Key takeaways
- Economic resilience allowed the Fed to remain in wait-and-see mode in July, but July’s non-farm payroll report may cloud the horizon.
- Municipal issuance on pace to break records and continues to outpace reinvestment flows.
- Municipals appear attractive on a relative-value basis, particularly in the long end of curve.
General market update
Against a backdrop of solid economic data, including an upward revision of second-quarter GDP to a +3% annual rate, returns in the fixed income markets were mostly negative in July. With the labor market holding up and any disinflationary trend mitigated, market participants weren’t surprised when the Fed left rates unchanged at their meeting on July 30. Perhaps the data was overshadowed by concerns over the approaching tariff deadline and ongoing White House criticism of Fed chair Powell.
The 10-year Treasury began the month yielding 4.24%—the low close—and finished July at 4.37%. Most of the month was spent in a tight range between 4.33% and 4.48%. For the month, the Bloomberg US Treasury Index returned -0.26%, while the Bloomberg US Corporate Index eked out a small gain at 0.07% on tightening credit spreads. Municipals, continuing to deal with the headwind of a heavy calendar, posted a -0.2% return.
Market perception shifted on August 1 with a weak employment report. A miss on non-farm payroll expectations, combined with major revisions to the two prior months, pointed to a jobs market that was weaker than previously assumed. Market expectations for rate cuts increased, with futures again pricing in two cuts by the end of the year, and bonds rallied back to their early July yields.
Supply
So far 2025 is on track to be a record-setting year for municipal supply on the heels of the previous record year, 2024. July looks to have seen about $42 billion in issuance, and most forecasts are for total annual issuance to exceed $500 billion. Markets expect even typically quiet August to see more than $50 billion in issuance (JP Morgan Research, 7/30/2025).
Because municipal bonds are constantly maturing or being called, there’s a natural demand for bonds from existing bondholders looking to reinvest proceeds. One way analysts tend to decipher the potential market impact of supply is to look at net supply, defined as the difference between issuance and the reinvestment flows described above, plus coupon cash flows.
For January through June, the trailing five-year average net supply was -$16 billion. The negative number means the value of new bonds created in the market was less than the proceeds generated. Last year, net supply was positive $25 billion. In contrast, this year’s figure looks to be a stunning $75 billion (JP Morgan Research, 7/30/2025). Headwind indeed.
Market opportunity
We were hoping this month’s update would be as simple as “See you in September, don’t forget your sunscreen!” August historically is a quiet month and a popular one for vacations. Mid-month it appeared that tariffs weren’t reigniting inflation concerns, that economic data was mixed but strong enough to keep the Fed on the sidelines and that the rates market was hanging within a reasonably tight range. Municipal bonds specifically presented some attractive value, especially on the longer end of the curve, where ratios have cheapened compared to earlier in the year. Taken together they didn’t make a strong case that investors should hurry to get cash to work or that the sand was shifting beneath our feet.
But then the July unemployment report came along. The weak report and accompanying revisions seem to have shifted market perception of the economy. The yield on the 10-year Treasury dropped more than 15 basis points (bps), and consensus firmed around a September rate cut. Benchmark AAA yields in municipals came down seven bps. While the market appears to believe that the Fed will be compelled to act, we’d caution that these assumptions are far from certain. We’ve seen before that a few data points and constantly changing headline news can shift market sentiment.
Our relaxed mindset entering July has switched. While the municipal calendar remains heavy, yields have declined and relative value has improved. Even after the move, yields remain attractive, but Friday was a stark reminder just how fast markets can move when conditions change. So while we still think the window of opportunity could remain open in August, investors might be better served acting sooner rather than later. Better not to get burnt. And don’t forget the sunscreen.
Economic outlook
It would be hard to overstate the impact of the July mon-farm report. While the headline change wasn’t a big miss at up 73,000 compared with an expected 101,000, the revision to the previous two months was significant. The three-month average change in non-fam payrolls went from 150,000 to 64,000. To put that three-month number in perspective, the average monthly change from July 2010 through July 2025 has been 160,000 (though there were some extreme swings during the pandemic).
A full three months of well-below-average employment growth casts the economy in a much different light. For many, this would appear to be the first hard data signal of a meaningful slowdown. Market participants seem increasingly convinced that it will bring the Fed off the sidelines. There’s no August Fed meeting however, so all eyes will be on September’s.
Lasty, with the latest tariffs taking effect on August 1, we should see at least early indications of their impact. There’s also potential for more clarity on trade negotiations with the EU and China. With the prospect of new Russian sanctions imminent, both trade and geopolitical events remain sources of uncertainty over the near term.
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