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Leverage is not our friend; it is our enemy and the idea of finding value in corporate bonds does not exist.

Why Municipal Bonds?

June 23rd, 2021 by Kurt L. Smith
  • The obvious answer to the question “Why municipals?” is they are tax-free. That is a good reason, especially if the benefit is greater than the alternatives. From the days of double-digit yields of the early 1980’s the added benefit of the tax-free feature has almost always been worthwhile to investors in the highest tax brackets.

    Of course, an almost forty year bull market for bonds helps as well, but that is over. Bond performance no longer has the wind to its back; bond performance now faces many headwinds. Selection is key no matter the market, but in today’s new bond market, selection is paramount.

    The final stages of the bond bull market have wreaked havoc with investment managers and their investor clients. Where is the yield and what has performed well in these final throes of the bull? You know it is junk, or high yield. For municipals this means prisons, nursing homes, dormitories and other housing or land-based, new projects. For corporates, well you can find lower rated credits across industries.

    Again, that was before the bull ended. In today’s new bear I see those troubled credits trade very similarly, to high grade credits. In other words, investing in junk is a trade. That is the problem with the end of the trend. Something may still have a little way higher to go, but the bottom line is you must sell it (trade it) before it tanks.

    My poster child for the trend-ending trade has been the bell whether US Treasury bond, losing all its forty-point gain from a year ago. It did have room to run higher… until it no longer did. So, my question would be “if you are going to trade something, why would you choose a bond”? Seriously, look elsewhere!

    Which brings me back to municipals. We are not trading; we are looking for a storehouse for wealth. Yes, the tax-free advantage is worthwhile, but I am also finding worthwhile taxable bonds a swell. The reason is because the municipal bond market (tax-free and taxable) is unique.

    There is a reason I select the bonds we buy. But the main reason why they are municipals is because the leverage is so much less than that found in corporate bonds. This was true in the 1980’s when I began in bonds; it is even more true today. Leverage is not our friend; it is our enemy and the idea of finding value in corporate bonds does not exist. It was a trade and I believe investors in corporate bonds are misguided.

    In municipals we can find bonds that become less leveraged over time. Yes, the issuer pays off the debt and does not issue anymore. So archaic! So bond holder friendly! Yet this is but one small example of the uniqueness found in municipal bonds.

    We continue to find worthwhile bonds for investors seeking tax-free as well as taxable income. We are not looking to trade; we are looking for bonds that will be worthwhile despite the new headwinds of the new bond bear market. But unlike the state of other asset classes, we do not need a trading mentality here. So, if you own assets in those other classes, I would seriously consider and begin to do the needed work and trade.

    Fort Bend County, TX

    Toll Road Revenue Senior Lien, Series 2021

    A2 Moody’s Underlying   A+ Fitch Underlying  (AA S&P BAM)

    Due 3/1   Dated 7/1/21 Maturity 3/1/51

    $74,430,000 Sold

    Years   Maturity     Coupon      Yield*

    2             2023           5.00%           0.13%

    3              2024            5.00%           0.22%

    4              2025            5.00%           0.34%

    5              2026            5.00%           0.50%

    6            2027           5.00%           0.63%

    7            2028           5.00%            0.77%

    8            2029           5.00%           0.92%

    9              2030            5.00%           1.05%

    10           2031            5.00%           1.15%

    11           2032**      4.00%           1.25%

    12            2033**      4.00%           1.29%

    13          2034**      4.00%          1.36%

    14          2035**      4.00%            1.42%

    15           2036**      4.00%           1.45%

    16          2037**      3.00%            1.76%

    17          2038**      3.00%            1.80%

    18            2039**      3.00%           1.85%

    19            2040**      3.00%            1.90%

    20           2041**      3.00%           1.95%

    21           2042**      3.00%           2.00%

    26          2046**      3.00%           2.10%

    30            2051**      3.00%           2.18%

    *Yield to Worst (Call or Maturity) ** Call 3/1/31

    Source: Bloomberg

    This is an example of a new issue priced the week of 6/14/21

    Prices, yields and availability subject to change

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