“If it’s not one thing, it’s another.” These are words of the Saturday Night Live character, Roseanne Roseannadanna played by the late Gilda Radner. They truly exemplify what’s happening in the municipal bond market. Certainly, the pitfalls are few in Muniland, hence the low default rate, but the outliers and worries are increasing.
I have railed for years about municipalities not filing timely financials or not filing them at all. Now, the rating agencies are downgrading them for this dereliction of duty. That’s great news.
If you are self-managing your municipal bonds, here is the ultimate laundry list of what you must know: Corporate and individual out-migration from bond-issuing municipalities is reducing tax receipts quickly. Add that to empty commercial office buildings, unfunded pension liabilities, the data hacking of cities, schools and hospitals, budget overruns and finally, the cost of feeding, healthcare, housing and educating asylum seekers who appeared on America’s doorstep illegally. This has got to crater any city’s finances.
New York City, once proudly strutting its status as a sanctuary city, is now screaming bloody murder at the consequences: having to pay for more than 100,000 illegal aliens without the means to pay for their keep. Its budget is stressed.
In many public school systems, school districts are paid by their states based on student attendance—which continues to decline. As state payments to school districts take a nosedive, so too does the money available to pay the coupon interest on municipal bonds.
We now have the most perfect storm of problems brewing in Muniland I’ve seen in decades.
In the bond pecking order of safety, it’s U.S. Treasurys first, followed by government agencies, municipal bonds, corporate bonds and mortgage backed securities. Within each of these, there’s a built-in subset pecking order of safety.
For municipal bonds it’s General Obligations first, then personal Income Tax bonds (because their interest payment funds are usually ring-fenced), essential services like water and sewer bonds, revenue bonds, special tax bonds, higher education bonds, and hospital bonds. Note that an alarming number of small colleges and hospitals have recently declared themselves insolvent. Their bond holders are left with no recourse.
My point is, when you are dancing, you want to be in the front of the municipal bond conga line of payment priorities—not in the middle, and certainly not at the end.
Are munis cheap now? How can you tell? Simply calculate the percent yield of the same maturing Treasury. Here’s when to buy using this simple rule:
· 40%-50%: Don’t buy
· 60%-70%: Somewhat pricey
· 70%-80%: Starting to show some interest
· 80%-90%: A good buy
· 100%: Buy all you can get
If a municipal bond yields 60%-70% of a Treasury with the same maturity it’s not a screaming buy, nor even a bargain. A municipal bond yielding 70%-80% of the comparable maturing Treasury looks pretty normal. If you can find a muni yielding 80%-90%, buy it. Anything approaching 100% of a corresponding Treasury yield doesn’t get much better and will not last long.
So there’s your municipal bond road map—safe driving.
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