Maryland municipal bonds produced strong third-quarter returns. Munis were one of the best-performing asset classes in the period as global markets and other higher-risk assets fell sharply in recent months in response to China's economic deceleration and tumbling commodity prices. Long-term municipal bonds rallied and yields declined on the news that the Federal Reserve's policymaking committee opted not to increase the fed funds rate at its mid-September meeting as adverse international developments offset ongoing improvements in the U.S. labor market. Longer-maturity municipals generally outperformed shorter-maturity bonds as the municipal yield curve flattened over the period.
The Maryland Tax-Free Bond Fund returned 1.55% in the quarter compared with 1.60% for the Lipper Maryland Municipal Debt Funds Average. For the 12 months ended September 30, 2015, the fund returned 3.35% versus 2.04% for the Lipper Maryland Municipal Debt Funds Average. The fund's average annual total returns were 3.35%, 4.17%, and 4.45% for the 1-, 5-, and 10-year periods, respectively, as of September 30, 2015. The fund's expense ratio was 0.45% as of its fiscal year ended February 28, 2015.
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The Maryland Tax-Free Bond Fund continued to focus on revenue sectors with a heavy emphasis on health care (mostly hospitals). Health care bonds typically offer above-average yields, and the state has many well-run hospitals with a unique reimbursement environment that improves the risk/reward potential in this sector. Our preference for revenue sectors stems from the relative security of specific claims on revenues versus the generic pledges of taxing power associated with general obligation bonds. The fund primarily invests in high-quality Maryland issuers and has a buy-and-hold orientation. Our prerefunded securities holdings have steadily increased as persistently low rates have enabled issuers to refinance older, high-cost debt at more favorable terms, creating a larger allocation to these high-quality securities in the portfolio.
We believe that the high-quality Maryland municipal bond market offers good opportunities for long-term investors seeking tax-free income. We expect increased volatility in the short end of the yield curve as the Federal Reserve moves toward interest rate normalization. However, we do not believe that rates will move considerably higher in the near term. We are mindful that rising rates could weaken the appetite for bonds with higher interest rate risk. However, with the Fed likely to act cautiously, the transition to higher rates may not be as painful as some fear. Ultimately, we believe that T. Rowe Price's independent credit research is our greatest strength and that it will remain an asset for our investors as we navigate the current market environment.