and corporates?
Matthew McQueen (04:30):
Sure. So the dynamics of the rate market has certainly played into muni valuation, particularly over the course of the last three years. And the dynamic that we've been in, and this isn't just been in municipals but in broader parts of fixed income, is you've had a very high overnight rate and that has incentivized a lot of people to leave their money at the front end of the curve to leave their money in cash. And you've had that inverted dynamic where it's very tempting to stay at the front end. And so with the curve inverted, there's been less yield at the curve. And so that's generally speaking, when we were in the hiking cycle in 2022, put a lot of pressure on bond spreads and on bond yields as people sold fixed income in anticipation of the various Fed hikes. I think that there's been a lot of value in the market over the last two years for all parts of fixed income just given that for various spread products, whether it's investment grade corporate bonds or high grade mortgage-backed securities that you could pick up at various points in time, particularly when we were at a four and a quarter, four and a half percent 10-year note, you could pick up positive carry to that overnight rate.
(06:00):
So the period of the Fed, not hiking, but not cutting led to a lot of opportunities for value. Munis are really no different when you look at them on a tax-adjusted basis over the course of 2023 and 2024, they tended to offer really good value versus the front end, particularly when you get to that kind of four and a quarter, four point a half percent tenure note. Now obviously we're at a lower absolute level of rates, but there is still real incremental value there, particularly for individual investors that are buying in particular states where they have various triple tax advantages, et cetera. I think in terms of value right now and in terms of relative value, I think that across the board spread products and munis look good relative to treasuries particularly, especially where you're, you may be investing in certain regions for various muni bonds ratios. To your point, we've seen ratios at various points be tighter on the year. They certainly look tight by various historical standards, but they've definitely gotten to more attractive levels over the last handful of weeks as the rate market has rallied and supply has kind of hit the market. And so I think there are also interesting entry points here given where ratios are particularly at the 10-year and out part of the curve.
Lynne Funk (07:48):
Okay, so let's talk a bit about, we go from yield to talk about ratios. Muni ownership, certainly it's primarily led by retail, but we've really seen some shifts out of mutual funds into SMAs in particular ETFs. The concentration of retail has kind of shifted too. So I guess the first question I have is do you expect SMA growth to continue and how do you see SMA growth affecting this market? So particularly, I think SMAs have led right to a lot of short end investment at this point.
Matthew McQueen (08:25):
Sure. So I think that you hit a couple things. Obviously the buyer base for the muni market in the end state is largely retail. I mean obviously that's who has the various tax needs to buy municipal bonds. It's really what's evolving is how individuals are evolving and how they're accessing the market. So if we think about where things were even going back 25 years ago, 35 years ago, you have the sort of traditional model with the financial advisor individually, individually selecting municipal bonds for their clients. And what's changed a lot, you talk a lot about SMA is there's obviously a lot of technology that allows people to more seamlessly access portfolios of bonds, but also the retail models changed a lot. So over the last 30 years, we've seen a real move in various retail platforms from the brokerage commission model to the fee-based model.
(09:44):
And that's something that continues to to trend in that direction. And so with that, you have fee compression overall, but also you don't have that individual bond selection framework that maybe was as prevalent 30 years ago. And so when the fee structure of the retail business has changed, that's more incentivizing people to go into SMAs, right? So if you're not being compensated necessarily on a bond by bond selection basis, if you're being compensated on an assets under management basis, why not spend an even smaller amount of that fee and go to someone who can put together a portfolio of 30 different CUSIPs, a hundred different QIPs that provides diversification that can get you that individual, that targeted duration and yield and all of those things. And given where we are with portfolio construction today, very easily you can access the market and put together those portfolios. So I think that there's definitely been a real shift in electronification and the ability to construct these portfolios in the SMA space, but I think a lot of that's driven by just a broader shift in the way the retail platforms operate. So I do think SMA growth is going to continue given those various trends.
Lynne Funk (11:33):
So how much do you think this effect is having on muni bond mutual funds? There's been, I think, well today we'll find out from Lipper what their flows are like, but last week it was over a billion some inflows there. Do you think that retail might shift further out the curve, particularly as interest rates fall? When they fall?
Matthew McQueen (11:55):
So I think that mutual bond funds are, I think, again, sort of a product that again is, if you think about the shift in retail and wealth compensation over the last 30 years, mutual funds were certainly another way of accessing a portfolio of muni bonds that wasn't a commission-based way to do it. And so I think that there still is a lot of value in municipal mutual funds for investors given that they can get a diversified portfolio of municipal bonds, they could target various durations, various regions. And so I think that that's another tool for financial advisors and for other investors to access that market that in a lot of ways offers a lot of the same value as SMAs, right? I mean there's certainly differences between the two, but both involve getting access to a diversified portfolio of securities in a generally speaking lower fee structure.
(13:13):
So I think that given rates still being at a relatively higher level, I still think we're going to continue to see good demand for municipal bond mutual funds, municipal bond ETFs. I mean, I think overall, one of the things that in fixed income we experience is for 15 years we dealt with effectively 0% short-term interest rates and that compressed yields across the board. And so the overall value proposition to invest in fixed income, whether it was at the taxable level or at the tax-exempt level, it sort of got crowded out by growth equities and other opportunities we're in a period now where even if the fed cuts, I mean if they cut a hundred basis points, we're still at a 4.35%, 4.25% FR rate. I mean there's still a lot of yield in fixed income versus historicals. And so I still think there's going to continue to be a lot of value in bonds.
(14:18):
Now to your question, if interest rates do fall, are investors going to shift out the curve? I mean, I think there's always that reaction, especially when I talked earlier about the amount of money that has stayed in the front end. As soon as the Fed starts to signal that they're going to cut, right, you're going to start to see people recognize that maybe it's not as appealing to sit in the front end and you will start to see people want to lock in some duration if they think that we're in a cutting cycle. And so I do think you'll start to see investors move out the curve. How far they move out the curve I think will really depend on how much the Fed's cutting and why they're cutting, right? Because if the Fed is cutting, if a hundred basis points between now and the end of the year, which I don't know, I necessarily subscribe, to me that's more indicative of really weak economic data.
(15:16):
And with weak economic data, I think you might start to see credit weakness, whether that's in various parts of the corporate market or other. And so in that scenario, while people want duration, credit becomes more of a sensitivity. And so our people or as quick to go out the curve if they feel that there's potentially credit issues out there. So I don't think that we'll see credit issues in the muni market so to speak, but other parts of the spread market, I think if the fed's cutting a hundred basis points that indicates that there's probably some spread volatility somewhere in the market.
Lynne Funk (15:56):
Great. So I did want to talk about muni credit, but I think before we get there, you mentioned technology in driving some of the changes and the shifts in how muni ownership has changed through SMAs. Can you talk a little bit about what you at BofA have done internally externally to adapt to changes in technology to be more efficient, effective?
Matthew McQueen (16:20):
Sure. So look, I think we've, and most of the folks listening are obviously familiar with the various dynamics of the market being a largely retail driven market in its end state that historically has always meant relatively smaller ticket sizes at the end. Although if you think about the growth of SMAs right now, you're actually, if your institutional buyers are looking to acquire CUSIPs for much smaller, much smaller sizes. And so I think what we're starting to see and what I think will continue to evolve is the individual ticket size of the market will continue to shrink, but the overall volume will stay high. And so what really comes down to how do you process all of this volume at a higher trade count through the market?
(17:27):
The answer to that is not to hire 50 more traders to trade every small bond out there. We need to leverage technology to think about how we manage that in the market. And it really comes in two parts. So the first part is really making sure that we have all of the various technology, and I'll call it intake valves to make sure that we're meeting every client where they are. So there's a lot of different types of clients out there. We have institutional asset managers, we have retail investors who we serve and how do we touch all these clients and do they all come to us through different ways? So we need to make sure that we're getting all of that trade inquiry, whether it's bid wanteds or offers wanted, and getting into one centralized place where we can synthesize it and provide the most competitive bits to our clients and the most competitive offers to our clients.
(18:32):
And so having a technology that synthesizes all of that is really important. So we're investing heavily in our own platforms or Mercury platform, our liquidity hub platform, as well as linking with various clients to their direct connects so that they can access our information directly and effectively making sure that everyone has full access to our inventory, our bids, and the depth of the market. So that's one is sort of getting everything there and we continue to, we're constantly working at making sure that everyone has access to our trading desk. And then the next part of it is focusing on algorithmic trading, focusing on our pricing model. So we do have auto pricers, we do have algorithmic trading for handling what are large trade counts. What we are obviously focused on doing is improving every aspect of that technology to make sure that we can provide more competitive bids to our clients, more competitive offers to our clients, which includes obviously getting our hit rate up, being in the position to bid every bond out there that clients want bids on, being able to have more offers and being able to turn through the market.
(20:05):
And so we've made a lot of investments over the last couple of years. We continue to see our market share volumes increase. We have a top market share among our peers and we want to continue to grow that market share and reinvest our resources into our technology. And this also, it's not about having fewer traders from here, but it's really giving our traders the time and latitude to focus on larger institutional transactions, more complex credits, more complex capital structure so that we can again be even more impactful for various more strategic uses of capital and balance sheet.
Lynne Funk (20:54):
Okay, thanks. I think you mentioned your B of A's sort position in the market, but before we get to sort of issuance, I really want to talk about that. I think that's been driving so much of the discussion in Munis is the increase in issuance. Before we go there though, I do want to go back to credit high yields outperformed investment grade throughout this year. Do you anticipate that to continue, particularly if rates fall further? And the second part of that question is I guess we could talk about sectors. Do you have any concerns? Are you bullish on any?
Matthew McQueen (21:37):
Sure. So high yield in general, whether it's municipal high yield or just broader taxable credit to your point, it's had a great run. It's had really great performance in that subsequent to the hiking cycle of 2022, we've had really great strong economic data and generally speaking, low rate volatility. And that has been a recipe for real spread compression. And so that's kind of been the story. Do I think it will continue? This is a little cliche it will until it doesn't. I think that we see the market reacting a little bit to the idea that the Fed will cut rates and generally speaking, not always, but generally speaking, the market reacts favorably to lower rates. I keep going back to if we think that the fed's really cutting a hundred basis points between now and the end of the year, then that's got to be indicative of seeing something that is maybe alarming in broader credit performance.
(22:55):
And so if rates are really falling rapidly, my gut is that there's something going on in credit performance and then you would probably see spread start to widen out if it was a real risk off scenario, which is what I think has to happen to kind of see the rate cuts that are being talked about. But that's kind of where I think about broader credit in terms of credit concerns specific to municipal credit and the municipal market, the short answer is no. I don't think that there are large credit concerns looming in the municipal market. I think that there are certainly areas of credit and leverage credit away from the municipal market that would likely experience significant disruption well before there's ever disruption in the broader muni markets. If you look at the larger sectors, just various state credits, I mean look, overall the states and various municipalities are, while we're off the covid stimulus peaks in terms of cash and surplus, they're still in decent shape.
(24:24):
Their ability to grow revenue is there, their ability to raise revenue is there. The overall economic picture has not deteriorated. And so when you think about what makes up the broad part of the market, it's really hard to point to something that has real concerns. Now look, there are small pockets within the market that do have the secular issues. Are these material to the overall market? No, but there are things that have stories which have been fairly well documented in the press. Things like the small private colleges is like a subset that has secular issues, rural healthcare and small project healthcare has had some secular issues. I think we've cited some potential in some of the tobacco securitizations from a performance perspective as the rates of the smoking rates I think have come down more precipitously than was anticipated. But those are small sectors of the market. Broadly speaking, I think the credit picture for municipal credit right now is very strong and frankly stronger than other markets.
Lynne Funk (25:51):
Great. Okay. Let's get into issuance for a second for a couple minutes. You at B of A revised your full year gross issuance forecast from initially it was 400 to now four 60 August, we just come out almost 50 billion in issuance, which is I believe a record for the month dating back to at least 1986 and at the end of August, muni issuance totals, it's at nearly 335 billion, about 34% increase year over year. What are your overall thoughts on muni supply? Does this trend continue giving the backlog of infrastructure needs facing the us?
Matthew McQueen (26:35):
Sure. So I think the drivers of muni supply this year, and I think you highlighted that we're up 34% year to date. There's really a couple things that I point to that have driven it. So one overall lower rate volatility and a stable rate framework. So if we think about 2022 was a hiking year, 2022 had a lot more rate volatility as people as issuers think about coming to the market. Many think about that three months out, six months out. And so there was probably a little bit more reticence coming into 2023 given what we'd seen in 20 22, 20 23. Obviously a stable rate environment rate vault coming down, I think that got a lot more issuers comfortable to bring more issuance into 2024. So low rate volatility, stable rate environment I think has been one of the most constructive reasons. To your point, also, infrastructure needs continue to continue to grow, and I think that's another reason why we're seeing more issuance this year.
(27:57):
I think a narrative out there that part of why we're up so much year to date is that there's been a little bit of frontloading of issuance prior to the election. I'm not so sure that's as big of a driver as the narrative has led on. I think it really is more the rate environment than followed by overall infrastructure needs. And I think as you look out to 2025, while it's certainly early to tell, I think we could be setting up for another year of strong issuance growth, right rates, if anything as of now I think are likely to be lower. So that's likely to drive more refinancing, likely to drive more borrowers into the market. That's again, probably the biggest driver. And then again, infrastructure will continue to be a need and we're seeing that in a lot of places. But then also look, state revenue growth is slowing. I talked about this a little bit when we think about the credit environment. And so that potentially means the need to borrow more to manage budget deficits or other various revenue gaps. And so I think that's another area where we could see some drivers of the increase as well.
Lynne Funk (29:25):
Some folks in the industry say right now, if you're an issuer, rates are still historically low, and you think about some of the needs that are out there that really might behoove them to jump in. You mentioned the election, you mentioned frontloading issuance. Do you have any, what do you think on impacts on the election, not necessarily who will win or lose, but broadly sort of expectations on how the meeting market at large is affected?
Matthew McQueen (29:58):
Sure mean before, I think that we are going to start to see more narrative around tax policy. And obviously that translates to what we think can happen in the municipal market. I'm not entirely sure that we're going to see any large impacts from the various proposals or the various conversations that come out, but I do think as the election cycle picks up, you're going to start to see more conversations about various tax increases potentially. There's been some, I would say relatively, I think they're very, very low probability events, but there's conversations about the municipal tax exemption and there's been some articles written about that and various think tanks that have latched onto that. I think that the news cycle could pick up where there starts to be a bit more noise around the space, how much of that really, really translates into the market remains to be seen.
Lynne Funk (31:22):
Okay. In terms of deals, have there been any deals that B of A has been involved in that are particularly important to note both as being done or as potential for other issues to keep an eye on?
Matthew McQueen (31:36):
Look, without mentioning specific transactions, I think in a testimonial for our business us, we continue to strive to be a market leader across all various sectors. So whether that is being a leader in the competitive market, which we've been a leader in the competitive market for well over 20 years, and that's a business that we allocate considerable capital to and considerable balance sheet to, but then also every other type of deal in between, whether it's various airport transactions, various complex gas prepaid deals, we're focused on being a market leader across the gamut. And I think we have a team in place that has the expertise across all the various issuers, all the various jurisdictions where we think we can bring a lot of value for our clients. And so rather than highlight one specific transaction, I think the body of the work is that we want to be a leader in everything and we've got a great team that's out there trying to lead as many deals as possible for our clients.
Lynne Funk (33:05):
So you are leader, I mean that's no secret. The B of A leads the space in pure volume underwritten, both negotiated and competitive you lead this year. So I would love to pick your brain a bit about what your view is on BA in the muni market, the composition of the dealer community, secondary markets. How has that particularly, how has it changed? Know Citi left, exited the business last year, can you talk to where you see B of A sitting here? You are number one. Sure. Elaborate on that.
Matthew McQueen (33:41):
So stepping away from just the B of A'S footprint in the muni market for a second, I think really to me, I think about B of A's position in all of global markets. And so if you look at the landscape, there's been a real concentration of financial resources and market share in fixed income more broadly speaking over the last 10 to 15 years. And that's been driven by various capital requirements, some which favor us domestic money center banks versus various European or other institutions. And so broadly speaking from a capital perspective and from a resources perspective, we have a lot of financial resources to provide liquidity to clients in these markets. And so our overall commitment is quite robust given the amount of capital and balance sheet that we allocate to fixed income. So that obviously translates into the municipal market just as much as it transfers into the mortgage business here or the credit business or anything else like that.
(35:18):
So obviously B of A is in a great, great financial position and that allows us to provide a lot of service and value to our clients specific to Munis moving on beyond just our capital and financial resources. And we obviously also have some institutional benefits from having been in the business and a market leader for over 30 years, dating back to Merrill Lynch and having a great retail network at Merrill Lynch that we serve, and also having just a great team of investment bankers and people who've been together for a long time and a fantastic culture and team of people. But the other thing about I think Bank of America that's unique to public sector finance is that it's not just bond underwriting and secondary trading.
(36:17):
We serve numerous municipalities who are also our issuer clients for all types of of banking services, whether that's deposit services, various extensions of credit, right? And we're a national institution and we have traditional banking relationships with countless, countless municipalities across the country. And so that just makes us being a leader in the underwriting part of the municipal bond market and the trading part of the municipal bond market, which I think folks on this broadcast are more familiar with. But I think that should highlight our commitment to the business is that we're really focused on serving our clients all the way through the value chain. And so it's not just underwriting. It's not just trading. We're serving our clients at the regional level, helping them with various day-to-day banking services. And so I think that should provide a lot of comfort to our various municipal bond clients as to what our commitment to the business is, is that we are embedded with this client base much, much deeper than just in the traditional underwriting sense. And I think that's something that doesn't always get thought of at first blush,
Lynne Funk (37:51):
For sure. Well, Matt, we're coming up on time. Is there anything that we didn't touch on in this conversation that you would want to talk about that I didn't ask you?
Matthew McQueen (38:07):
The only thing I would just want to highlight to all the people who've tuned into this is one, I can't thank you enough for taking the time to listen in. We really appreciate all that you do for us. I know we have a number of clients that are on the line. And so for all of our clients, thank you. Again, whether it's issuer clients or investor clients, we're committed to serving all sides of the value chain. And look, our goal is we want to lead our clients in Mindshare, whether that's our investor clients or whether that's our issuer clients. We don't want to be the biggest, for biggest sake, and we don't want to be the biggest just because we think we have financial resources to deploy. We want to do do it thoughtfully. We want to add value, and we want to be the place that people come to get the best ideas. And to the extent we're doing that, please let us know. And to the extent that we can do better, please let us know as well. We really, really appreciate it.
Lynne Funk (39:19):
All right, but you're bullish on munis, that's my last question. Alright. Thank you so much. Thank you everyone for tuning in. Have a great rest of your day everyone. And thank you again to Matt McQueen, it's been a pleasure to have you and we hope to see you sooner than later.
Matthew McQueen (39:37):
Alright, thanks again, Lynne. Appreciate it. Thanks everyone for joining. Bye now.
