Session i john mousseau

A Registered Investment Advisory Firm

Where Are We Now? Global Interdependence Center & Denver Association for Business Economics

July 18, 2016

John R. Mousseau, CFA Executive Vice President & Director of Fixed Income john.mousseau@cumber.com

ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

Adventures in Muniland!

Adventures in Muniland: A Guide to Municipal Bond Investing in the Post-Crisis Era Co-Authors: Michael Comes David Kotok John Mousseau Foreword by: Alexandra Lebenthal Available for purchase on Amazon.com

With a perspective that only decades of experience can bring, Adventures in Muniland captures the municipal bond market's transformation from stodgy to dynamic. This concise, yet comprehensive stroll offers an insider's view, brings the reader right up to today's discussions, and carries the added benefit of providing a clear understanding of what can at times appear to be an opaque marketplace. The Cumberland team has produced an insightful review for the seasoned professional and a must read for newcomers and investors. ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

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Munis & Treasuries: Jan. 2, 2007 7

Taxable Equivalent Yield Jan. 2007 6

Interest Rate

A Industrial

5

US Treasury

MMD Muni AAA

4

3 0

5

10

15

20

25

30

Years Source: Bloomberg ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

3

Munis & Treasuries: Dec. 29, 2009 US TSY

A Industrial

MMD Muni AAA

8

Taxable Equivalent Yield

TEY (39.6% Top Rate and 3.8% Surtax)

7

6

A Industrial Taxable Equivalent Yield: Jan. 2007

MMD Muni AAA

5

Interest Rate

Taxable Equivalent Yield January 2007

4

US Treasury

3

2

1

0 0

5

10

15

20

25

30

Years Source: Bloomberg ©Copyright 2016 Cumberland Advisors®. Further distribution prohibited without prior permission.

4

Munis & Treasuries: Jan. 23, 2013 7

Taxable Equivalent Yield: Jan. 2007 6

5

Interest Rate

TEY (39.6% Top Rate and 3.8% Surtax 4

A Industrial

3

US Treasury MMD Muni AAA

2

1

0 0

5

10

15

20

25

30

Years Source: Bloomberg ©Copyright 2016 Cumberland Advisors®. Further distribution prohibited without prior permission.

5

Munis & Treasuries: July 13, 2016 US Treasury

A Industrial

MMD Muni AAA

TEY (35% Top Rate)

Taxable Equivalent Yield Jan. 2007

7

Taxable Equivalent Yield January 2007

6

I n t e r e s t

5

TEY (39.6% Top Rate and 3.8% Surtax

4

3 R a t e

2

A Industrial US Treasury

1

MMD Muni AAA

0 0.25

0.5

1

2

3

4

Source: Bloomberg ©Copyright 2016 Cumberland Advisors®. Further distribution prohibited without prior permission.

5

7

8

9

10

15

20

25

30

Years 6

Bond Buyer 40 vs. 30-yr Treasury

Source: Bloomberg and Cumberland Advisors ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

7

Muni Market Feast & Famine This graph illustrates the performance of the municipal bond market since 2006. Since then, the market has experienced 3 major sell-offs: 1) Flight into Treasurys out of risk, 2) Panic selling because of Meredith Whitney, 3) Fears of Fed tapering.

2008 Financial Crisis

Meredith Whitney Moment Tapering & Fund Outflows

Source: Bloomberg and Cumberland Advisors ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

8

Muni Bond Fund Flows Municipal Bond Fund Flows (All Municipal) Municipal Bond Fund Flows (All Municipal)

2 per. Mov. Avg. (Municipal Bond Fund Flows (All Municipal))

$13,000

Muni Bond market has repaired without Bond Fund Flows

$8,000

$ Millions

$3,000

-$2,000

-$7,000

-$12,000

-$17,000 2009 Source: Lipper

2010

2011

ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

2012

2013

2014

2015

2016

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Municipal Bond Issuance 385.37

325.22

321.70

372.78

287.73

433.31

409.69

389.63

429.89

388.84

408.28

359.75

215.84

50

358.40

150

200.85

250

287.73

350

383.34

450

-50

Selected Categories 2000 - 2016 Year-to-Date ($ Billions) YEAR

JAN

FEB

MAR

APR

MAY

JUN

JUL

AUG

SEP

OCT

NOV

DEC

TOTAL

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 YTD2016

9.98 12.58 21.77 27.10 20.71 22.12 18.78 31.21 19.78 23.15 32.66 12.44 17.20 26.77 18.87 29.23 25.41

13.32 21.14 20.98 30.23 26.85 31.20 23.87 32.03 21.40 23.40 27.05 16.54 26.76 24.34 15.44 33.06 31.42

18.11 25.11 25.42 28.14 38.69 45.01 27.07 44.35 43.83 38.83 44.69 18.91 34.72 32.21 28.29 44.96 42.00

15.70 18.86 25.86 36.31 31.09 31.31 29.35 33.54 51.72 36.84 27.50 15.76 34.25 36.63 25.79 40.25 32.48

15.96 28.91 34.00 35.70 37.61 35.94 35.04 42.92 43.75 30.41 38.32 21.39 37.36 29.02 25.75 35.26 40.61

23.44 30.87 38.46 48.25 35.07 44.25 45.33 47.18 50.79 43.86 34.68 31.97 42.71 25.36 34.78 34.39 43.92

15.05 21.01 28.02 33.20 25.30 34.49 27.86 31.86 37.09 26.11 29.15 24.91 28.18 28.62 25.61 35.21

16.88 24.14 31.58 25.86 27.94 34.02 31.59 29.21 32.50 36.36 29.71 23.83 32.71 22.51 24.60 32.22

16.59 14.32 27.57 26.26 25.20 31.67 28.03 32.82 20.19 29.95 35.70 27.46 25.90 19.84 24.07 23.43

19.77 32.08 42.41 34.87 32.22 27.31 31.57 45.18 21.93 46.37 45.73 32.86 33.78 27.12 35.26 31.97

20.29 30.48 35.60 26.27 25.77 39.42 42.77 30.12 25.73 38.29 46.07 37.29 33.09 23.34 28.93 23.19

15.76 28.24 26.73 31.15 33.30 31.56 47.58 29.47 20.91 36.11 42.05 24.37 26.12 25.94 37.83 22.20

200.85 287.73 358.40 383.34 359.75 408.28 388.84 429.89 389.63 409.69 433.31 287.73 372.78 321.70 325.22 363.17 215.84

Source: Bond Buyer ©Copyright 2016 Cumberland Advisors®. Further distribution prohibited without prior permission.

10

Fed Funds vs. Treasury 6

30-Year Treasury 5

4

10-Year Treasury Fed Funds Target 3

Why a Fed rate hike will not be terrible for long-term rates:

2

2004-2006 10-year Treasury yields increased 85 basis points while Fed funds increased 400 basis points

1

0

Fed Funds Target

30-yr. Treasury

10-yr. Treasury

Source: Bloomberg and Cumberland Advisors ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

11

Muni/Treasury Ratio: Last Fed Hike 30-year Muni/Treasury Ration vs. Fed Funds

Muni yield ratios dropped last rate hike

Source: Bloomberg and Cumberland Advisors ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

12

Total Assets: Central Banks 25

2015 20

15

10

5

1995 0

Source: David Stockman ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

13

Total Assets: Fed January 1975 - June 2016 5

Trillions

4

3

2

1

Pre-Tarp Average $678 billion

0

Source: Haver Analytics ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

14

Fed Maturity Structure: Assets Less than one year

One to 10 Yr

Over ten yr

$5.0

QE-3 $4.5

$4.0

QE-2

$3.5

$ Trillions

$3.0

QE-1

$2.5

$2.0

$1.5

$1.0

$0.5

$0.0 2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

Source: Haver Analytics ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

15

US Tsy vs. German Yield Curves 5

US Treasury Actives Curve on July 8, 2016 US Treasury Actives Curve on December 31, 2013 4

Euro German Sovereign Curve on July 8, 2016 Euro German Sovereign Curve on December 31, 2013

3

2

1

-1

-2 1M

3M

6M

1Y

2Y

3Y

4Y

5Y

6Y

7Y

8Y

9Y

10Y

15Y

20Y

25Y

30Y

Source: Bloomberg ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

16

10-yr Treasury vs. 10-yr Bund

Source: Bloomberg ŠCopyright 2015 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

17

Federal Deficit

Source: Haver Analytics and Ned Davis Research ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

18

Interest Expense: Debt Outstanding Interest Expense on Debt Outstanding US Treasury (Fiscal Year End) through June 2016 500 450

2006 $405.87

2015 $402.44

400

Billions

350 300 250 200 150 100 50 0

Source: Department of the Treasury, Bureau of the Fiscal Service. Treasurydirect.gov. ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

19

Historical Debt Outstanding US Government 25

2020 $22.41 2015 $18.63

20

Trillions

15

10

2006 $8.51

5

0

Source: www.whitehouse.gov ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

20

Monthly Central Bank Assets Monthly Central Bank Assets for US, Japan, and Euro Area Jun-06 to Jun-16 $16,000

$14,000

Cumberland Advisors' YE2016 Estimate $15,207

Estimate includes ECB

$12,000

$ Billions

$10,000

$8,000

$6,000

$4,000

$2,000

$0

Source: Haver Analytics

Federal Reserve

ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

ECB

Bank of Japan

21

Muni Credit Quality: Very High

ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

22

Default Probabilities Even Smaller Cumulative Default Rates, Average over the Period 1970-2014, Municipal vs. Corporate Issuers Rating

Year 1

Year 2

Year 3

Year 4

Year 5

Year 6

Year 7

Year 8

Year 9

Year 10

Municipal Issuers

%

%

%

%

%

%

%

%

%

%

Aaa

0.00

0.00

0.00

0.00

0.00

0.00

0.00

0.00

0.00

0.00

Aa

0.00

0.00

0.00

0.00

0.01

0.01

0.01

0.01

0.01

0.01

A

0.00

0.01

0.02

0.02

0.03

0.03

0.04

0.05

0.06

0.06

Baa

0.01

0.04

0.08

0.11

0.15

0.19

0.24

0.29

0.33

0.37

Ba

0.28

0.81

1.27

1.85

2.39

2.80

3.24

3.59

3.88

4.11

B

2.92

5.57

8.03

10.26

12.38

13.82

14.66

15.44

16.30

17.48

Caa-C

7.83

11.01

12.99

14.12

14.71

15.21

15.76

16.37

16.88

16.88

Investment-Grade

0.00

0.01

0.02

0.03

0.04

0.05

0.06

0.07

0.08

0.08

Speculative-Grade

1.31

2.42

3.36

4.29

5.13

5.74

6.26

6.72

7.13

7.52

All Rated

0.02

0.03

0.05

0.06

0.08

0.09

0.11

0.12

0.13

0.14

Source: Moody’s ©Copyright 2016 Cumberland Advisors®. Further distribution prohibited without prior permission.

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Higher Corp. Default Experience Cumulative Default Rates, Average over the Period 1970-2014, Municipal vs. Corporate Issuers Rating

Year 1

Year 2

Year 3

Year 4

Year 5

Year 6

Year 7

Year 8

Year 9

Year 10

Corporate Issuers

%

%

%

%

%

%

%

%

%

%

Aaa

0.00

0.01

0.01

0.04

0.10

0.17

0.24

0.31

0.39

0.48

Aa

0.02

0.07

0.14

0.26

0.40

0.54

0.67

0.78

0.88

0.99

A

0.06

0.20

0.43

0.67

0.95

1.26

1.60

1.97

2.36

2.72

Baa

0.17

0.48

0.86

1.32

1.78

2.27

2.75

3.23

3.78

4.41

Ba

1.07

2.96

5.18

7.55

9.70

11.70

13.44

15.18

16.90

18.69

B

3.71

8.86

14.14

18.82

23.11

27.11

30.82

33.94

36.72

39.16

Caa-C

14.96

25.68

34.29

41.18

46.97

51.21

54.73

58.01

61.26

63.77

Investment-Grade

0.09

0.27

0.51

0.78

1.09

1.41

1.73

2.07

2.43

2.81

Speculative-Grade

4.34

8.92

13.29

17.15

20.52

23.48

26.08

28.36

30.47

32.41

All Rated

1.66

3.37

4.95

6.32

7.49

8.51

9.39

10.17

10.90

11.58

Source: Moody’s ©Copyright 2016 Cumberland Advisors®. Further distribution prohibited without prior permission.

24

Uninsured vs. Insured Puerto Rico Uninsured vs. Insured 11

5.00% Due 7/1/41 Call: 7/1/22 Dated: 4/3/2012 10

9

5.00% Due 7/1/35 Call: 7/1/22 Dated: 4/3/2012

8

7

6

5

4

3

Uninsured Puerto Rico

Insured Puerto Rico

Source : Bloomberg ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

25

Bellwether The Bellwether 14

13

February 16, 2016: Governor signs the Puerto Rico Electric Power Authority (PREPA) Revitalization Act

July 1, 2016: The Commonwealth defaults on $800 million of constitutionally guaranteed general obligation debt

12

March 11, 2014: Puerto Rico issues $3.5 bn of general obligation debt, 11 drawing hedge funds interest June 30, 2016: President Obama signs the Puerto Rico Oversight, Management, and Economic Stability Act (PROMESA)

10

9

8

August 1, 2015: Partial default of debt owed by the Public Finance Corp. (PFC)

Source : Bloomberg ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

26

Disclosure All material presented is compiled from sources believed to be reliable. However, accuracy cannot be guaranteed. Past performance is no guarantee of future results. All investments involve risk including loss of principal. Fixed income investments are subject to interest rate and credit risk.

ŠCopyright 2016 Cumberland AdvisorsŽ. Further distribution prohibited without prior permission.

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