In all, fourth-quarter volume totaled $144.6 billion, more than any quarter since the second quarter of 2008. Demand for tax-free income remained strong during the quarter, and many offerings were oversubscribed.
For the fourth time in 2017, quarterly performance was positive. The market’s total return was 0.75% for the 3 months ended December 31, 2017, as measured by the Bloomberg Barclays Municipal Bond Index.1 The index produced a total return of 5.45% for the year, its best calendar-year performance since 2014.
While the equity rallies attracted significant attention, the quieter muni market continued to do what it does best: generate income exempt from federal personal income taxes, and in some cases, from state and local income taxes. Although some elected officials proposed putting the favorable tax treatment of muni income on the chopping block, the exemption once again withstood its challengers. As a result, a municipal investment that has a much lower nominal yield than a taxable investment may still provide an investor with more after-tax income.
The Tax Cuts and Jobs Act will likely have some indirect impact on muni investors. Municipalities can no longer issue pre-refunding securities, which allowed them to sell new bonds at current (i.e., lower) interest rates and use the proceeds to pay off higher-coupon securities. This change is expected to reduce supply, which is good news for existing bondholders. Additionally, the decision to limit the combination of state and local income taxes, sales taxes, and property taxes that can be deducted on a federal tax return to $10,000 is likely to spur demand, also a positive for existing bondholders.
During the quarter, the U.S. Federal Reserve Open Market Committee (FOMC) raised the Fed Funds target rate to a range of 1.25% to 1.50%. This was the third time the rate was increased in 2017.
Credit spread tightening, which occurs when the yield differences between high-grade and high-yield bonds narrows, remained a factor during the quarter. This tightening tends to enhance the performance of muni bond funds that invest across the credit spectrum, as our funds do.
The situation in the Commonwealth of Puerto Rico continued to be challenging in the aftermath of Hurricanes Irma and Maria, and many areas remained without electricity and/or potable water at year-end. The work of the federal oversight board that had been established by PROMESA (the Puerto Rico Oversight, Management and Economic Stability Act of 2016) resumed, but the year ended without a new fiscal plan.
Congressional hearings during the quarter shined a national spotlight on many of the Commonwealth’s pressing issues. Representatives of the oversight board, the government of Puerto Rico, and bondholders provided testimony, and topics included the decision to award (and then rescind) a $300 million contract to Whitefish Energy Holdings, a small Montana-based company. Also during the quarter,
Gov. Ricardo Rosselló Nevares requested $94.4 billion in federal hurricane relief and lobbied for changes to the federal tax code.
The oversight board tried to appoint a new leader for PREPA (Puerto Rico’s electric utilities authority), but U.S. District Court Judge Laura Taylor Swain ruled that it was not authorized to do so. Bondholders, including Oppenheimer Rochester, have advocated for an independent receiver, believing that PREPA would benefit from sound professional management.
We continue to be dismayed by the financial reporting – or, more accurately, the lack thereof – provided by the Rosselló administration. Audited results for the fiscal year ended June 30, 2015 have yet to be published. Separately, the government asserted that it would run out of money on December 1, then reported a December 1 cash position of $1.73 billion, and then “found” an additional $5 billion.
The Rochester team remains committed to working constructively with a range of stakeholders to maximize value on all of the funds’ Puerto Rico holdings.
In other news, OppenheimerFunds’ conducted an intensive review of its offerings during 2017, and in late 2017 fund trustees approved a decision to liquidate 9 funds in 2018, including 7 Rochester funds. The affected Rochester funds are the single-state funds for investors in Arizona, Maryland, Massachusetts, Michigan, North Carolina, Ohio, and Virginia. (These funds were closed to most new investors in March 2016.) Investors in these funds may wish to consider one or more of the three national funds and two national high yield funds that Oppenheimer Rochester offers.
Overall, our funds continued to deliver highly competitive distribution yields during 2017. The popular Class A shares had strong distribution yields at net asset value (NAV) at year-end, with 12 of our 13 funds in the top quartile, 10 funds in the top decile, and 8 in the top 5% of their Lipper categories.
The Class A shares of 9 of Rochester’s 13 muni bond funds generated positive total returns at NAV for the year, and performance since inception has been positive for the Class A shares of all 13 funds at NAV and maximum offering price. The tobacco sector, which had a total return of 21.5% in 2017, was a factor in the performance of many of these funds. Details about the positive long-term performance of our funds can be found at oppenheimerfunds.com.
As the New Year gets underway, here is our wish for yield-seeking investors: May it be a year of peace, happiness, and tax-free income.
- ^The Bloomberg Barclays Municipal Bond Index, a widely accepted measure of the performance of the overall market for municipal securities, includes a broad range of investment-grade municipal bonds and is unmanaged. The index cannot be purchased, and our funds’ investments are not limited to the investments comprising the index. The performance of the index includes reinvestment of income but does not reflect transaction costs, fees, expenses, or taxes.
Fixed income investing entails credit and interest rate risks. Interest rate risk is the risk that rising interest rates, or an expectation of rising interest rates in the near future, will cause the values of a Fund’s investments to decline. Risks associated with rising interest rates are heightened given that rates in the U.S. are at, or near, historic lows. When interest rates rise, bond prices fall and a fund’s share price can fall. Municipal bonds are subject to default on income and principal payments. Further, a portion of some funds’ distributions may be taxable and may increase alternative minimum tax (AMT) for investors subject to that tax; distributions from net realized capital gains are taxable as capital gains.
The funds invest in below-investment-grade debt securities, which may entail greater credit risks, as described in each fund’s prospectus. These securities (sometimes called “junk bonds”) may be subject to greater price fluctuations and risks of loss of income and principal than investment-grade municipal securities. The funds may invest substantially in municipal securities within a single state or related to similar type projects, which can increase volatility and exposure to regional issues. The funds may also invest substantially in Puerto Rico and other U.S. territories, commonwealths and possessions, and could be exposed to their local political and economic conditions. Deterioration of the Puerto Rican economy could have an adverse impact on Puerto Rican bonds and the performance of the Rochester municipal funds that hold them.