Municipal-bond week in review: Yields dip after Fed meeting

Municipal bond yields dipped following the Federal Reserve's policy meeting on Wednesday, recovering slightly by the end of the week.

Muni yields generally follow the direction of Treasury yields, and they dropped after the Fed left interest rates unchanged. On Friday, the yield on the 10-year Treasury remained close to its two-week low, as traders bet on a gradual approach in increasing rates.

The 10-year yield on the AP Municipal Bond Index was 1.863 percent as of 5 p.m. Eastern time on Friday, down a notch from last week's close of 1.876 percent, and further off its high of 1.886 percent earlier in the week. The 10-year yield has stayed fairly consistent since early September, significantly above its August range of 1.725 percent to 1.75 percent. The 30-year yield rose to 2.460 percent from 2.435 percent.

The largest municipal-bond exchange-traded fund by assets was nearly flat last week, returning less than 0.1 percent.

Long term bond prices are more sensitive to increases in interest rates and therefore riskier for investors to hold. The market generally compensates investors for that risk with higher yields. But with lowered expectations for an imminent rate hike, the spread, or gap, between 2- and 10-year muni bond yields fell from 1.086 percent to 1.024 percent, its lowest level since July 8.

In other muni bond news:

— Pension pain.

State pension liabilities increased about 12 percent, or almost $60 billion, between 2013 and 2015, according to S&P Global Ratings. That reverses a trend of declines in its two earlier surveys. Just how bad is this? Chronic underfunding would likely cause them to increase further in the coming years, a trend the report's authors say is "unsustainable." That could cause some agita in the muni market: States that are struggling to balance their budgets may have difficulty servicing their municipal bond debt.

— Munis go green.

While infrastructure investment in many areas has been languishing, one small piece of the market has seen significant growth: The number of municipal bonds issued specifically to fund environmentally beneficial capital projects in 2015 was $4.7 billion, an increase of 47 percent over the previous year, according to a report by HSBC and the Climate Bonds Institute. While the $9.7 billion of officially labelled green issues is clearly a very tiny slice of the $3.7 trillion muni bond market, the total amount of bonds that meet that criteria is $30.3 billion, according to the report. The greenest states? The top issuers of green bonds last year were Washington, Massachusetts and New York.