Ron Schwartz has been trying to pick the best spot on the yield curve for more than 20 years. His take on where that point is now: smack in the middle.
The StableRiver Capital Management municipal bond portfolio manager says the smoking-hot rally that started in the middle of December has eliminated most of the bargains.
Right now, some parts of the yield curve are expensive and some parts are fair, Schwartz said. He believes the best bet is top-quality munis with maturities of 15 to 20 years.
Retail investors have already snapped up the bonds with maturities 10 years or less, Schwartz said. Yields in that range have plummeted.
For example, the triple-A rated yield curve scale in five years was just 1.8% yesterday, compared with almost 3.8% in October, according to Municipal Market Data. Earlier this month, the yield in five years was at its lowest in almost 30 years of data available at MMD.
The longest-term bonds, meanwhile, carry a lot of risks, Schwartz said, especially price volatility and insufficient trading liquidity.
Sometimes an investor trying to sell a 30-year municipal can have trouble finding a buyer, he said.
The 52-year-old West Hartford, Conn., native thinks the 30-year does not offer enough yield over 15-year maturities to compensate for the additional risk.
A 15-year triple-A yields 285 basis points more than two-year maturities, and only 80 basis points less than the 30-year, according to MMD.
"To us, the risk-reward ratio after such a tremendous rally puts us more in the 15-to-20-year area," Schwartz said.
The yield in 15-years on the triple-A curve at the close of the market yesterday was 3.98%, while the yield in 20 years was 4.5%.
With state and local government budgets deteriorating, Schwartz warned against chasing returns down the credit spectrum. He likes sticking with triple-A rated paper to shield his portfolio from price shocks.
A 15-year single-A yields about a percentage point more than a triple-A.
For that extra yield, though, Schwartz said single-A bonds face the risk of bad headlines and rating downgrades.
"We do think there are still issues in the municipal market," he said. "There probably will continue to be a lot of volatility. ... It's going to be a very challenging year for muni credits throughout. We do expect to see downgrades. We're just not convinced that the quality cycle has stabilized yet."
The middle part of the yield curve boasts decent liquidity and is drawing more interest from investors, said Schwartz, who worked as a muni trader for Bank of Boston before taking his current job at StableRiver.
Yields on triple-A rated bonds in 15-years are about 122% of the 15-year Treasury. While that is not as fetching as the 203% ratio reached in December, it is far above the 93.1% average over the past five years.