Curve Commentary: June 2, 2025

Overview

Long-term US Treasury yields have recently popped-up to their highest level in over a year, driven by the passage of the budget by the US House of Representatives and widespread concerns of escalating deficits.  The biggest deficit driver is the proposed extension of the Tax Cuts and Jobs Act of 2017, which is estimated to add $3.5 to $4.0 trillion to the current deficit, likely requiring the issuance of additional Treasury securities.  However, demand for Treasuries is waning as countries like China and Japan have been decreasing their holdings due to trade tensions and a stronger US dollar.  Yields on 2, 5 and 10-year notes, by comparison, have fallen resulting in a widening gap between the 10-year and the 30-year bond.  Although this gap is widening, it is still within long-term historical averages.

Looking at shorter tenors, the slope of the municipal 2s10s curve has reached 53 bps, the steepest level observed since 2022.  This marks a complete reversal from the minus 50 bps seen last year at about this time, in April 2024, as yield relationships along the curve continue to normalize.  Similarly, the US Treasury 2s10s curve has a slope of 52 bps, which is far more approachable than the minus 108 bps seen in mid-2023.  With steeper slopes shorter on the curve, investors can capture a substantial percentage of 30-year rates over significantly shorter duration exposures.  Currently, 10-year munis are yielding approximately 75% of the 30-year maturity and 18-year munis are yielding approximately 93% of the 30-year maturity.

Ratios and Strategy

Recent yield shifts have resulted in muni/Treasury ratios declining by almost a percent on the short-end and increasing by 1.4% on the long -end.  Although long-term ratios remain appealing, the yield differentials between municipals and Treasuries have tightened over the past month with 5-year ratios declining from over 75% down to 71% as investors move to the shorter end of the curve amid rate volatility.  At the long-end, municipal continue to yield over 90% of equivalent Treasury bonds, which continues to be appealing to investors.  However, as mentioned earlier, compelling values are available at shorter durations with 20-year munis yielding 87% of Treasuries.  Nevertheless, as discussed below, ratios are likely to be range bound as municipals head into the more technically driven portion of the year.

Technical Factors

Year-to-date long-term municipal issuance is $220.5 billion, which is up 17.3% versus the same time period last year.  Issuance is expected to pick-up this week with US state and local governments slated to sell more than $19.1 billion of bonds, which is the highest weekly total this year and one of the largest weekly calendars on record and is expected to accelerate over the next month.  On this week’s calendar, there are multiple billion dollar issues scheduled lead by Indiana University Health is with its $1.5 billion issue and the Commonwealth of Pennsylvania with a $1.17 billion issue. 

Last week, LSEG Lipper Global Fund Flows reported municipal bond mutual funds saw a fifth consecutive week of inflows with $526 million being added to the asset class following $768 million of inflows the prior week.  Long-term municipal funds gained $203 million while high-yield funds added $150 million and intermediate funds added $79 million.  However, despite the inflows, trading volumes fell to the lowest level seen in 2025 last week amid healthy but cooling demand.

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