Gyroscopic Investing

http://news.yahoo.com/obama-seeks-cut-m ... 22368.html

If munis become taxable, what do people think this will do to the market?  I would imagine this would be bullish for other forms of investment income, namely, yup, US Treasuries!

All hail the PP.

These cities and states will hate Obama's guts if he does that. He'll make local borrowing more expensive.

Just goes to show again that promises can be broken by legislation. People buying munis were promised tax exemption, but now it's being attacked. I doubt the bill will pass, but it's clearly a shot across the bow of muni holders.

craigr,

I believe it's only on newly-issued munis, so no promises will get broken.  It's hard to tell as the article is another poorly-written financial piece.  This was what I've heard in the past... that only newly issued munis would be affected by the taxability... I could be wrong.

However, I agree that you are right about state/local governments being pissed, though.

The Feds HATE munis worse than cold week old double anchovy pizza.  They have been trying to get rid of them for decades... and they keep failing.  The state and local gov't lobby is very powerful, as also are the unions whose members would lose jobs that are dependent on munis for financing them.  IF the Feds ever seriously move to get rid of them they will need to come up with some sort of alternative source of revenue for cash strapped states and municipalities or you could see a chain reaction of bankruptcies worse than what was seen in the 1930's.  The so called "Build America" bonds were a weak effort in that direction.  But the bottom line is the money needs to come from somewhere.  The Feds can subsidize state projects either through preferential tax benefits on muni bonds or more directly via the BABs.  But they are not going to be able to dodge the bill.

To my mind a far more interesting question will be what is likely to happen to the muni bond market if the income tax code is reformed in a way that closes lots of loopholes, while leaving muni exemptions in place, BUT lowers the overall top tax bracket to 25%.  As a general rule munis are a lousy investment for most people not in the top couple of tax brackets because the tax break doesn't compensate for the lousy interest they pay.  Most bond experts I have read suggest that the break even point is around 28% for an income tax bracket.  Thus munis are usually only attractive to the very wealthy and large institutional investors for whom there are legitimate tax advantages.

I strongly suspect that if the top income tax bracket drops to 25% munis at their current yields will lose their luster even among the very wealthy.