Archive for the ‘Municipalities’ Category

Attention: Indiana muni bond buyers

Thursday, May 5th, 2011

This week the Indiana legislature passed a measure that will make out-of-state municipal bonds taxable at the state and local tax level to Indiana residents.  According to The Bond Buyer, the law will take effect in 2012, and it is expected to generate “about $66 million annually,” and will go toward offsetting the $78 million loss of revenues from cutting the state’s corporate tax rate.

Up until now, Indiana residents have enjoyed triple-tax exemption on interest received on all non-taxable municipal bonds, which is unlike the arrangement in most states.  In most states it is common to tax out of state municipal bond interest, and in many states it isn’t uncommon to see only certain in-state municipalities tax-exempt at the state and local tax level.  All tax-exempt municipal bonds remain exempt from federal tax,  regardless of where from, and some particular issuers–Puerto Rico comes to mind–enjoy triple-tax exemption in all states.

At the margin, this change will have the following effects.   First, the demand for Indiana bonds will increase as Indiana residents who want to generate income exempt from Indiana state tax will be forced to buy Indiana municipal bonds.  Admittedly, the effect might be quite small as our state income tax rate of 3.4% (plus local taxes) doesn’t mean as much as, say, New York’s 10% tax.  Second, and related to the first, yields should drop on Indiana bonds (i.e. prices will increase).  Historically, Indiana municipal bonds have always traded cheap; this is, their yields were amongst the highest available. That’s unlikely to change significantly, only slightly.

In spite of the lower after-tax yields of out-of-state bonds to Indiana residents, the tax effects are small enough that the crucial diversification benefits of non-Indiana muni bonds should still be considered. In client accounts we will look at give-up yields, or the yield based on what someone is willing to pay us for the non-Indiana bonds, versus the yield on Indiana bonds. If we can get a after-tax yield on the Indiana bond that is better than the after-tax give-up yield on the bond we’re looking to sell, then we swap; if not, we pay the tax and hold the bond.

May 6 update

** There appears to be a provision to grandfather all bonds held as of December 31, 2011. For now that is unconfirmed.  **


Municipal Bonds and Abnormal Psychology

Thursday, January 27th, 2011

Have you heard there might be trouble with municipal bonds?  Can you fog a mirror?  If the answer to the first is no, and the second yes, then you should probably a) check out this blog more often, b) watch 60 Minutes, c) read the story that was on page 16 of the Wall Street Journal–3 years ago!–and which has now moved to page one of every newspaper.  Mitch Daniels is making it easier for municipalities–cities, is it?–to declare bankruptcy, and there has been talk in Congress of making it possible for states to default on their own debt–it’s presently unconstitutional.

No state in the union will default on its state-level debt obligations.  There.

We have heard of a number of folks who are concerned about the risk in municipal bonds.  So they want to reduce it.  Fine; makes sense.  That’s a prudent step.  Look at one’s holdings of bonds and bond funds to see if there are heightened risks with any of them.   Then sell them if–with individual bonds–the yield you receive based on the price you’ll be paid is worth it to you.  Shift to a safer municipal fund with all or a part of the bond fund proceeds.  Better yet, sell the riskiest individual bonds and invest the proceeds in a well-diversified municipal bond mutual–or exchange traded–fund.  The manager will have his eggs in many more baskets and will be trafficking in such quantities of bonds that it won’t be difficult to make moves based on that firm’s substantial research department’s calls.

But don’t try to reduce your risk by selling your municipal bonds and buying stocks with the proceeds!

You’ll reduce your default risk and heap on a–Indiana phrase coming–whole ‘nother bunch of risks, like event risk, political risk, amongst others–all the risks that are encapsulated in the chart below of the quintessential blue chip stock, Procter & Gamble.  Here’s the schpiel, 

“it’s a great company . . . been around for ever . . . nice dividend . . . you use their products, don’t you?  . . . you know, Tide, Crest, Kitty Litter . . . there management’s great . . . headquartered in the Midwest . . . “

You don’t know General Electric, Ford, Procter & Gamble–or any other stock–any better than you know those municipal bonds that have got you awake at night.


The King is dead; long live the [bond] King – part II

Friday, January 14th, 2011

Another voice joined the municipal bond debate on Wednesday, when Bill Gross, aka the Bond King, was interviewed on Bloomberg television.  He said he doesn’t, “subscribe to the theory that there will be lots of [municipality defaults.]“  Like most, though, he doesn’t think that the municipalities are in great shape (“there will be increasing amounts of defaults”).  He praised Illinois, which raised its state income tax from three to five percent, and Jerry Brown, governor of California, who is taking wide-ranging steps to shore up the Golden State’s finances.  It’s at that level–the state’s–where he sees the least risk of municipal bond trouble.

Here’s a look at the pricing of default insurance on Illinois state bonds following the income tax increase.


The King is dead; long live the King

Tuesday, January 11th, 2011

 . . . or rather, municipal bonds are dead; long live municipal bonds.

As usual, I’m a day late and five dollars (inflation) short on this subject.

Meredith Whitney made a splash late in the last decade saying Citigroup was going down the tubes.  Not having made any market-shaking calls since that call when she was employed at Oppenheimer–she left there to start up her own shop–and needing some new clients, she recently showed up in a 60 Minutes interview predicting there would be between 50 and 100 “significant” muni bond defaults in 2011, totalling “hundreds of billions” of dollars.  [Plagiarism police please note:  I lifted everything from “between” to “dollars” verbatim from the Bloomberg synopsis below the video at bottom.  She was not pressed to substantiate those claims and, thus, fear was mongered.  You can watch that video by clicking on the image below, but only if you promise to watch the one below it.

A number of folks have taken umbrage at her claims.  Their umbrage is pretty well summed up in the Bloomberg interview below.  In short, she doesn’t know what she’s talking about.  In long, unfunded pensions have been an issue for several years.


Cool feature at the Financial Times website

Friday, July 30th, 2010

The Financial Times–FT for short–is one of the world’s best financial papers.  Were it not for the pink newsprint, which is just sort of wierd, I’d put it ahead of the Wall Street Journal.  Anyway, it has this cool feature that lets you get a quick graphical look at the condition of the states.  (We’ve been concerned with the state of the states, but have recently taken solace in the widespread recognition of the problem–something we’ve been watching since late 2005.)

Here’s a look at the FT feature.  It shows the states in a typical heat-map fashion, based on budget shortfalls for each state.  (You should be able to click on it to jump to the FT’s site.)  There’s also a tab that brings up credit ratings for each state.  Indiana’s AAA rating is a bit misleading, though, since the State has no general obligation debt; most of it is shifted to local municipalities, most of which are not rated AAA.

While I’ve highlighted Indiana since I’m ethnocentric, notice all the states in worse financial condition–solely on this measure–than the poster child for states-worse-than-Greece, California.  They include California-by-the-lake (Illinois), as well as bucolic Maine and hip–well, I think so–North Carolina (think Asheville or the Raleigh-Durham/Research Triangle).

According to Indiana’s Treasurer (see below), Indiana is the envy of other states.  It’s also, “unlike our neighboring states ,” which happen to include one of the nation’s worst quantitatively (Illinois) and one anecdotally (Michigan), “that are deferring their obligations, we’ve continued . . . in a businesslike and sound manner.”  But I have to forgive Mr. Mourdock’s financial liberties since he included a great Roy Rogers quote.