Uncertainty is the norm in the capital markets, yet municipal bond investors have recently been forced to grapple with unusually high levels. Record YTD net issuance, monetary policy questions, and a recent government shutdown have all led to unsettled markets. But uncertainty brings opportunity, and for those seeking tax-advantaged income, high-quality municipal bonds offer attractive yields along with sound credit fundamentals.
Yield Levels Are Compelling
Starting yield has historically proven to be a primary driver of forward bond returns, and today’s levels are compelling.
The 10-year AAA yield of 2.75% is off recent highs but remains well above the 5-year and 10-year averages of 2.31% and 2.07%1, respectively.
Perhaps of greater note, on a tax-equivalent basis, 10-year AAA bonds are yielding 4.65%, inviting net income when compared to taxable money markets and other high-quality alternatives.2
Curve Normalization Offers Substantial Incremental Income
Technical factors often influence curve structure, and by extension where relative value may be found. Widespread expectations of Fed Funds rate hikes recently led to a surge in selling of municipals inside of 5-years, a technical dynamic that has sustained an inverted front-end of the AAA curve. The trough of the curve now lies with 2030 maturities, beyond which greater relative steepness is evident. This aligns well with the needs of portfolios focused on the intermediate portions of the curve as the spread between 5 and 12-year AAA municipals has reached 56bps.
Furthermore, adding duration in a slowing economy and with Fed Funds rate cuts likely to continue into 2026 is worth considering depending on one’s objectives and risk tolerance. Incremental curve steepness also offers investors incentive to move out of cash and equivalent instruments.
Relative Valuation Looks Appealing
For those seeking alternatives to equities, municipal valuations are, by some measures, more attractive than has been the case for many years. To this point, tax-equivalent AAA municipal yields are more than 1% above the S&P 500’s earnings yield, a metric that compares potential after-tax income streams. Given the greater risk of stocks, this relationship has historically been similar or negative.
Today’s positive spread is atypical, which may suggest that a good opportunity for investors to add high-quality, tax-advantaged income to their portfolios. With equity valuations arguably stretched, municipals also offer diversification and risk management benefits.
A Benign Credit Environment
Municipal credit fundamentals also largely remain in a strong position. Acute federal policy pressure on bond issuers has been narrowly focused and primarily confined to Higher Education. Within this headline grabbing sector, as well as elsewhere across the issuer landscape, we favor large, well-run entities with revenue diversity, financial flexibility, experienced management teams, and ready access to external liquidity.
Many bond issuers have fortified their balance sheets through conservative budgeting and revenue outperformance, and most came out of the Covid era in a better financial position than was initially expected, due in part to federal, state, and local aid.
State reserve fund data offers a compelling indication of fiscal strength as median rainy-day funds relative to expenditures ended FY ’25 modestly below 2024’s peak levels, but far above recent historical averages.
A Technical Tailwind is Anticipated
Supply and demand has a great deal of influence on bond pricing, and we anticipate a largely favorable technical environment over the next few quarters. A 2025 surge in municipal issuance is unlikely to be sustained, particularly in sectors such as Higher Education. While we do not expect a sizeable decline in new offerings, even modestly reduced growth in issuance should dampen aggregate net new supply.
As to what may sustain demand, along with the desire of investors to access tax-advantaged income, look no further than the “dry powder” that lies in money market funds. The Investment Company Institute reports that money market fund assets currently exceed $7.5 trillion.3 Fed watching is intently focused on the pace and timing of rate cuts rather than the direction of policy, and whether the Fed cuts in December or not, further anticipated easing may nudge investor assets further out on the curve.
A Favorable Entry Point for Bond Investors?
Absolute and tax-equivalent yields are inviting, municipal valuations are arguably favorable relative to riskier assets, and credit fundamentals remain sound. While asset allocation and other elements of investment strategy should always be personalized, and what’s optimal for one client may not be for another, we feel financial advisors and tax sensitive investors would benefit from taking another look at municipal bonds.
As of 10/31/25
Tax-Equivalent YTW is based on the YTW and an aggregate 40.8% marginal federal income tax rate (37% plus 3.8% tax on net investment income). This calculation is intended for illustrative purposes only to demonstrate the effect of tax-free treatment of municipal bonds on yields.
Investment Company Institute, 11/19/25
This commentary reflects the opinions of Appleton Partners based on information that we believe to be reliable. It is intended for informational purposes only, and not to suggest any specific performance or results, nor should it be considered investment, financial, tax or other professional advice. It is not an offer or solicitation. Views regarding the economy, securities markets or other specialized areas, like all predictors of future events, cannot be guaranteed to be accurate and may result in economic loss to the investor. While the Adviser believes the outside data sources cited to be credible, it has not independently verified the correctness of any of their inputs or calculations and, therefore, does not warranty the accuracy of any third-party sources or information. Specific securities identified and described may or may not be held in portfolios managed by the Adviser and do not represent all of the securities purchased, sold, or recommended for advisory clients. The reader should not assume that investments in the securities identified and discussed are, were or will be profitable. Any securities identified were selected for illustrative purposes only, as a vehicle for demonstrating investment analysis and decision making. Investment process, strategies, philosophies, allocations, performance composition, target characteristics and other parameters are current as of the date indicated and are subject to change without prior notice. Registration with the SEC should not be construed as an endorsement or an indicator of investment skill acumen or experience.
"New York City recently published the Comptroller’s monthly “By the Numbers” report that confirmed that YoY tax revenue collections for FY25 increased by $6.1B (+8.3%) to $80.3B. Property taxes (43% of total revenue) rose 5.4% YoY, while non-property taxes surged by a combined 10.6%..."
"Mirroring the resilient national economy, State tax revenues have followed a relatively positive trend, particularly after a short-lived decline in late 2023 through early 2024. The trailing-twelve-month growth rate of +2.4% as of August 2025 is not remarkable, but more than strong enough to support essential budgetary needs..."
"At Appleton, we view curve steepness as an opportunity to potentially rotate out of shorter-dated bonds and reinvest the proceeds further out on the curve, but still within our target maturity ranges. This can generate greater income for clients. The return of relative steepness to the intermediate portion of the municipal curve is a welcome development, as it affords investors willing to accept a moderate amount of interest rate exposure with an opportunity to pick up substantially greater tax-advantaged income."
Economic & Market Commentary
12.02.2025
Don’t Forget About Municipals
Why Now May Be A Good Time to Invest
Uncertainty is the norm in the capital markets, yet municipal bond investors have recently been forced to grapple with unusually high levels. Record YTD net issuance, monetary policy questions, and a recent government shutdown have all led to unsettled markets. But uncertainty brings opportunity, and for those seeking tax-advantaged income, high-quality municipal bonds offer attractive yields along with sound credit fundamentals.
Yield Levels Are Compelling
Starting yield has historically proven to be a primary driver of forward bond returns, and today’s levels are compelling.
The 10-year AAA yield of 2.75% is off recent highs but remains well above the 5-year and 10-year averages of 2.31% and 2.07%1, respectively.
Perhaps of greater note, on a tax-equivalent basis, 10-year AAA bonds are yielding 4.65%, inviting net income when compared to taxable money markets and other high-quality alternatives.2
Curve Normalization Offers Substantial Incremental Income
Technical factors often influence curve structure, and by extension where relative value may be found. Widespread expectations of Fed Funds rate hikes recently led to a surge in selling of municipals inside of 5-years, a technical dynamic that has sustained an inverted front-end of the AAA curve. The trough of the curve now lies with 2030 maturities, beyond which greater relative steepness is evident. This aligns well with the needs of portfolios focused on the intermediate portions of the curve as the spread between 5 and 12-year AAA municipals has reached 56bps.
Furthermore, adding duration in a slowing economy and with Fed Funds rate cuts likely to continue into 2026 is worth considering depending on one’s objectives and risk tolerance. Incremental curve steepness also offers investors incentive to move out of cash and equivalent instruments.
Relative Valuation Looks Appealing
For those seeking alternatives to equities, municipal valuations are, by some measures, more attractive than has been the case for many years. To this point, tax-equivalent AAA municipal yields are more than 1% above the S&P 500’s earnings yield, a metric that compares potential after-tax income streams. Given the greater risk of stocks, this relationship has historically been similar or negative.
Today’s positive spread is atypical, which may suggest that a good opportunity for investors to add high-quality, tax-advantaged income to their portfolios. With equity valuations arguably stretched, municipals also offer diversification and risk management benefits.
A Benign Credit Environment
Municipal credit fundamentals also largely remain in a strong position. Acute federal policy pressure on bond issuers has been narrowly focused and primarily confined to Higher Education. Within this headline grabbing sector, as well as elsewhere across the issuer landscape, we favor large, well-run entities with revenue diversity, financial flexibility, experienced management teams, and ready access to external liquidity.
Many bond issuers have fortified their balance sheets through conservative budgeting and revenue outperformance, and most came out of the Covid era in a better financial position than was initially expected, due in part to federal, state, and local aid.
State reserve fund data offers a compelling indication of fiscal strength as median rainy-day funds relative to expenditures ended FY ’25 modestly below 2024’s peak levels, but far above recent historical averages.
A Technical Tailwind is Anticipated
Supply and demand has a great deal of influence on bond pricing, and we anticipate a largely favorable technical environment over the next few quarters. A 2025 surge in municipal issuance is unlikely to be sustained, particularly in sectors such as Higher Education. While we do not expect a sizeable decline in new offerings, even modestly reduced growth in issuance should dampen aggregate net new supply.
As to what may sustain demand, along with the desire of investors to access tax-advantaged income, look no further than the “dry powder” that lies in money market funds. The Investment Company Institute reports that money market fund assets currently exceed $7.5 trillion.3 Fed watching is intently focused on the pace and timing of rate cuts rather than the direction of policy, and whether the Fed cuts in December or not, further anticipated easing may nudge investor assets further out on the curve.
A Favorable Entry Point for Bond Investors?
Absolute and tax-equivalent yields are inviting, municipal valuations are arguably favorable relative to riskier assets, and credit fundamentals remain sound. While asset allocation and other elements of investment strategy should always be personalized, and what’s optimal for one client may not be for another, we feel financial advisors and tax sensitive investors would benefit from taking another look at municipal bonds.
This commentary reflects the opinions of Appleton Partners based on information that we believe to be reliable. It is intended for informational purposes only, and not to suggest any specific performance or results, nor should it be considered investment, financial, tax or other professional advice. It is not an offer or solicitation. Views regarding the economy, securities markets or other specialized areas, like all predictors of future events, cannot be guaranteed to be accurate and may result in economic loss to the investor. While the Adviser believes the outside data sources cited to be credible, it has not independently verified the correctness of any of their inputs or calculations and, therefore, does not warranty the accuracy of any third-party sources or information. Specific securities identified and described may or may not be held in portfolios managed by the Adviser and do not represent all of the securities purchased, sold, or recommended for advisory clients. The reader should not assume that investments in the securities identified and discussed are, were or will be profitable. Any securities identified were selected for illustrative purposes only, as a vehicle for demonstrating investment analysis and decision making. Investment process, strategies, philosophies, allocations, performance composition, target characteristics and other parameters are current as of the date indicated and are subject to change without prior notice. Registration with the SEC should not be construed as an endorsement or an indicator of investment skill acumen or experience.
Potential Fiscal Implications of New York City’s Election
State Revenues and Municipal Credit Quality Are Holding Up Well
A Closer Look at Municipal Curve Steepness & Why it Matters