Municipal bond mutual fund outflows continued to subside last week from recent record-setting levels as the cash most prone to panic appears to have left by now.

Muni mutual funds that report their figures weekly posted a net outflow of $1.07 billion during the week ended Feb. 2, according to Lipper FMI.

This marked the second consecutive week that the weekly net outflow has declined. Outflows peaked at a record $4 billion during the week ended Jan. 19.

The latest outflow was the lightest since early December.

“The number is definitely trending down, which is a good thing,” said Dan Solender, director of municipal investments at Lord Abbett. “The stabilization and positive move in our market has had a positive impact on ­investors and the psychology of the market.”

Many fund managers believe much of the cash escaping the industry since November is the very same “hot money” that flooded the industry in a hunt for yield the past two years.

According to the Investment Company Institute, municipal bond funds reported $69.09 billion in inflows in 2009 and $32.25 billion in the first 10 months of 2010.

After the tide of cash suddenly reversed in November, the funds reported $21.06 billion of outflows the final two months of 2010, and another $12.9 billion in January, based on preliminary numbers.

The $34 billion of outflows the past three months represents a third of the $101 billion of inflows in the 22 months before that.

Many fund managers believe this money was just looking for a place to pick up some return while Treasury rates were abnormally low, and was never meant to be a permanent allocation in the first place.

“Most of the scared money has probably left,” said Tom Spalding, senior investment officer at Nuveen Investments.

He called the latest outflow a “residual trickle-out” from the hot-money exodus that he believes crested last month.

“I think it’s just sort of grinding down and we’ll stabilize here,” Spalding said. “For now, it’s a good sign.”

James Ahn, a portfolio manager with JPMorgan, is not so sure all or even most of the hot money has left.

A third of the inflows from January 2009 to October 2010 is a far cry from all of the inflows, and there’s no telling what proportion of those flows qualified as “hot money.”

Further, while $1 billion is less than $4 billion, it’s not like a $1 billion outflow represents stability for the $467 billion municipal fund industry. It just seems that way because flows had been severely negative for three months.

“Just over $1 billion out this week is still a fairly significant number,” Ahn said. “There are some strategists out there calling for a stabilization in outflows, and I’m not sure that’s the case. … We just got used to these large, large numbers, so $1 billion doesn’t seem like such a horrible number.”

In addition, the deceleration in outflows comes at a time when the muni market is enjoying extraordinarily light supply.

The $12.2 billion of debt municipalities sold last month was the lightest in a decade. State and local governments are slated to sell just $2.62 billion this week, after floating $2.94 billion last week.

When the tax-exempt market finally does face a supply test, perhaps in March or the second quarter, Ahn worries municipals will cheapen and catalyze an acceleration in outflows.

For now, mutual funds are getting a breather from big markdowns on their holdings.

The funds reported $225 million in losses on their underlying holdings last week, as a Standard & Poor’s index tracking total returns on municipals was essentially unchanged.

That index is still down 1.2% for the year, and 5.8% since the end of the third quarter.

Register or login for access to this item and much more

All On Wall Street content is archived after seven days.

Community members receive:
  • All recent and archived articles
  • Conference offers and updates
  • A full menu of enewsletter options
  • Web seminars, white papers, ebooks

Don't have an account? Register for Free Unlimited Access