Cash Flows Slow to Lowest Levels in Almost Two Years

Cash flows into municipal bond mutual funds last week were at the slowest pace since early in the financial crisis.

Municipal funds that report their figures weekly posted a net inflow of $192,000 for the week ended Nov. 3, according to Lipper FMI. That was the lightest weekly inflow since the end of June.

All funds, including those that report their figures monthly, have reported an average of $118.7 million a week in inflows the past four weeks — the slowest pace since January 2009.

The four-week average at that point still reflected residual effects from the tail end of the fourth quarter of 2008, which saw nearly $11 billion in outflows.

The slowdown over the past two months or so is part of a tail-off of inflows into bond funds generally.

Investors stuffed more than $7.6 billion a week into bond funds on average in July and August, according to the Investment Company Institute. The pace slowed to $6.6 billion a week in September, and $6.3 billion a week in October.

Similarly, the $527.2 billion municipal fund industry commanded $1.1 billion a week in new money from investors on average in July and August.

In September, they drew $572 million a week, and in October they commanded $504 million a week, based on preliminary ICI data.

Phil Condon, head of municipals at DWS Investments, said two possible explanations for quiet retail demand are the prospect of the extension of the Bush administration's tax cuts and the looming expiration of the Build America Bond program, which threatens to jam a lot more supply of long-term bonds into the tax-exempt market.

But Condon doubts the average retail investor is really aware of the BAB expiration, and tax-free munis should be attractive at these yields even if tax rates don't go up, he said.

For an investor in a 35% tax bracket, the tax-equivalent yield on the 10-year triple-A municipal based on the Municipal Market Data scale is 150% of the 10-year Treasury yield. An investor shouldn't need the tax rate to go up to be convinced that munis are attractive, Condon said.

He said the market over the past 18 months may simply have grown accustomed to an unsustainably high level of inflows into mutual funds that was destined to regress.

Before last year, a $118.7 million was not out of the ordinary. The average inflow from when Lipper started keeping track in 1992 through the end of 2008 was about $140 million.

James Ahn, a portfolio manager for JPMorgan Funds, said it is common to see flows taper off this time of year. The trend is potentially worrisome if it continues much longer, he said, but so far not yet.

"It's not terribly alarming," he said. "This time of year seasonally we tend to see somewhat more muted demand for municipal bond funds."

According to data from the ICI, municipal funds average around $325 million in inflows in October and $495 million in inflows in November since 1984, compared with the overall average of $766.1 million per month during that time.

The curtailment in retail demand comes at an inopportune time. Municipalities are slated to sell $16 billion of debt over the next 30 days, according to The Bond Buyer visible supply.

Next week, municipal issuers will sell more than $10 billion of debt.

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