For one thing, according to Bob DiMella and John Loffredo, co-heads and co-chief investment officers of MacKay Municipal Managers, the initial analysis of muni defaults was done at the height of Covid-19 shutdowns in March. In the meanwhile, not every market niche has been squeezed. Public utilities have fared well, and public schools should profit from the housing market’s sustained strength. Pension plans, on the other hand, have benefited from the rising stock market.
Municipal bonds with an insurance wrapper, however, may be worth a closer look for many investors, particularly those who buy and hold individual bonds.
“It’s a belt and suspenders bond,” DiMella explains. “You have the underlying credit, as well as this financial guarantor as a backstop.”
Bond insurance, as the name implies, ensures that the principal and interest on a municipal bond be paid if the issuer defaults. Before the financial crisis, DiMella notes, such insurance was widely employed, with a handful of companies insuring around 60% of all new municipal bond offerings.
“After the crisis, it literally plummeted off a cliff,” he says, with insurance wraps accounting for a miniscule percentage of the market.
Insured municipal bonds had been slowly resurgent in recent years, but the Covid-19 outbreak has sparked renewed interest, with insured munis accounting for roughly 10% of new muni bonds. To assuage investor concerns about rating downgrades and defaults, more major and high-quality issuers are including an insurance component in new bonds. Most bonds are now insured by two companies: Assured Guaranty and Build America Mutual.
Investors gain from stable ratings, better liquidity, and lower volatility, according to Loffredo.
Of course, insurance is never free. For muni bonds wrapped with insurance, investors will often give up between 10 and 20 basis points (1/10th and 1/20th of a percentage point) of yield. While some investors may object at this tradeoff, particularly in a low-yield situation, buy-and-hold investors may find it well worth their money.
“You don’t have to give up a lot of yield to receive the benefit of stable cash flow,” Loffredo says, adding that high-net-worth clients and family offices have recently showed an increased interest in insured munis.
While municipal bond insurance is a low-cost option for investors who keep bonds until they mature, active investors may benefit from price appreciation.
“We would argue that there is far more value today than there was at the start of the year,” DiMella says. “They’re wider in many situations than they’ve been in many years.”
Almost every section of the muni market was hit when the market first went off this spring. Insured munis recovered faster than comparable bonds, although spreads for triple-B-rated insured munis are still greater now than they were at the start of the year.
In fact, the guaranteed index’s gap over 10-year Treasuries started the year at 20 basis points and quickly grew to 190 basis points during the spring market turmoil. They’ve now reduced to 99 basis points, but the spread is still wider today than it was before the crisis, implying that rates will fall and bond prices will rise.
Are municipal bonds at risk?
- Municipal bonds are a wonderful option for consumers who want to keep their money while earning tax-free income.
- General obligation bonds are used to quickly raise funds to meet expenses, whereas revenue bonds are used to fund infrastructure projects.
- Both general obligation and revenue bonds are tax-free and low-risk investments, with issuers who are quite likely to repay their loans.
- Municipal bonds are low-risk investments, but they are not risk-free because the issuer may fail to make agreed-upon interest payments or be unable to repay the principal at maturity.
Are municipal bonds a safe investment?
- Municipal bond interest is tax-free in the United States, however there may be state or local taxes, or both.
- Be aware that if you receive Social Security, your bond interest will be recognized as income when determining your Social Security taxable amount. This could result in you owing more money.
- Municipal bond interest rates are often lower than corporate bond interest rates. You must decide which deal offers the best genuine return.
- On the bright side, compared to practically any other investment, highly-rated municipal bonds are often relatively safe. The default rate is quite low.
- Interest rate risk exists with any bond. You’ll be stuck with a bad performer if your money is locked up for 10 or 20 years and interest rates climb.
What are Bam insured municipal bonds?
Build America Mutual Assurance Company (abbreviated as BAM) is a mutual, monoline bond insurer specializing in vital public-purpose municipal bonds in the United States. The company has guaranteed over $65 billion in par amount for over 3,300 member-issuers since its launch in July 2012. It insured $8.36 billion in par in 653 new-issue insured transactions in 2018. BAM also discloses and updates credit profiles for each transaction it covers. There are now almost 6,000 available. The firm is the preferred source of debt financial guaranty insurance for National League of Cities member municipalities. When BAM was first released, the NLC endorsed it.
Can you lose money with municipal bonds?
These funds have a low risk of losing value, and the interest they pay is consistent. They also pay a very low interest rate as a result of their safety. Risk and reward are inextricably linked: a lesser risk equals a lower payoff.
Why are muni bonds dropping?
Some economists predict a reduction in muni demand this year due to a predicted slowing in household savings, which grew during the pandemic, particularly among the wealthy.
The demand for tax-exempt debt has long outstripped annual issuance. Over the last year, the gap has widened as higher-income Americans shifted their savings and windfalls from big market gains into municipal bonds. These inflows aren’t expected to continue at the same rate this year, according to analysts.
As communities continue to spend down waves of federal epidemic money, creditworthiness may become an issue in 2022 for certain struggling cities. In 2021, this funding, along with tax income from purchases bought with stimulus cheques and stock gains spurred by the stimulus, helped strengthen municipal credit, with public-finance upgrades slightly outpacing Fitch Ratings downgrades. As the pandemic shut down local economies and strained services, Fitch issued 80% more downgrades than improvements in 2020.
Sustained inflation, according to some analysts, might exacerbate credit problems by driving up the cost of government projects, services, and cost-of-living adjusted retirement payments.
“How valuable is muni credit if the budget’s baseline has to increase by 5% for multiple years in a row?” Breckinridge Capital Advisors’ co-head of research, Adam Stern, was curious. “Some places will undoubtedly be able to handle it, while others will most likely not.”
In the municipal market, default is extremely unusual. However, debt issued by cash-strapped borrowers has a tendency to depreciate in value during difficult economic times, lowering the value of investors’ portfolios and posing a problem for those looking to cash out.
In some ways, the higher volatility possibility in 2022 represents a return to a more typical investment environment after a year of exceptional calm following the Covid-related upheaval. According to statistics from Municipal Market Analytics, the muni market saw a record 113 days in 2021 where yields on AAA intermediate maturity bonds did not change from the day before, following a liquidity problem in the early days of the epidemic in 2020.
“In terms of volatility, 2020 was abnormal,” said Michael Zezas, municipal strategist and head of US public policy research at Morgan Stanley.
Are municipal bonds a good investment 2022?
The key drivers of the municipal market are all positive, therefore 2022 is expected to see ongoing robust demand for municipal bonds. Taxes are first and foremost. Investors are still concerned about increasing taxes and will do everything possible to avoid them, keeping demand high.
At what tax rate do municipal bonds make sense?
This is where you decide whether or not a muni is right for you. Divide its return, say 1.20 percent, by your reciprocal rate of 68 percent to get 1.76 percent. That’s your tax-equivalent yieldor, to put it another way, your muni tipping point. It means that, assuming all other factors such as maturity and rating are identical, a taxable bond must yield more than 1.76 percent to make more sense for someone in your tax bracket than a 1.20 percent tax-exempt bond.