Muni bonds headed for worst quarter in 10 years

chart_municipal_debt_issuance_2.top.gifClick chart for more bond market data. By Blake Ellis, staff reporter


NEW YORK (CNNMoney) -- The municipal bond market is headed for its worst quarter in a decade, as investors fear cash-strapped states and cities across the country are on the brink of default, and local governments slow debt issuance.

Only $44.4 billion worth of muni bonds have been issued in the first quarter so far. That's the lowest level since the first quarter of 2000, when $39.1 billion was issued, according to data from Thomson Reuters.

Part of the drop in issuance comes as investor demand cools amid worries that municipalities may not be able to get their books in order. And that would leave investors holding the bag, so to speak.

Another reason for the low level of issuance so far this year is because municipalities issued piles of debt at the end of 2010. And that limited the need to issue more debt this quarter, said Burt Mulford of Eagle Asset Management.

"Some issuers knew they would get some taxes waived if they did it before the year end," said Mulford. "Rates were relatively low so they rushed to issue that debt at these lower rates before the investing community became really nervous."

And now the investing community is really nervous, leaving the market further depressed when it comes to both demand and issuance.

In fact, California, the nation's top debt issuer, recently announced that it may not issue debt this calendar year because of its budget crunch.

"There's a lot of pressure on state and local governments to not increase debt burdens, so they have ceilings on their net interest costs -- and if they've maxed that out, they're not going issue more debt," said Mulford.

Time to hunt for bargains: What's bad news for some, is a great buying opportunity for others.

The rush out of muni bonds in the last few months has largely been an overreaction, said Mulford, adding that out of the $3 trillion muni bond market, only $8.9 billion muni bonds are defaulted. And of the $8.9 billion that are defaulted, 85% of them are non-rated issues, which are the riskiest of the asset classes.

So while Mulford recommends staying away from non-rated muni bonds, investment grade bonds are currently great bargains "because of their relative value and the fact that prices have been depressed over the last few months."

"Many investors have a rear view mirror mentality," said Mulford. "They look at asset classes from the previous year and buy one that is outperforming, so we've seen a reallocation from tax-free muni bonds into stocks just when you should be buying the underperforming asset class, which is munis."

As with any investment, Mulford recommends doing your homework about the economic situation of any municipality you're considering.

"You need to understand the revenue source of the municipality, look at pension obligations, and especially foreclosure rates, because the bonds are tied to property taxes -- so if there are a lot of foreclosures, taxes decrease and that will prevent the municipality for paying for services," he said.

That means if you want to buy California muni bonds, pick a city with a lower foreclosure rate like Palo Alto instead of San Bernardino.

In addition to foreclosure rates, the wealth of a city boosts a muni bond's safety. For example if you're looking at buying a New York muni, you should probably go with Westchester county over Buffalo, said Mulford.

"Typically if you buy munis from an area with a lot of wealth you're going to be safer than if you go into an area with a lot of poverty because the tax base is greater," he said. "You'll sacrifice some yield, but in this type of market we would rather sacrifice a little yield to protect our principal."

Because muni bonds are tax free, this is an especially good time to invest if you expect tax rates to go up in the near future.

"When tax rates go up, which I would say is likely in 2013, that's going to really raise demand for munis," he said. "So if you have any expectation that tax rates are going to go up, now is when you should be getting some munis."

And you better hurry up: Mulford expects this window of opportunity to close in the next few months.

"I think the economy has reached its low and is only going to get better and enhance the municipalities' ability to cover the costs of their services," said Mulford. "But the buying opportunity is probably only going to last a few more months -- as soon as issuance picks up, prices are going to go up." To top of page

Frontline troops push for solar energy
The U.S. Marines are testing renewable energy technologies like solar to reduce costs and casualties associated with fossil fuels. Play
25 Best Places to find rich singles
Looking for Mr. or Ms. Moneybags? Hunt down the perfect mate in these wealthy cities, which are brimming with unattached professionals. More
Fun festivals: Twins to mustard to pirates!
You'll see double in Twinsburg, Ohio, and Ketchup lovers should beware in Middleton, WI. Here's some of the best and strangest town festivals. Play
Overnight Avg Rate Latest Change Last Week
30 yr fixed4.21%4.16%
15 yr fixed3.27%3.25%
5/1 ARM3.51%3.38%
30 yr refi4.20%4.15%
15 yr refi3.27%3.24%
Rate data provided
by Bankrate.com
View rates in your area
 
Find personalized rates:
Index Last Change % Change
Dow 17,238.29 81.44 0.47%
Nasdaq 4,586.66 24.47 0.54%
S&P 500 2,010.41 8.84 0.44%
Treasuries 2.63 0.03 1.12%
Data as of 10:43am ET
Company Price Change % Change
Bank of America Corp... 16.99 0.22 1.31%
Yahoo! Inc 42.73 0.14 0.33%
Apple Inc 101.93 0.35 0.34%
General Electric Co 26.22 0.17 0.65%
Regions Financial Co... 10.58 0.20 1.93%
Data as of 10:28am ET

Sections

Alibaba founder Jack Ma could earn as much as $867 million from his company's market debut. More

The Federal Reserve is probably not going to raise interest rates until the summer of 2015 at the earliest. More

NASA has turned over the shuttle program to two companies, Boeing and Elon Musk's SpaceX. The agency wants to pursue something far sexier. More

Immigrant entrepreneurs leverage connections abroad to boost international exports -- and non-immigrants could stand to learn from their tactics. More

Occupy Wall Street offshoot Strike Debt says it has abolished nearly $4 million in private student loan debt for students who attended Everest College, part of Corinthian Colleges. More

Market indexes are shown in real time, except for the DJIA, which is delayed by two minutes. All times are ET. Disclaimer Morningstar: © 2014 Morningstar, Inc. All Rights Reserved. Disclaimer The Dow Jones IndexesSM are proprietary to and distributed by Dow Jones & Company, Inc. and have been licensed for use. All content of the Dow Jones IndexesSM © 2014 is proprietary to Dow Jones & Company, Inc. Chicago Mercantile Association. The market data is the property of Chicago Mercantile Exchange Inc. and its licensors. All rights reserved. FactSet Research Systems Inc. 2014. All rights reserved. Most stock quote data provided by BATS.