BlackRock Strategic Municipal Trust : CEF Quarterly Market Update
11/11/2020 | 02:57pm EST
Closed-end fund market review
Third quarter 2020
Closed-end fund market overview
Equities moved higher in the third quarter, with major indices hitting all time highs in August. July and August saw increasingly positive consumer sentiment surrounding a potential new fiscal policy bill in the U.S., a reduction of COVID-19 cases in several hotspot states, and positive developments in the search for a vaccine. In September, risk assets sold off as investor optimism faded amid a resurgence of COVID-19 cases in Europe. The S&P 500 finished the quarter up 8.9%.
Bonds returns were positive in the third quarter. Treasuries remained flat as we only saw a minor uptick in the 10-year treasury yield. The 10-year finished the quarter at 0.69%, 3 basis points higher than at the start. Credit assets performed well as investors were comfortable taking on more risk. The dovish tilt of the Federal Reserve's policy framework review supported the risk backdrop. The Fed announced that it will allow inflation to drift above its 2% target in a program designed to boost the labor market. The Barclays Aggregate Bond Index was up 0.6% on the quarter.
Closed-end funds ("CEFs") posted a positive third quarter, with the average CEF1 up 4.5% on net asset value ("NAV") and up 4.6% on market price. Equity and credit CEFs continued their strong run and were the best- performing categories in the CEF market. Over the quarter, discounts widened 70 basis points, on average, ending the quarter at an average of -8.0%. Discount widening was magnified in September as investors began to worry about the resurgence of COVID-19, a polarized U.S. election, and uncertain economic data.
Third quarter CEF total returns % (NAV and market price)
NAV● Market price return
Source: Lipper as of 9/30/2020. Returns are shown net of advisory fees paid by the Fund and net of the Fund's operating fees and expenses. Investors who purchase shares of the Fund through an investment adviser or other financial professional may separately pay a fee to that service provider. Past performance is not indicative of future results.
1 The average CEF is the average of all funds in the CEF universe.
Third quarter2020| Closed-end fund market review
Municipal bonds continued to recover from the volatility caused by the COVID-19 pandemic earlier this year. Investors grew more confident that the next stimulus package would provide additional aid to state governments. Investors' eyes were also focused on the upcoming election and the prospect for higher taxes and the increased need for tax- exempt income. Municipal CEF returns were positive on the quarter, and many funds benefited from the use of leverage as the asset class rebounded. The average muni CEF was up 2.3% on NAV and up
3.8% on market price over the quarter. Muni CEF discounts narrowed 140 over the quarter, finishing at an average of -5.8%.
The majority of municipal CEFs use leverage in an effort to support higher distributions. Leverage seeks to profit from the spread between short-term (lower) and long-term (higher) interest rates, assuming an upward sloping yield curve, by borrowing at short-term interest rates and investing the proceeds in longer-term securities that typically pay higher rates of return. The SIFMA Municipal Swap Index, a common base rate used to calculate interest rates on various forms of municipal fund leverage, finished the quarter at 0.11%, well below its 3-year average of 1.18%. Lower leverage costs may help support or grow municipal CEF distributions. Many distribution increases were announced across the industry in the third quarter, potentially contributing to the discount narrowing we saw in the space.
Taxable fixed income
Credit assets have been the beneficiary of structural demand for income created by aggressive measures by central banks. These assets have retraced the majority of their losses from earlier this year. This led to strong performance in fixed income credit CEFs. The average taxable fixed income CEF was up 4.8% on NAV and up 5.1% on market price in the third quarter. Taxable fixed income discounts widened
50 basis points, on average, finishing the quarter at an average discount of -7.8%.
High yield bonds performed well in the third quarter, as credit spreads narrowed amid positive market sentiment. High yield CEFs were up an average of 5.5% on NAV and up 5.7% on market price over the third quarter. Discounts in high yield CEFs widened by 60 basis points, finishing September at an average discount of -9.2%. Investment grade credit also benefited from these dynamics and increased market liquidity. Investment grade CEFs were up 3.7% on NAV and 4.3% on market price, on average. Discount in the investment grade space narrowed 50 basis points, finishing the quarter at an average discount of -7.1%. Bank loans performed well in the third quarter. The average bank loan CEF was up 5.1% on NAV and up 6.6% on market price. Bank loan CEF discounts moved 20 basis points narrower on the quarter, finishing at an average discount of -12.0%. Bank loan discounts continue to be among the widest in the fixed income space, given there is a lack of demand for floating rate assets in this low interest rate environment.
2 Third quarter2020| Closed-end fund market review
Despite an increase in volatility during September, equity markets had strong and positive performance in the third quarter. Markets appeared to be driven higher by increasing confidence in the post- coronavirus recovery and return to normalcy seen in Asian countries. Equity CEFs moved higher during the third quarter. Equity CEFs finished the quarter up 5.5% on NAV and up 4.2% on market price, on average. Market prices underperformed NAVs as discounts widened in the space. Discounts in the equity CEF space widened 400 basis points over the quarter, finishing at an average discount of -11.3%. Discounts might have been influenced by heightened investor concerns in September around increasing cases of COVID-19 in Europe.
Equity CEFs that use covered calls were the best- performing CEF asset class in the third quarter.
While these funds generally lag in markets trending upward, they have tended to perform better during periods of volatility. Generally, covered calls seek to offer some downside protection in exchange for upside participation. These strategies were up 5.8% on NAV and up 4.5% on market price in the third quarter. Discounts in the category widened by an average of 180 basis points, finishing at an average discount of -8.6%. From a sector perspective, technology CEFs continued their strong returns as the tech sector outperformed the S&P 500 over the quarter. Sector equity CEFs were up an average of 5.2% on NAV and up 4.0% on market price over the quarter. Discounts in the sector equity funds widened 560 basis points, finishing at an average discount of -14.1%. This widening was concentrated in and out of favor sectors, like energy.
Distribution rate (% of market price) as of September 30, 2020
Source: Lipper as of 9/30/2020. Distribution rate is calculated by annualizing the Fund's latest declared regular distribution and dividing that number by the Funds market price as of the stated date. Distributions are sourced from net investment income, unless noted otherwise. Tax-Equivalent Distribution Rate calculated using a 40.8% effective tax rate.
Current premium/discount versus 5-year average as of September 30, 2020
● Current premium/discount ● 5-year avg. premium/discount
Source: Lipper as of 9/30/2020.
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Availability of fund updates
BlackRock will update performance and certain other data for the Funds on a monthly basis on its website in the "Closed-end Funds" section of www.blackrock.com as well as certain other material information as necessary from time to time. Investors and others are advised to check the website for updated performance information and the release of other material information about the Funds. This reference to BlackRock's website is intended to allow investors public access to information regarding the Funds and does not, and is not intended to, incorporate BlackRock's website in this release.
Past performance is not indicative of future results. You cannot invest directly in an unmanaged index.
Investment return, price, yields and NAV will fluctuate with changes in market conditions. At the time of sale, your shares may have a market price that is above or below net asset value, and may be worth more or less than your original investment. There is no assurance that a fund will meet its investment objective. Closed-end fund shares are not deposits or obligations of, or guaranteed by, any bank and are not insured by the FDIC or any other agency. Investing involves risk, including possible loss of principal amount invested. This is not a prospectus intended for use in the purchase or sale of any fund's shares. Investors should review a fund's prospectus and other publicly available information, including shareholder reports, carefully before investing. Shares may only be purchased or sold through registered broker/dealers. For more information regarding any of BlackRock's closed-end funds, please call BlackRock at 800-882-0052. No assurance can be given that a fund will achieve its investment objective.
Some BlackRock CEFs may utilize leverage to seek to enhance the yield and net asset value of their common stock, through bank borrowings, issuance of short-term debt securities or shares of preferred stock, or a combination thereof. However, these objectives cannot be achieved in all interest rate environments. While leverage may result in a higher yield for the Fund, the use of leverage involves risk, including the potential for higher volatility of the NAV, fluctuations of dividends and other distributions paid by the Fund and the market price of the Fund's common stock, among others. Certain funds may invest assets in securities of issuers domiciled outside the United States, including issuers from emerging markets. Foreign investing involves special risks, including foreign currency risk and the possibility of substantial volatility due to adverse political, economic or other developments.
Some BlackRock CEFs make distributions of ordinary income and capital gains at calendar year end. Those distributions temporarily cause extraordinarily high yields. There is no assurance that a fund will repeat that yield in the future. Subsequent monthly distributions that do not include ordinary income or capital gains in the form of dividends will likely be lower. Fund details, holdings and characteristics are as of the date noted and subject to change.
The opinions expressed are those of BlackRock as of September 30, 2020, and are subject to change at any time due to changes in market or economic conditions. BlackRock makes no undertaking to change this document in response to such changes. These comments should not be construed as a recommendation of any individual holdings or market sectors.
General market and credit risks: Debt instruments are subject to credit and interest rate risks. Credit risk refers to the likelihood that an obligor will default in the payment of principal or interest on an instrument. Financial strength and solvency of an obligor are the primary factors influencing credit risk. In addition, lack or inadequacy of collateral or credit enhancement for a debt instrument may affect its credit risk. Credit risk may change over the life of an instrument and debt instrument that are rated by rating agencies are often reviewed and may be subject to downgrade. Interest rate risk refers to the risks associated with market changes in interest rates. Interest rate changes may affect the value of a debt instrument indirectly (especially in the case of fixed rate obligations or directly (especially in the case of instrument whose rates are adjustable). In general, rising interest rates will negatively impact the process of a fixed rate debt instrument and falling interest rates will have a positive effect on price. Adjustable rate instruments also react to interest rate changes in a similar manner although generally to a lesser degree (depending, however, on the characteristics of the reset terms, including the index chosen, frequency of reset and reset caps or floors, among other factors).
Municipal market risks: There may be less information available on the financial condition of issuers of municipal securities than for public corporations. The market for municipal bonds may be less liquid than taxable bonds. A portion of the income may be taxable. Some investors may be subject to Alternative Minimum Tax (AMT). Capital gain distributions, if any, are taxable. The Fund may utilize leveraging to seek to enhance the yield and net asset value of its common stock, as described in the Fund's prospectus. These objectives will not necessarily be achieved in all interest rate environments. The use of leverage involves risk, including the potential for higher volatility and greater declines of the Fund's net asset value, fluctuations of dividends and other distributions paid by the Fund and the market price of the Fund's common stock, among others.
Equity market risks: The price of equities may rise or fall because of changes in the broad market or changes in a company's financial condition - sometimes rapidly or unpredictable. These price movements may result form factor affecting individual companies, sectors or industries, such as changes in economic or political conditions. Equity securities are subject to "stock market risk" meaning that stock prices may decline over short or extended periods of time.
SIFMA Municipal Swap Index: 7-dayhigh-grade market index comprised of tax-exempt Variable Rate Demand Obligations (VRDOs) with certain characteristics. The Index is calculated and published by Bloomberg. The Index is overseen by SIFMA's Municipal Swap Index Committee.
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Blackrock Strategic Municipal Trust published this content on 11 November 2020 and is solely responsible for the information contained therein. Distributed by Public, unedited and unaltered, on 11 November 2020 19:56:07 UTC
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