Improving local finances helped fuel a nine-quarter rally in municipal debt starting in 2011, the longest in two decades, Bank of America Merrill Lynch data show. While broad fixed- income losses since May halted the gains, local governments' borrowing costs are still close to the lowest in decades.

An expanding economy helps localities repay obligations in full and on time. State tax collections have risen for 12 straight quarters, according to the Nelson A. Rockefeller Institute of Government in Albany, New York. Home prices in 20 cities rose 12.05 percent in April from the same month last year, the biggest annual gain since 2006, the S&P/Case-Shiller index shows.

U.S. gross domestic product may grow about 1.9 percent this year and by 2.7 percent in 2014, the fastest pace since 2006, according to the median forecast of analysts surveyed by
Bloomberg News.

Eoin Treacy's view It is true that as the US economy stabilised and municipalities made some tough budget decisions, the pace of defaults declined considerably. An additional consideration is that the Fed's quantitative easing program depressed Treasury yields to such an extent that the allure of tax advantaged municipals increased substantially. This contributed to lower borrowing costs and facilitated refinancing at highly attractive rates. The pace of municipal issuance hit an historic peak of $450 billion in 2010, fell back to the historic baseline of $250 billion in 2011 and was $350 billion in 2012. To date in 2013, issuance stands at $160 billion.

The majority of municipal bond yields surged by 50% from May, albeit from an historically low level, as anxiety surrounding the tapering of QE pressured leveraged traders in particular . On a price basis, the iShares S&P National Municipal Bond Fund hit at least a medium-term peak near $115 in November and held a progression of lower rally highs until May before breaking sharply lower. It found at least short-term support in the region of $100 last week and bounced impressively. The medium-term outlook for US Treasuries is likely to have a significant bearing on the market for municipal bonds. In the last five years, dives in bond prices have been followed by major intervention by the Fed to support markets. If Fed tapering goes ahead as planned, ETFs such as MUB above are likely to encounter resistance below or in the region of the lower side of their overhead trading ranges.

Following a sharp move from early May, US Treasury yields paused in the region of 2.6% from late June but formed an upside key reversal yesterday. Follow through tomorrow would suggest a low of at least near-term significance and bolster the view that supply remains dominant over the medium term.

In the corporate bond markets, companies have been using the lowest absolute borrowing costs in their history to optimise their balance sheets. As spreads contracted from the 2008 peak, supply surged, hitting a new peak of $1.54 trillion in 2012.

From the perspective of corporations which have been able to lock in long-term funding at attractive rates, the situation that prevailed over the last few years has represented a windfall. However, from the perspective of investors the advent of Fed tapering poses a challenge. Spreads may be bottoming and in absolute terms, prices are more likely to rise than fall once the Fed begins to decrease the quantity of new money created. Investors who are not happy to hold to maturity will then have to weigh whether to exit now or to wait. This uncertainty is likely to curtail the ability of the market to rally to new highs on a price basis.