Category: Shareholder Letters

Letter to Shareholders: December 31, 2022


Dear Shareholder:

An aggressive interest rate tightening campaign by the Federal Reserve (“Fed”) and persistent inflation led to a challenging fixed-income market in 2022. Investment grade municipal bonds posted a loss of -8.53% for the 12-month period according to Bloomberg index data, the worst annual performance since the early 1980s. The year was unsettling to investors who value municipal bonds for their safety and stability.

As bad as this year’s performance might seem, it is worth noting that municipal bonds outperformed most other fixed-income asset classes including U.S. Treasuries, investment grade corporate bonds, and even high yield corporate bonds. There is no denying that 2022 was a tough year for the municipal bond market; however, on a comparative basis, municipal bonds held up relatively well in what was a punishing market.

The Fed raised the fed funds target rate a total of 425 basis points during the year. The Fed last met on December 14 and raised the fed funds target rate by 50 basis points to its current level of 4.25-4.50%. The December meeting was notable because the Fed trimmed its rate hike to 50 basis points from previous rate hikes of 75 basis points. The Fed also reiterated its commitment to lowering inflation to 2% and tightening further. Most economists are forecasting at least another 100 basis points in rate hikes before the Fed pauses.

For the municipal bond market, 2022 was all about “normalization” which meant higher yields and lower bond prices. Due to the inverse relationship between bond yields and prices, municipal bond valuations declined significantly in response to a surge in municipal bond yields.

With 2022 now in the rearview mirror, the focus naturally turns to the question of what next year might have in store for the municipal bond market. We have always doubted the wisdom of so-called financial “experts” trying to make annual market predictions. We instead subscribe to the view that following a consistent, disciplined investing process will invariably lead to better outcomes than trusting the predictions of financial experts. As portfolio managers, we plan on adhering to that process in the coming year and thought it might be useful to briefly mention a couple of factors that we think may have the greatest impact on the municipal bond market next year.

Municipal bond returns during the past ten years have been negative just twice—the first time was in 2013 which coincided with the Fed’s “taper tantrum,” and the second time was in 2022. This steady history of delivering mostly positive returns (even in a decade long low-yield environment) is a testament to the power of the “income” component of bonds. The income component of fixed-income returns accounts for close to 90% of returns for periods as short as five years. With current yields resetting at higher and more attractive levels, the case for owning high quality municipal bonds as part of an overall investment portfolio has become even stronger. While the “normalization” process currently underway has been painful in the short-run, long-term fixed-income investors should view higher yields as a gift. Historically, fixed-income investors who have stayed the course through the ups and downs in the market have almost always been rewarded for their patience with higher absolute returns.

Municipal bonds have demonstrated a tremendous amount of resiliency both after periods of market declines and after the Fed finishes an interest rate tightening cycle. Municipal bonds have posted positive total returns in the 12 months immediately following market declines for the past 30 years. Additionally, following the last interest rate hikes of the previous seven Fed tightening cycles (going back to 1984), municipal bonds have provided consistent positive performance in the subsequent six-month, one-, three-, and five-year time periods. While past performance doesn’t necessarily guarantee future performance, this strong track record suggests that municipal bonds may rebound in the coming year.

The possibility of the economy tipping into a recession looks increasingly likely. Fortunately, the fiscal health of state and local governments continues to be very strong. Overall, a combination of factors including, but not limited to, the approaching end to the Fed’s tightening cycle, moderating inflation, higher yields, strong credit fundamentals, and improved investor sentiment should serve as catalysts for the municipal bond market next year. We are cautiously optimistic about the prospects for municipal bonds in 2023

Capital Gains Distributions:

Capital gains distributions were made in two of our Funds this year: (i) the Alabama Tax-Free Income Series and (ii) the Mississippi Tax-Free Income Series. Capital gains distributions were made on December 15, 2022—separate from and prior to end-of-year dividends. These capital gains distributions, along with all transactions made in your accounts in 2022, will be reflected on your end-of-year statements.

Thank you for investing with us. Happy New Year!




Allen E. Grimes, Ill President


Letter to Shareholders: September 30, 2022


Dear Shareholder:

After getting off to a good start in July, performance in the municipal bond market turned decidedly negative for most of August and September. Yields on benchmark 10-year and 30-year AAA-rated municipal bonds increased approximately 58 and 72 basis points, respectively, during the third quarter. Municipal bond yields have increased (prices down) to a level last seen in 2013.

The recent spike in market volatility has been fueled in large part by the Federal Reserve (“Fed”) which has ramped up its anti-inflation rhetoric and renewed its commitment to continue raising short-term interest rates. The Fed’s “hawkish” tone led to a strong risk-off sentiment in markets and to a broad selloff in all asset classes. For the 9-month period ended September 30, 2022, the Bloomberg Municipal Bond Index provided a total return of -12.13%. The last time municipal bond returns were this poor was in the early 1980s.

On a slightly more positive note, it is worth noting that municipal bonds have outperformed other fixed-income classes such as U.S. investment grade corporate bonds (-18.72% YTD) and U.S. Treasuries (-13.09% YTD). Equities have sold off sharply this year with the S&P 500 and Nasdaq 100 providing total returns of -24.77% and -32.40%, respectively.

Federal Reserve Update:

The Fed raised the fed funds rate by an additional 75 basis points to 3 – 3.25% at its meeting in mid-September. The Fed increased its median fed funds rate estimates for this year and next year signaling that they now expect a fed funds terminal rate in the range of 4.5 – 4.75%. The Fed acknowledged that it would take some time to get inflation back down to desired levels. The Fed sees inflation gradually declining to a level of around 2.9% by 2025. The Fed’s preferred inflation gauge, the core personal consumption expenditures index, increased at an annual rate of 4.9% in August which was up slightly from the previous month.

The Fed has two remaining meetings this year, one in early November and the other in mid-December. The market currently expects that the Fed will raise the fed funds rate at each of these meetings, with most Fed followers expecting 50 or 75 basis point rate hikes. With an active Fed determined to get inflation back in check, it seems likely that markets will continue to experience higher than normal levels of volatility for the remainder of this year.

Against this backdrop, investors are increasingly concerned about the potential for a prolonged economic downturn or even a recession. Economists and market strategists have raised the odds of a recession, and the market seems to be coming to terms with the idea that a recession is probably unavoidable. With a “hard landing” scenario increasingly likely, we thought it might be worthwhile to briefly mention a couple of points that may provide some comfort to long-term municipal bond investors.

Historically, tax-exempt bonds have performed relatively well during recessionary periods. Municipal bond credits are very resilient in uncertain times due to a combination of unique factors including, but not limited to, the following: strong reserves and revenue pledges, the ability of municipal issuers to adjust budgets, and an issuer’s ability to raise taxes, if necessary, to cover required debt service payments. State and local government balance sheets are currently flush with cash thanks to a combination of unprecedented federal assistance and a strong rebound in general fund tax revenue collections. One irony of inflation is that while it’s bad for working Americans, it’s great for government coffers as nominal profits and incomes rise.

Municipal bond credit rating upgrades are currently outpacing downgrades by a wide margin. Municipal bond defaults continue to be very rare events representing just a tiny fraction of the overall market. Only $2.1 billion par value defaulted in 2021, which represented only 0.05% of the $4 trillion municipal market. (Source: Bank of America/Merrill Lynch Research). The vast majority of municipal defaults has been confined to various sectors in the high yield space (e.g., long-term care, charter schools, and land-secured bonds).

The idea of investing in fixed-income during periods of high inflation and rising interest rates can seem counterintuitive. However, thinking and acting rationally in what are often emotion-driven markets requires patience and perspective. From our perspective as fixed-income investment managers, we believe today’s higher municipal yields potentially offer an attractive entry point for new investors or existing investors that have a reasonably long investment time horizon. Valuations in the municipal bond market have improved dramatically, and our portfolio managers are busy adding high quality bonds to our various investment portfolios at very attractive levels. Higher yields offer more of a cushion for total returns over time, even if price movements remain volatile. Instead of trying to time the market, most investors who have stayed the course through past Fed tightening cycles have been rewarded for their patience with higher total returns over the long run.

On the other hand, if you are a risk averse investor with a short investment time horizon, we would be the first to admit that the current market can be treacherous. If you fall into this category, don’t let anybody fool you into thinking that cash isn’t a legitimate asset class.

Before closing, I want to take moment to remember Terry Moore, our receptionist of 17 years who passed away in August. Terry was unfailingly cheerful, kind, and always willing to go the extra mile. We remember her with gratitude as we keep her husband and children in our thoughts.

Thank you for the continued confidence that you have placed in us.




Allen E. Grimes, Ill President


Letter to Shareholders: June 30, 2022


Dear Shareholder:

We’re at the midway point of the year, and financial markets are continuing to grapple with an aggressive Fed and inflation that continues to run hot. Municipal bonds performed better in the second quarter than in the first quarter; but, yields continued to adjust upwards, and bond prices declined. Notwithstanding the disappointing start to the year, we are optimistic that municipal bonds will perform better during the second half of this year.

Before turning to why we think the municipal bond market will improve in the second half of 2022, it’s worth repeating why higher interest rates benefit long-term bond investors. In fact, for investors with a reasonably long investment time horizon, rising rates are something to cheer, not fear. When interest rates rise, new bonds pay a higher coupon, increasing the income investors receive. Because interest income is the primary driver of bond returns, the ability to reinvest into a rising rate environment can help investors build long-term growth. Even over relatively short periods of time, rising income may provide a return advantage for fixed-income investors.

The yields of our funds are expected to rise gradually as we purchase new bonds issued at higher rates. Since the beginning of this year, yields on benchmark 10-year and 30-year AAA-rated municipal bonds have increased nearly 170 basis points. The sharp increase in yields provides us an opportunity to build higher and more durable income streams. For example, we recently purchased a number of high quality municipal bonds in the primary market for several of our tax-exempt funds with yields approaching 4.00% and in one case 4.50%. Higher yields have restored a lot of value to the municipal bond sector which we believe was oversold.

In the past few weeks, bond markets have rallied as financial markets have priced in a much higher chance of a recession. This repricing followed the Fed’s 75 basis point June rate hike and subsequent comments by Fed Chairman Powell acknowledging that steep rate hikes could potentially trigger a U.S. recession. Bond traders have begun pricing in a shallower rate path with fewer interest rate hikes and even a possibility that the Fed will be forced to change course and start cutting interest rates sometime in 2023. The “hard landing” or recession narrative has picked up considerable momentum and has dramatically improved market sentiment towards bonds, while at same time raising additional concerns about current equity market valuations.

Tax-exempt investors can take some comfort in knowing that municipal bonds have generally performed relatively well during recessions. Total returns for municipal bonds have been largely positive during recessions, with two negative episodes in 1981 and 2008. However, each of those periods was followed by a solid rebound. It is also worth noting that municipal bonds tend to outperform other fixed-income assets such as U.S. Treasuries and corporate bonds during Fed tightening cycles.

Credit fundamentals for state and local debt are very strong. General fund revenue collections across the states are robust with most states reporting large revenue surpluses and growing rainy day fund reserves. Credit rating upgrades currently exceed downgrades by a three-to-one margin. With the broad bond market selloff, there appears to be a growing disconnect between municipal bond prices and healthy government balance sheets. Ultimately, strong credit fundamentals should help support municipal bond prices for the remainder of this year, especially in a slow growth or recessionary environment where credit quality becomes of paramount importance.

In the near term, the municipal bond market will likely get a boost as principal and interest payments coming due in June, July, and August are reinvested. Bloomberg estimates that approximately $123 billion will be returned to investors from maturing municipal bonds during this 3-month period. This sizeable reinvestment activity should coincide with a relatively light supply of new bonds as a combination of large amounts of federal aid and strong tax collections has reduced the need for many states and cities to sell debt. These favorable supply-and-demand dynamics should act as a tailwind for the municipal bond sector.

It’s no secret that inflation has recently hit new highs. The big unresolved question is how long high inflation will last? The Fed’s preferred inflation gauge, the core PCE, increased at an annual rate of 4.7% in May which is down from a high of 5.3%. Many economists believe there is a good chance that core inflation will continue to decline through the summer especially if, as expected, consumer spending continues to cool, retailers put excess inventories on sale, and supply chain bottlenecks improve. In addition to monitoring core prices, the Fed also keeps a close eye on inflation expectations because they can feed future inflation. While still relatively high, long-term (5-10 years) consumer inflation expectations are also starting to show signs of trending lower which is a positive development for bond markets.

Unlike the Treasury and corporate bond markets which are controlled by institutional investors, the municipal bond market is dominated by retail investors. This makes municipal bond prices more susceptible to investor flow cycles. Municipal bonds have been in a prolonged outflow cycle as investors react to rising interest rates and elevated inflation. As uncertainty around the Fed’s monetary policy path dissipates further and inflation numbers continue to moderate, the outflow cycle will inevitably come to an end and may ultimately reverse itself.

While additional volatility is always a possibility, we are convinced that better times lie ahead for the municipal bond market. We’re confident that today’s cheaper municipal bond valuations present an attractive entry point for long-term fixed-income investors.

Thank you for the continued confidence that you have placed in us. Enjoy your summer!




Allen E. Grimes, Ill President


Letter to Shareholders: March 31, 2022


Dear Shareholder:

After experiencing record-setting inflows and posting solid returns in 2021, the municipal bond market is off to a rocky start this year. Flows into municipal bond funds turned negative, and Treasury and municipal bond yields surged (valuations have declined) as market expectations reset to reflect ongoing fears about persistently high inflation readings, the outbreak of war in Ukraine, and a pivot to a more aggressive monetary policy stance by the Federal Reserve Open Market Committee (FOMC).

The abrupt and unexpected change in market sentiment and the resulting sell-off in the municipal bond market surprised many, including us. In addition to the factors mentioned above, less favorable supply and demand dynamics (i.e., a higher supply of tax-exempt bonds coupled with less demand) also contributed to falling bond prices. This combination of factors and events led to a perfect storm: the municipal bond market suffered one of its worst quarterly losses on record during the first quarter. The Bloomberg Municipal Bond Index provided a -6.23% total return for the 3-month period ended March 31.

Federal Reserve Update

The FOMC raised the fed funds rate by a quarter percentage point to a target range of 0.25% to 0.50% after its mid-March meeting. It also strongly hinted that additional rate hikes will follow at each of its six remaining meetings this year. Elevated inflation, mainly reflecting supply and demand imbalances related to the pandemic and higher energy prices, was the main reason given for adopting a tighter monetary policy stance.

The FOMC released a new economic forecast and dot plot which provide information about the expected path of the fed funds rate. The FOMC anticipates weaker GDP growth this year, and it now expects to raise the fed funds rate a total of ten times (six hikes in 2022 and four hikes in 2023). That means that the terminal fed funds rate range will probably be somewhere between 2.75% and 3.00%. The FOMC also raised its near-term median forecasts for core PCE inflation to reflect the recent increase in prices.

In addition to raising the fed funds rate, the FOMC also indicated that it would start reducing its balance sheet holdings, which consist of Treasury securities, agency debt, and agency mortgage-backed securities. No precise timeline was announced for starting the balance sheet reduction process, but it could potentially start as early as May. Instead of purchasing more securities or replacing securities coming due, the FOMC will simply let securities roll off organically as the debt matures. With approximately 25% of the balance sheet maturing within two and a half years, the FOMC should effectively be able to reduce the size of its balance sheet without having to resort to any open market asset sales.

The Income Component of Fixed-Income Returns

Make no mistake, the volatility and downward price action in the municipal bond market have been gut wrenching. As human beings, our natural tendency is to react emotionally to market sell-offs which almost always leads to poor investment decisions. With bond yields still relatively low and the FOMC embarking on an interest rate hiking cycle, fixed-income investors are understandably a bit anxious and nervous.

Benjamin Graham, known as the father of value investing, believed the key to investment success—in both equity and bond markets—is having the temperament to keep emotions in check and remain focused on long-term results. In his book, The Intelligent Investor, Graham wrote, “For indeed, the investor’s chief problem—and even his worst enemy—is likely to be himself.”

In volatile markets with falling bond prices, investors sometimes forget that the income component of fixed-income investments typically accounts for over 90% of total returns for periods as short as five years. If you are an investor with a reasonably long investment time horizon, it isn’t rational to focus on bond prices alone when the vast majority of the total return of bonds is generated by the income component. While the share prices of all our single-state municipal bond funds have declined recently, each of these funds continues to generate a steady stream of tax-free income that can be counted on, regardless of share price.

Interest rates have remained at historically low levels for close to a decade which has caused the prices of bonds to remain artificially elevated. With yield normalization, bond prices will be returning to more historic levels, and investors will be earning higher yields as new bonds are issued at higher interest rates. In a rising interest rate environment, when it’s time to reinvest bond proceeds from coupon payments, calls, and/or maturities, changes in interest rates do matter. As rates rise an investor can reinvest at higher yields. If an investor has a multi-year investment time horizon, this reinvestment effect means that the investor should ultimately be better off. So, please keep in mind that with rising interest rates long-term bond investors have little to fear and even, potentially, something to gain.

The shift to a buyer’s market from a seller’s market happened quickly and without much warning. From our perspective as portfolio managers, sell-offs like we experienced during the first quarter of this year present great opportunities to find value and build higher and more durable income streams for investors. Rest assured, we are staying busy trying to do just that.

Thank you for the confidence you have placed in us.




Allen E. Grimes, Ill President


Letter to Shareholders: December 31, 2021


Dear Shareholder:

It’s hard to believe, but two years after first emerging the pandemic shows no signs of abating with the omicron variant spreading rapidly across the world and pushing COVID-19 infections to record levels. Our hearts go out to everyone that has been affected by the ongoing public health crisis, and we continue to be grateful for the heroic and valiant efforts of our front-line healthcare workers. We are also keeping our shareholders that may have been impacted by the recent tornadoes in western Kentucky, Tennessee, and Mississippi in our thoughts and prayers.

Municipal Market Update

While 2021 was another tough year in many respects, the municipal bond market managed to turn in a positive performance for the year. For the 12-month period ended December 31, the Bloomberg Municipal Bond Index provided a total return (which includes price changes and interest payments) of 1.52 percent. Municipal bonds outperformed other fixed-income assets such as U.S. Treasuries and investment grade corporates, both of which delivered negative total returns for the year.

The municipal market’s steady performance was fueled by a combination of favorable supply and demand dynamics (i.e., limited supply combined with strong demand), improving credit fundamentals, and passage by Congress late in the year of the $550 billion infrastructure package. Solid tax revenues and unprecedented federal support have helped state and local governments weather the pandemic much better than anticipated. Municipal credit upgrades have outnumbered downgrades this year. Improving credit quality has led to strong inflows into municipal bond mutual funds and exchange-traded funds. While the number of municipal bond defaults has ticked up slightly, defaults remain concentrated almost entirely in the high yield space led by nursing homes, industrial revenue bonds, and charter schools.

Trying to predict future market performance is always hazardous, especially in the middle of a pandemic. Nonetheless, we think a couple of factors will help support the municipal bond market in the coming year.

Credit quality in the investment grade municipal bond market is currently stronger than ever. State and local governments are flush with cash thanks in large part to COVID-19 relief. State and local tax revenues have soared as nominal profits and incomes have risen. Property, corporate, sales, and individual tax revenues have all risen sharply thanks to a strong economic recovery, a frothy stock market, a strong housing market, and ongoing federal assistance. That, coupled with the fact that U.S. municipalities are set for another large multi-year infusion of cash from the infrastructure package, has led many to conclude that municipal bonds may be set for a “golden decade” of credit ahead. The credit quality of each of our Funds is very strong, and we believe that the credit quality will remain strong in light of these factors.

Seasonal factors should also help support the municipal bond market as we start the new year. Historically, the “January Effect” has been supportive of municipal bond performance as reinvestment income from maturities, calls, and coupons significantly outpaces new supply. Continued strong demand, coupled with a net negative supply of municipal bonds, will likely help the municipal bond market get off to a strong start next year and should act as a floor for any potential price declines.

One slightly technical observation and potentially bullish development is also worth noting. Recently, the strong historic correlation between municipal bonds and U.S. Treasuries has weakened. As this year’s performance demonstrated, municipal bonds simply are not tracking U.S. Treasuries the way they used to. One plausible explanation for the decoupling is that the municipal bond buyer base is increasingly comprised of small retail buy-and-hold investors, as opposed to institutional investors which dominate the Treasury market. This “stickier” buyer base has resulted in less volatility for municipal bonds. If this trend continues, it potentially has implications for next year as the weaker correlation makes municipal bonds more attractive as a potential hedge against rising Treasury yields.

Federal Reserve Update

The Federal Open Market Committee (FOMC) met on December 15 and left the federal funds rate unchanged at 0 to ¼ percent. In response to persistently elevated inflation readings, it decided to double the pace of its quantitative easing taper which it first announced in November. The taper should be complete by as early as March. The FOMC’s statement was notable because it abandoned the term “transitory” that it had previously used to describe inflationary pressures which remain stubbornly high. The guidance on interest rate hikes also changed and is now weighted more towards labor market conditions (i.e., future assessments of maximum employment) rather than price stability. Overall, there were no huge surprises. The FOMC is still expected to raise interest rates by the same amount, but interest rate hikes are now expected to start sooner than originally anticipated.

Capital Gain Distributions

Capital gains distributions were made in four of our Funds this year: (i) the Kentucky Tax-Free Income Series, (ii) the Mississippi Tax-Free Income Series, (iii) the North Carolina Tax-Free Short-to-Medium Series, and (iv) the Alabama Tax-Free Income Series. Capital gains distributions were made on December 16, 2021—separate from and prior to end-of-year dividends. These capital gains distributions, along with all transactions made in your accounts in 2021, will be reflected on your end-of-year statements.

Thank you for investing with us. Happy New Year!




Allen E. Grimes, Ill President


Letter to Shareholders: September 30, 2021


Dear Shareholder:

The third quarter was, for the most part, a quiet and uneventful one for the municipal bond market. It was “quiet” because trading volumes and measures of market volatility for the municipal bond market hit new lows. Investors are hanging on to the municipal bonds in their portfolios and also snapping up new issues at a record pace. It was “uneventful” because (with the exception of a small spike in yields at the end of the quarter) municipal bond yields and prices remained range-bound. The Bloomberg Barclays Municipal Bond Index has provided a year to date total return of 0.79%.

The Federal Reserve Open Market Committee (”FOMC”) wrapped up its two-day meeting on September 22. The FOMC kept the fed funds target range unchanged at 0 to 0.25%. One of the main takeaways from the meeting was a signal that the FOMC is close to starting the “tapering” process of winding down its asset purchases. The FOMC will likely announce the start of the taper at its November meeting. Nobody really knows how long the taper will last. However, it is worth noting that the 2008 taper lasted approximately 14 months and the 2014 taper lasted approximately 10 months. Chair Powell has suggested that the taper could potentially be complete by mid-2022.

Regardless of how long it lasts, it’s critical to understand that tapering is not the same thing as tightening. To the contrary, monetary policy will continue to be accommodative as the FOMC’s balance sheet will continue to grow, albeit at a slightly slower pace. Economists estimate that the FOMC’s balance sheet will exceed $8.5 trillion at the end of the taper process, which is roughly double the size that it was two years ago. Moreover, the FOMC’s balance sheet is expected to stay at elevated levels for the foreseeable future.

After the official taper announcement, the focus will then shift to a discussion of the anticipated date of “liftoff” and the future path of the fed funds rate. The FOMC did update its “dot plot” at the September meeting, and several participants pulled forward their assessments of when the first interest rate hike would likely occur (9 of 18 participants now see a first interest rate hike in 2022 versus 7 in June). Nine FOMC participants also expect that the fed funds target rate will be above 1% by the end of 2023. The upward revisions were relatively minor and make sense given that recent elevated inflation readings have been more persistent than originally anticipated.

Discussing the nuances of the taper and trying to predict the date of liftoff are probably best left to economists and strategists. Instead, we think a couple of key points are worth considering as we move a bit closer to the start of a Fed tightening cycle. First, even though on the surface it may sound counterintuitive, interest rate increases are not a bad thing for fixed-income investors. Changes in interest rates matter when it’s time to reinvest proceeds from coupon payments, called bonds, or bonds that have matured. Rising interest rates allow a fixed-income investor to reinvest at higher yields. This is the exact opposite of “financial repression” which is the term used to describe market conditions that have prevailed for the past decade or so where investors have been forced to accept lower yields that are available in the market at the time of reinvestment. As market yields normalize over time, the yields of our funds will also start gradually increasing as we purchase new bonds issued at higher coupon rates.

Make no mistake, what can be bad for short-term fixed-income investors are sudden and large increases in interest rates. The FOMC has been talking about the taper since last December, and it has been very transparent about the criteria that must be met before a first interest rate hike occurs (i.e., maximum employment and inflation that runs above 2.0% for some time). To its credit, the FOMC has devoted a significant amount of time and resources in recent years to improving its transparency and communications. We don’t think the FOMC will want to jeopardize its hard work and credibility by surprising markets with any sudden or larger than anticipated interest rate hikes.

We continue to believe that the tightening cycle will be a gradual and shallow one. The economy continues to face numerous challenges and uncertainties, including significant supply-chain bottlenecks. This, combined with the fact that the starting point for the tightening cycle is near zero, strongly suggests that the fed funds terminal rate (the rate that exists at the end of the tightening cycle) will be substantially lower than it has been in previous tightening cycles.

Some nervous investors might be tempted to sell their bonds in anticipation of rising yields with the idea of buying them back once they cheapen up. We think it’s worth briefly reminding folks that timing the market is almost always a losing proposition. Moving to cash instruments yielding near 0% carries with it a large opportunity cost, especially if yields don’t rise as soon or as much as expected. Reallocating from bonds to stocks when stock market indices are near all-time highs is an even riskier proposition. The upshot is that if you are an investor with a multi-year investment time horizon, there’s really no good reason to fear yield normalization–it’s actually a positive long-term development.

It should be noted that Congress is still busy negotiating the passage of an infrastructure bill and much larger reconciliation bill. The details of the reconciliation bill are changing on a daily basis. Passage of an infrastructure bill will likely have a net positive impact on the municipal bond market. Among other things, higher individual and corporate income tax rates will make holding tax-exempt municipal bonds even more attractive for retail and institutional investors. Higher corporate tax rates should result in increased demand for tax-exempt municipal bonds by banks and property and casualty insurers, both of which significantly reduced their purchases after the 2017 tax reform. With higher tax rates on the horizon, we think it’s more important than ever to have a portion of your overall investment portfolio invested in high quality tax-exempt bonds.

Thank you for your continued trust and support.




Allen E. Grimes, Ill President

Letter to Shareholders: June 30, 2021


Dear Shareholder:

Municipal bonds turned in a mixed performance during the first half of this year. While the first quarter witnessed an unexpected surge in Treasury yields that led to some volatility in municipal bond prices, municipal bonds then proceeded to post positive total returns each month during the second quarter. For the six-month period ended June 30, the Bloomberg Barclay Municipal Bond Index provided a total return of 1.06%.

Favorable supply and demand dynamics, a steady interest rate environment, and improving credit fundamentals all contributed to the steady performance of the municipal bond market. Summertime has historically been a period of strong performance for municipal bonds as reinvestment flows typically outpace new municipal bond issuance. This summer looks to be no different. Bloomberg estimates that $165 billion will be returned to bondholders (due to maturing bonds and interest payments) for reinvestment into the market, which is roughly $45 billion more than what is expected to come to market via new issuance. This “net negative supply” environment should keep bond prices firm in the near-term, especially with continued strong demand for tax-exempt investments.

The macroeconomic outlook continues to improve. Economic growth has strengthened considerably in recent months with real gross domestic product (GDP) increasing at an annual rate of 6.4% during the first quarter of 2021. This rapid growth reflects the continued bounce back in activity from depressed levels as large areas of the country emerge from the pandemic. Consumer spending for goods and services, which accounts for roughly two thirds of the U.S. economy, is increasing at a rapid pace, and the housing market is very strong. The labor market has also strengthened with the unemployment rate in May standing at 5.8%.

The vast majority of states and cities have emerged from Covid-19 with better than expected revenues. Against this backdrop and flush with federal stimulus dollars, governors and mayors across the country are pushing for large increases in spending. According to data compiled by the National Association of State Budget Officers, total general fund spending proposals rose approximately 5% to $963.6 billion for fiscal year 2022, with 39 states forecasting spending increases. At the federal level, Congress is currently debating passage of additional wide-ranging fiscal policy measures to shore up the economy and social welfare programs. All of this is occurring at a time when the Federal Reserve Board (the “Fed”) continues to maintain an accommodative monetary policy.

Not surprisingly, this confluence of events has raised concerns about the potential for an outbreak of inflation. To be sure, inflation readings have increased notably in recent months. The Fed’s preferred inflation measure, the core Personal Consumption Expenditures Index, increased at an annual rate of 3.4% in May (up from 3.1% in April). This rate exceeds the Federal Reserve’s 2% longer-run inflation goal. However, there is an intense ongoing debate about whether the recent increase in prices will be “transitory” in nature as the Fed sees it, or “sticky” as others believe will be the case.

In testimony before Congress, Fed Chair Powell noted that the recent increase in inflation likely reflects four main factors: (1) base effects (i.e., comparisons with the low prices during the Covid-19 shutdown); (2) a rebound in spending as the economy reopens; (3) pass through of past increases in oil prices to energy prices; and, (4) supply bottlenecks which have limited how quickly production in some sectors can respond in the near term. Other Fed officials have also noted that large outliers such as skyrocketing used car and truck prices (+7.3% in May), car and truck rental prices (+12.1% in May), and airfares (+7.3% in May) have accounted for a significant portion of the price increases and are likely to revert to a level closer to the Fed’s longer-run target as demand cools and these transitory supply effects abate.

The counterargument to the Federal Reserve’s position is that some elements of consumer prices have exhibited signs of more sustained price increases. For example, housing prices have moved up sharply in recent months and have showed no signs of cooling. A shortage of semiconductors has also pushed up prices of consumer electronics and appliances. Some economists and investment professionals have also pointed out that the current administration’s focus on reducing wealth inequality and promoting clean energy may support a structural lift to inflation.

The market seems to be signaling that inflation will be transitory. The 5-year and 10-year breakeven inflation rates are currently at 2.51% and 2.35%, respectively. We tend to agree with those who believe that the parts of the economy that are contributing the most to inflation in recent months are merely “reflating” back to normal levels and will likely level off later this year or early next year. We certainly don’t think the temporary spike in prices will lead to runaway inflation.

The Fed has been purchasing $80 billion of Treasuries and $40 billion of mortgage-backed securities on a monthly basis since March 2020 to support the economy. The inflation debate has renewed attention on the issue of when the Federal Reserve will begin to start winding down its asset purchases (also known as “tapering”). The Fed indicated after its most recent meeting which was held in mid-June that it would continue its purchases at the same pace until “substantial further progress” is made on employment and inflation.

The timing and duration of the Fed’s tapering is important because it will likely dictate the timing of any future interest rate hikes. Most Fed watchers expect that the tapering process will be slow and gradual. After the 2008 financial crisis, tapering lasted approximately fourteen months. If history is any guide, and assuming that the Fed begins the process early next year, that would mean that the first interest rate hike could possibly come as early as the first quarter of 2023.

As always, thank you for investing with us. Enjoy your summer!




Allen E. Grimes, Ill President

Letter to Shareholders: March 31, 2021


Dear Shareholder:

Municipal bonds turned in a mixed performance during the first quarter. In January, the municipal bond market got off to a solid start and posted positive total returns. However, things quickly changed in February when an unexpected surge in Treasury yields led to a broad-based selloff in all fixed-income markets. Yields on 10-year Treasuries increased 83 basis points during the first quarter. Yields on 10-year benchmark AAA-rated municipal bonds moved higher in tandem with Treasuries, but to a lesser degree (41 basis points) during the first quarter. As yields rise, bond prices decline.

A number of factors contributed to the sudden spike in yields. Increased optimism about the progress of the COVID-19 vaccine rollout and the re-opening of the economy led many, including the Federal Reserve, to raise their economic growth forecasts. The Federal Reserve is now projecting that real GDP will increase at a 6.5% rate in 2021. The recent passage of an additional $1.9 trillion economic stimulus package (the “American Rescue Plan”) and the prospect of a $2.25 trillion infrastructure bill also contributed to the surge in yields. All of these developments caused the market to increasingly focus on, and price-in, upside risks to inflation.

Yields on Treasuries and municipal bonds decoupled somewhat in March with municipal yields moving lower (prices higher). An improving credit outlook, favorable supply and demand patterns, and the prospect of higher taxes under a new administration all contributed to a slight rebound in municipal bond prices during the month of March. Despite the ups and downs of the market, municipal bonds ended the first quarter almost flat with the Bloomberg Barclays Municipal Bond Index providing a total return of -0.35%.

State & Local Assistance:

The American Rescue Plan is the sixth stimulus bill passed since the onset of the pandemic and the largest to date. In the aggregate, enacted COVID-19 relief funding now stands at $5.2 trillion. The American Rescue Plan provides $350 billion to state and local governments to make up for the financial toll caused by the pandemic. The financial aid will be apportioned based on the share of unemployed workers in each state, meaning larger states will receive the most aid. Approximately $195 billion of the aid package is being allocated directly to states. Local governments across the country will receive approximately $130 billion, split evenly between municipalities and counties. The aid is expected to be released in two tranches, with the first funds required to be delivered by mid-May.

Under the funding formula estimates, Kentucky will receive $2.4 billion in state assistance; Tennessee will receive $3.8 billion; Alabama will receive $2.1 billion; Mississippi will receive $1.8 billion; and North Carolina will receive $5.2 billion.

The stimulus funds come with certain restrictions and must be spent by December 31, 2024. In short, the funds can be used to respond to the COVID-19 public health emergency or its negative economic impacts; support essential workers; provide public services in an amount up to the decrease in revenue versus the prior fiscal year; and finance water, sewer, and broadband infrastructure projects. There are two restrictions: (i) funds cannot be deposited into pension funds and (ii) funds cannot be used to “either directly or indirectly offset a reduction in the net tax revenue.” The tax cut restriction clause does not apply to localities, but the pension clause language remains intact. In the coming months, the Treasury Department will be issuing formal guidance that provides further clarification about permissible uses for the aid money.

Moody’s, Standard & Poor’s, and Fitch Ratings have all raised their outlook on the credit ratings of state and local governments to stable from negative noting that the aid will help stabilize finances and make up for revenue lost during the pandemic. Sectors that were hit especially hard by COVID-19 such as mass transit, airports, convention centers, toll roads, and higher education will receive an immediate boost from the new round of financial assistance.

Overall, the passage of the American Rescue Plan is a big win for the municipal bond market. Now, as one commenter aptly noted, the hard part will begin–giving away all of the money! An improving credit outlook, strong supply and demand technical factors, and anticipated tax reform should all help to support municipal bond prices in the coming months.

Federal Reserve Update:

The Federal Reserve Open Market Committee (“FOMC”) met on March 16-17 and decided to keep the target range for the federal funds rate unchanged at 0 to ¼ percent. The FOMC reaffirmed its current interest rate stance and also announced that it will continue its asset purchases. Chair Powell’s post-meeting press conference comments and his subsequent testimony to Congress suggest that he does not expect that the fed funds rate will be increased before late 2023. He also made it clear that he believes that any stimulus-induced inflationary pressures will likely be “transitory” in nature.

Thank you for the continued confidence that you have placed in us.




Allen E. Grimes, Ill President

Letter to Shareholders: December 31, 2020


Dear Shareholder:

There’s no shortage of articles discussing what an awful year 2020 has been. It’s been a tough year, especially given the unthinkable loss of life that COVID-19 has wrought. Instead of rehashing all of the trials and tribulations of 2020, I thought I would briefly discuss some of the more positive developments that occurred throughout the year and mention a few things to which we can hopefully look forward in the New Year.

The best news of all is that thanks to a very successful and unprecedented public-private partnership a number of vaccines for COVID-19 were developed in record setting speed. Since the novel coronavirus was first reported in late 2019, scientists, physicians, and drug companies around the world have conducted hundreds of research studies focused on the diagnosis, prevention, and treatment of COVID-19. Previously, the fastest vaccine development process was for the mumps vaccine, and that process took four years. It’s really quite remarkable to think that just one year after the onset of COVID-19, we have already begun rolling out vaccines to our front-line healthcare workers, overseas troops, and more compromised populations. With more hard work and a little luck, it’s possible that a good percentage of the population will have received a COVID-19 vaccination by the middle of 2021. Innovative mRNA vaccines developed by several of the leading drug companies are not only highly effective against COVID-19, but also offer the promise of a breakthrough tool that may be used in the fight against other viral diseases.

Another positive and somewhat counterintuitive thing happened this year: financial markets actually performed exceptionally well. In the midst of a global pandemic and the ensuing deep recession, financial markets exhibited a remarkable degree of resiliency. After a gut-wrenching sell-off in March fueled by the onset of coronavirus and liquidity concerns, both equity and fixed-income markets staged impressive rallies and finished the year up sharply. Among other things, an unprecedented level of intervention by the Fed helped support (and potentially inflate) asset prices.

The municipal bond market turned in a very respectable performance with the Bloomberg Barclays Municipal Bond Index providing a total return of 5.2% for the 12-month period ended December 31, 2020. Municipal bonds weren’t spared from the carnage in March (when interest rates soared more than 225 bps in just nine trading days), but the asset class bounced back with tremendous speed and force. Investment grade municipal bonds performed well as the year progressed, even as the number of COVID-19 cases continued to climb and more jurisdictions were forced to implement lockdowns that negatively impacted their economies.

While the pandemic has led to a significant decline in state tax revenues, the news on this front is not all bad. Just like COVID-19 has affected some sectors more than others, it has also affected some states more than others. States that are particularly dependent upon tourism and leisure industries and that have higher unemployment rates and higher virus transmission rates are generally seeing larger impacts on their economies and tax revenues. New York and California have been hit particularly hard. Nonetheless, many people are surprised to learn that state and local governments’ revenues, as a whole, have held up better than expected during these difficult times.

Several factors seem to explain the better than expected numbers. Unlike years with typical investment-driven downturns, 2020 was characterized by a dramatic contraction and re-expansion in consumption. Consumer spending accounts for rough 70% of GDP, so a quicker than expected normalization in consumer spending levels has helped considerably. State income tax receipts have remained relatively buoyant because the majority of the job losses have been concentrated among lower earners who pay a relatively small amount of income tax. Tax receipts have been especially resilient in states that rely on progressive income taxes, as higher earners have successfully adjusted to the work-from-home environment. Additionally, due to a recent change in the law, many states are now collecting taxes on online sales that have boomed during the pandemic. Higher stock market valuations have also led to an increase in capital gains tax collections in many jurisdictions (this should help underfunded state pension plans too). Low absolute yields have aided the COVID-19 recovery by allowing state and local issuers to refinance many projects that were originally financed at much higher interest rates. Lower mortgage rates have led to a housing boom that has resulted in higher property tax collections, which are typically used to support local municipal credits.

Aid to state and local governments via the CARES Act largely offset revenue declines for the last fiscal year that ended in June. However, the fight over additional direct federal assistance to states and cities continues in Washington. We would not be surprised to see a smaller, more targeted relief bill passed next year, but this is purely speculation on our part.

I’m not suggesting that states and cities are completely out of the woods at this point. To the contrary, most states and cities will be faced with making very difficult budget decisions in 2021. However, we continue to believe that the situation is manageable (with or without additional federal assistance). Unlike corporations, states and cities have a tremendous degree of flexibility and a variety of tools at their disposal to manage their finances.

Default rates for investment grade municipal bonds have stayed at low levels. The slight uptick in default rates this year has been confined to the high yield sector with nursing homes representing roughly 40% of the defaults, followed closely by land secured deals involving real estate and industrial projects. The number of credit downgrades of investment grade municipal bonds has also stayed exceptionally low. While the number of defaults will probably trend up next year, we think most of those defaults will continue to take place in the high yield sector. We don’t hold any high yield municipal securities in any of our single-state funds.

We are staying busy keeping a close eye on all of the holdings in our investment portfolios. Many of the factors that helped support the municipal bond market this year (e.g., favorable supply and demand patterns and a slow growth/low inflation environment) will remain intact next year. We expect municipal bonds will generate positive total returns again in the coming year. However, with low absolute rates and bond prices having already rallied strongly this year, it seems likely that much of the anticipated positive performance next year will be derived from coupon income and not price appreciation. Hopefully, we will see less market volatility in 2021.

Thank you for investing with us. Happy New Year!




Allen E. Grimes, Ill President

Letter to Shareholders: September 30, 2020


Dear Shareholder:

Compared to the first half of this year, the third quarter of 2020 was relatively uneventful for the municipal bond market. Bond market volatility was muted, and yields continued to grind slightly lower (i.e., prices moved higher). Despite ongoing worries about the fallout from COVID-19, credit conditions in the investment grade municipal bond sector have continued to hold up remarkably well with only a small number of issues receiving credit downgrades. Favorable supply-and-demand dynamics have continued to act as a tailwind for the municipal market. The Bloomberg Barclays Municipal Bond Index provided a total return of 1.23% for the third quarter and 3.33% on a year-to-date basis.

One slightly unexpected recent development in the municipal market is worth noting. On the supply side, state and local governments are issuing taxable municipal bonds at a record pace due to falling interest rates and the 2017 tax-cut law that restricted issuers’ ability to advance refund tax-exempt issues. The low interest rate environment has allowed state and local governments to refinance debt with taxable securities that cost less than what they are paying on outstanding tax-exempt bonds. So far this year, state and local governments have issued close to $100 billion in debt subject to federal income taxes. If the current pace continues for the remainder of this year, the supply of taxable municipal bonds may come close to or even surpass the $154 billion in taxable bonds issued in 2010 when the Build America Bond program expired. This refinancing activity should help ease budgetary fiscal pressures.

The credit quality of all of our investment portfolios remains very strong. We have taken proactive steps in a few of our funds to eliminate or reduce our positions in certain credits where we felt those holdings had a higher-than-average risk of a potential credit downgrade. Most of the bonds that we have sold (which represent only a small fraction of our overall investment portfolios) were in sectors that have been disproportionately impacted by COVID-19. Examples of such sectors include, but are not limited to, convention centers, airports, small colleges, and small rural hospitals.

From a portfolio strategy perspective, we have a current bias towards essential service revenue bonds that finance critical services such as water, wastewater, and electricity. Essential service bonds offer stable and sustainable revenue streams that are better protected in an economic downturn. We also currently favor bonds issued by school districts, flagship universities, and high quality national and regional health systems. Our portfolio managers are being extra careful when it comes to security selection, and they are spending a considerable amount of their time and efforts watching over all of the holdings in each of our investment portfolios.

The issue of providing additional financial assistance to states and localities is still under consideration by Congress. It looks increasingly unlikely that this matter will be resolved before the election. Regardless of whether additional federal aid is forthcoming, we think it is worth bearing in mind that state and local governments have a wide variety of tools at their disposal to recover lost revenues and manage their finances. Fortunately, most states entered the current economic downturn in relatively strong financial positions, many with sizeable rainy day reserve funds. Additionally, property tax revenue, which supports local debt issued by cities, towns, and counties, has increased as a result of a housing-sales boom stimulated by low mortgage rates.

Federal Reserve Update:

As expected, the Federal Reserve Open Market Committee (“FOMC”) left the federal funds target rate unchanged at 0 to 1/4% at its September meeting. However, in a surprise policy change, the FOMC adopted explicit forward guidance and indicated that any future interest rate hikes would be on hold until “inflation has risen to 2 percent and is on track to moderately exceed 2 percent for some time.” (Emphasis added).

In short, the FOMC has adopted what economists call an “inflation overshoot” into its forward policy guidance. This shift in strategy will permit the FOMC to worry less about fighting inflation and to focus more on achieving maximum employment and improving living standards. This represents a significant departure from past FOMC policy which has always been heavily tilted towards fighting inflation. Many of you probably remember Paul Volcker’s brute-force campaign in the late 1970s and early ‘80s to tame inflation. It appears that, after all of these years, the thinking at the FOMC has evolved.

As a practical matter, the new policy guidance means that interest rates will likely remain anchored at their current low levels for an even longer period of time since the FOMC has indicated that it will not start tightening monetary policy as early in the cycle, even if inflation reaches 2%. The FOMC’s updated economic projections which were released at the September meeting indicate that the majority of FOMC members don’t expect interest rates to rise before 2023. A stable interest rate environment should help municipal bonds continue to perform well.

New Online Access Shareholder Portal:

We are pleased to announce the recent launch of Dupree’s upgraded online access portal. The new portal offers a more user-friendly interface, easier navigation, and enhanced security features. Please note that all shareholders who wish to access the online portal must register with a new user id, even if they were previously registered under the old system. Shareholders may register by following the “Online Access” tab at Please call us if you need any assistance with the registration process.

Thank you for the continued confidence that you have placed in us.




Allen E. Grimes, Ill President