Tax-free municipal bonds advanced and outperformed taxable bonds in the third quarter of 2014. Municipal debt moved roughly in tandem with longer-term Treasuries, whose interest rates declined due to increased geopolitical risks and concerns about sluggish global growth, despite the Federal Reserve's ongoing tapering of its asset purchases. Steady demand for munis and generally limited supply were also favorable factors. Short- and intermediate-term Treasury note and municipal yields increased as investors began to anticipate the onset of Fed rate hikes around mid-2015. Long-term and lower-quality municipals outperformed short-term and higher-quality issues, respectively, as investors continued seeking securities with relatively attractive yields.
The California Tax-Free Bond Fund returned 2.23% in the quarter compared with 2.18% for the Lipper California Municipal Debt Funds Average. For the 12 months ended September 30, 2014, the fund returned 10.44% versus 10.56% for the Lipper California Municipal Debt Funds Average. The fund's average annual total returns were 10.44%, 5.42%, and 4.79% for the 1-, 5-, and 10-year periods, respectively, as of September 30, 2014. The fund's expense ratio was 0.50% as of its fiscal year ended February 28, 2014.
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An improving economy and conservative fiscal leadership under Governor Jerry Brown have greatly improved the California state government's finances. Health care remains a significant overweight, with hospitals accounting for most of our holdings in this sector. We also maintain allocations to select air and seaport names, which provide exposure to revenues from transportation and shipping hubs, as well as to prepaid gas securities for their added yield. We continue to favor revenue-backed bonds and underweight general obligation (GO) debt. Our underweight is mainly attributable to local GO debt, an area in which we remain highly selective given the fiscal challenges facing many California localities. We are more positive at the state level, however, given California's improving economy and ongoing fiscal conservatism. The State of California is the fund's largest guarantor.
The municipal bond market remains a high-quality market that offers good opportunities for long-term investors seeking tax-free income, though we acknowledge that it has become challenging to find attractive yields outside of Puerto Rico and other distressed segments of the market. We are concerned about the potential for rising rates, but believe that further rate increases will be at a more measured pace than what we witnessed last year. We also believe that short- and intermediate-term rates could be more volatile than long-term rates as we approach the first Fed rate hike. Although Detroit and Puerto Rico have taken steps to strengthen their troubled finances, developments in each could adversely affect the muni market in the period ahead. Fundamentally, the credit environment for municipalities is generally sound and should improve with the economy. Over the long term, we remain concerned about state and local government liabilities such as pension benefits and retiree health care costs.