High Yield Municipal Bond Fund Commentary

[Pages:5]Fund Commentary 1Q22

HIGH INCOME MUNICIPAL BOND FUND

MARKET REVIEW

The municipal market, as represented by the Bloomberg Municipal Bond Index, returned -6.23% during the first quarter of 2022. This was the worst quarterly performance for the index since 1981.

Over the quarter, performance was overwhelmingly driven by the extreme rise in yields across the curve. In the beginning of the quarter, yields climbed as investors digested changing monetary policy expectations around the pace of tightening by the Federal Reserve amid continuing inflation concerns. Yields rose further in the latter half of the quarter with continuing hawkish comments by members of the Federal Reserve and the geopolitical crisis in Ukraine adding to uncertainties. While the curve flattened over the quarter with short term rates rising more than longer term rates, performance was most dictated by the notable upward shift of the yield curve. Given this significant rise in yields, shorter-dated bonds significantly outperformed bonds progressively farther out on the curve.

In terms of sector performance, again duration was a primary driver. The Housing sector, which has the longest average maturity of all municipal sectors, was the worst performer. Likewise, the sector with the shortest average maturity, Resource Recovery, led over the quarter.

Similarly, in terms of credit quality, the BBB-rated tier fared the worst, partly as a function of its longer duration relative to other investment grade segments, while the AA-rated credit tier led the higher quality range. The high yield segment of the municipal bond market, as represented by the Bloomberg High Yield Municipal Bond Index, returned -6.53% during the quarter. It is worth reiterating that rates, not credit, was a primary catalyst for performance.

In terms of demand, the municipal funds' streak of inflows from 2021 reversed in early January and the market experienced 12 consecutive weeks of outflows through the end of the quarter, totaling approximately $22 billion in negative net flows as of 3/30/22. Tax exempt supply was roughly in line with the levels seen in the first quarter of 2021, while taxable supply decreased meaningfully.

The United States Census Bureau reported fourth quarter of 2021's combined state and local government revenue figures for property, sales and income taxes at $480.7 billion, increasing 13.1% from the fourth quarter of 2020.

The credit backdrop of the municipal market remains strong with defaults decreasing meaningfully year-over-year. Defaults in the first quarter totaled $320.2 million, representing a 62% decrease from the same period last year.

PORTFOLIO REVIEW

The Fund returned -8.62%, reflecting performance at the net asset value (NAV) of class A Shares with all distributions reinvested, for the quarter ended March 31, 2022. The Fund's secondary benchmark, an 85%/15% blend of the Bloomberg High Yield Municipal Bond Index and the Bloomberg Municipal Bond Index, returned -6.48% during the same period.

Duration positioning was the primary detractor from performance. Due to uncertainties surrounding monetary policy and inflation as well as slowing growth expectations and the geopolitical crisis in Ukraine, the AAA GO municipal yield curve shifted upwards significantly with yields rising over 150 bps at the short end, 115 bps at the 10-year key rate and just over 100 bps at the 30-year key rate. The upward shift was even more dramatic in lower quality, investment grade bonds, as BBB GO municipal yields rose over 170 bps at the short end of the curve, 138 bps at the 10-year key rate and over 125 bps at the 30-year key rate. Given this dramatic rise in yields, the Fund's longer duration relative to the benchmark was the most notable detractor over the quarter and

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dominated the relative underperformance. However, some of this detraction was offset by the Fund's yield curve positioning. Given the flattening of the curve over the quarter with short-term rates rising more than intermediate and longer-term rates, the Fund's slight duration underweight to the 2-year key rate and duration overweight to the 10-year and 30-year key rates benefited relative performance.

While the Fund's quality allocation dragged on performance, its impact was minimal compared to the effect of duration positioning. Although all credit quality tiers generated sizeable negative returns, the `BBB' quality tier fell in price more so than higher quality tiers, partly as a function of the lowest quality, investment grade credit tier's longer duration given the significant rise in yields. Therefore, the Fund's overweight allocation to BBB-rated bonds led to a negative impact on relative performance.

Similarly, security selection detracted modestly and its effect on performance was modest compared to that of duration positioning. Much of the impact to performance can be attributed to the structure of the credits selected. For example, in the Tobacco sector, our selection of lower coupon and longer maturity bonds, which are more sensitive to rising yields, detracted from relative performance given the upward shift of the yield curve. However, in the Transportation sector, our selection of higher coupon bonds contributed to performance, given these credits' shorter duration. Overall, selection within the Transportation and Education sectors contributed to performance and offset much of the detraction from the Tobacco sector.

The impact from the Fund's sector allocation was negligible over the quarter. While an underweight allocation to the Health Care and Tobacco sectors detracted from performance, much of this was negated by the Fund's exposure to the Leasing sector, which contributed. While overall, the Fund was slightly overweight Leasing, its underweight to non-investment grade bonds within the sector benefitted performance considering lower-rated municipal bonds' longer duration and the substantial rise in yields over the quarter.

STRATEGY POSITIONING & OUTLOOK

Although primarily invested in non-investment-grade bonds, the Fund is overweight `A' and `BBB' rated bonds, relative to its secondary benchmark, an 85%/15% blend of the Bloomberg U.S. High Yield Municipal Bond Index and the Bloomberg Municipal Bond Index. The Fund has a higher quality positioning relative to the benchmark to provide diversification and enhance liquidity.

The fundamental backdrop of the municipal market is currently strong, and credit may continue to strengthen into the near future. Almost all municipal sectors have stable or positive outlooks by the credit rating agencies as the market continues to be supported by the robust fiscal spending over the past two years, a better-than-expected economic recovery from the pandemic and strong tax revenue growth. In terms of fiscal spending, it has been estimated that approximately $1 trillion has been passed down to state and local governments as a result of pandemic relief spending by the Federal government. Regarding tax revenues, according to the National Conference of State Legislatures, it is anticipated that half of states will see revenue figures that surpass their original forecasts for fiscal year 2022. More specifically, increased sales tax revenue streams may be powered by higher consumer demand as well as inflationary pressures. Similarly, in the longer term, real estate tax revenues may be pushed up by inflation as well. Given this strong credit backdrop, we are positive on credit risk going forward.

From a sector perspective, the Fund is currently overweight the Industrial Development and Transportation sectors relative to the secondary benchmark.

The current weakness in demand has largely been tied to investor concerns over rising Treasury yields and, to some extent, tax loss selling. The current outflow cycle may endure over the near term should Treasury yields continue to increase, but we expect demand to recover once the market volatility eases. In terms of tax loss selling, some investors have been exiting municipal bond positions to recognize losses in an effort to offset gains achieved in more profitable investments. We expect these tax loss pressures to subside in the near term. While tax exempt supply has been roughly in line with 2021, it would be a negative for the market if supply were to pick up in the near term in concert with continuing outflows.

While the strategy's longer duration relative to the benchmark has led to underperformance in the short term, we expect this positioning to support performance over the long term for various reasons. First, the municipal yield curve remains upward sloping, even given the recent inversion of the Treasury yield curve. We are regularly monitoring the overall shape of the curve in an effort

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to identify the steepest portions to optimize total return. As we typically do not hold bonds to maturity, we are able exploit this steepness through strategies such as yield curve roll down to generate capital appreciation along with tax free income for our clients. Strategies such as this may require positioning further out on the yield curve relative to the benchmark. Additionally, even considering the underperformance of longer-dated bonds in the last quarter, over the long term, intermediate and long-dated bonds have outperformed bonds on the shorter end of the curve. We expect this trend to remain intact going forward, while there will be periods of short-term volatility as seen this quarter. Of note, we continue to maintain the strategy's duration within a tight band of the benchmark.

The market turbulence seen over the last quarter, while painful in the short term, has brought opportunity. With the significant fall in prices since the start of the year, not only do we have access to bonds that were much harder to buy in the strong market environment seen last year, but we can enter these positions at more attractive yields compared to just three months ago at the end of 2021. Additionally, Muni/Treasury ratios have started to normalize from the rich levels seen in 2021 and ratios at the longer end of the curve are starting to approach `cheaper' levels compared to history.

Credit Quality Distribution

AAA AA A

BBB BB B ................
................

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