Municipal Bond Funds

[buddtholomew]

Does anyone else invest a portion of their taxable assets in municipal bond funds? I consider this bond fund as Tier 2 of my emergency fund, not knowing when or if I would ever require the funds. The volatility is low, but an 8-10% drawdown is not what I had in-mind. I may end up exchanging the fund for the other PP assets (GLD, TLT and SHY) to restore the portfolio to 4x25. The PP has had larger drawdowns, but perhaps the risk in munis (duration and credit quality) is greater than the PP for this money.

Interested to know whether I am looking at this correctly. I could also exchange to a shorter duration fund, keep the favorable tax treatment and reduce the duration. Credit quality remains a concern.

[Pointedstick]

IMHO, any part of your PP you use as an emergency fund should be invested in something as stable and liquid as possible. In a true emergency, you want that money to be there when you need it! Giving up yield or favorable tax treatment can sting, but I feel like it would sting worse if that money that's supposed to be stable vanished or shrank right before you needed to use it (And of course Murphy's Law dictates that this will be exactly when it will decide to tank).

Shortening the duration could work, but are short-duration Munis really yielding that much more than T-bills or short-duration T-bonds?

[Ad Orientem]

IMHO, any part of your PP you use as an emergency fund should be invested in something as stable and liquid as possible. In a true emergency, you want that money to be there when you need it! Giving up yield or favorable tax treatment can sting, but I feel like it would sting worse if that money that's supposed to be stable vanished or shrank right before you needed to use it (And of course Murphy's Law dictates that this will be exactly when it will decide to tank).

Shortening the duration could work, but are short-duration Munis really yielding that much more than T-bills or short-duration T-bonds?

Concur. Last time I looked VCADX was yielding around 1%. You might get a little better going out farther on the curve but then you increase your risk level dramatically. Also Munis just aren't an attractive investment unless your taxable investments put you in or near the top tax bracket. The tax advantages for most people just aren't there when you consider the yields.

[Ad Orientem]

I have toyed with the idea of a potfolio consisting of 80-90% standard HBPP and the balance in a foreign VP, part of which might consist of a foreign sovereign bond fund. I keep looking at TGBAX though the minimum investment is out of my league.

[dualstow]

Does anyone else invest a portion of their taxable assets in municipal bond funds?

Yes, outside of the pp I have some VPAIX.

[AdamA]

Does anyone else invest a portion of their taxable assets in municipal bond funds?

I don't, but have often thought that munis might be a good idea for a VP.

Maybe something like a HDY/VBK 50/50 split in a taxable account.  (VBK b/c its dividend is small). 

(HDY is a longer term muni fund, and VBK is Vanguard's small cap growth fund).

HDY/VBK/SLV might be kinda cool too.  Sort of gives exposure to some things that aren't in the PP in a tax friendly way.

[D1984]

Does anyone else invest a portion of their taxable assets in municipal bond funds?

I don't, but have often thought that munis might be a good idea for a VP.

Maybe something like a HDY/VBK 50/50 split in a taxable account.  (VBK b/c its dividend is small). 

(HDY is a longer term muni fund, and VBK is Vanguard's small cap growth fund).

HDY/VBK/SLV might be kinda cool too.  Sort of gives exposure to some things that aren't in the PP in a tax friendly way.

Are you sure you don't mean "HYD" and not "HDY"? HDY is the ticker symbol for a common stock (HyperDynamics Inc) and not for a muni ETF. HYD is a high yield long-term muni ETF

Also, why high yield munis and why long-term? Why not intermediate-term investment-grade munis? Your hypothetical VP already has two risky assets that won't do very well during deflation or a depressionary market collapse; long-term munis may do OK in deflation but long-term HIGH YIELD munis probably wouldn't (see late 2007-early 2009 for an example).

[AdamA]

Are you sure you don't mean "HYD" and not "HDY"? HDY is the ticker symbol for a common stock (HyperDynamics Inc) and not for a muni ETF. HYD is a high yield long-term muni ETF

Yeah...sorry. HYD.

Also, why high yield munis and why long-term? Why not intermediate-term investment-grade munis? Your hypothetical VP already has two risky assets that won't do very well during deflation or a depressionary market collapse; long-term munis may do OK in deflation but long-term HIGH YIELD munis probably wouldn't (see late 2007-early 2009 for an example).

It's not something I've thought about in that much detail.

I agree that long term munis don't provide much deflationary protection.

Maybe a better idea would be to use VBK for half and then split the munis between long and short term (or just hold intermediates).

Probably best to leave silver out altogether.

I would let the interest paid from the munis accumulate in a money market and use it to rebalance as much as possible, to avoid selling the munis or the stocks for capital gains.

[buddtholomew]

Does anyone else invest a portion of their taxable assets in municipal bond funds?

Yes, outside of the pp I have some VPAIX.

I assume that this investment is fed and state tax exempt. Is this the prime reason for holding the fund and if you dont mind me asking, have you considered exchanging the fund for the PP or reducing duration?

[dualstow]

Yes, outside of the pp I have some VPAIX.

I assume that this investment is fed and state tax exempt. Is this the prime reason for holding the fund and if you dont mind me asking, have you considered exchanging the fund for the PP or reducing duration?

Correct on both counts.
I love the pp, but I have never felt the need to go all in. The pp already dwarfs my paltry VPAIX holdings, and I have no plans to exchange.
It's nice to get some tax-free money to pay the bills, even if there are more logical & mathematically superior ways to go.
I do wish the duration were a bit shorter, but as someone mentioned on bogleheads, the average duration is already much shorter than the fund name implies. Maybe 6 or 6½ years.

I hold some shares of a short-term national muni fund, too, but the amount is so small I should probably sell it. It's just leftover from when my portfolio was very small and pre-pp.

[Ad Orientem]

Most of Vanguard's Intermediate and Long Term muni bond funds are avg dur of 5-7 yrs right now.

[buddtholomew]

Yes, outside of the pp I have some VPAIX.

I assume that this investment is fed and state tax exempt. Is this the prime reason for holding the fund and if you dont mind me asking, have you considered exchanging the fund for the PP or reducing duration?

Correct on both counts.
I love the pp, but I have never felt the need to go all in. The pp already dwarfs my paltry VPAIX holdings, and I have no plans to exchange.
It's nice to get some tax-free money to pay the bills, even if there are more logical & mathematically superior ways to go.
I do wish the duration were a bit shorter, but as someone mentioned on bogleheads, the average duration is already much shorter than the fund name implies. Maybe 6 or 6½ years.

I hold some shares of a short-term national muni fund, too, but the amount is so small I should probably sell it. It's just leftover from when my portfolio was very small and pre-pp.

We are similar in this regard. Thanks for sharing.

[foglifter]

IMHO, any part of your PP you use as an emergency fund should be invested in something as stable and liquid as possible. In a true emergency, you want that money to be there when you need it! Giving up yield or favorable tax treatment can sting, but I feel like it would sting worse if that money that's supposed to be stable vanished or shrank right before you needed to use it (And of course Murphy's Law dictates that this will be exactly when it will decide to tank).

Shortening the duration could work, but are short-duration Munis really yielding that much more than T-bills or short-duration T-bonds?

Concur. Last time I looked VCADX was yielding around 1%. You might get a little better going out farther on the curve but then you increase your risk level dramatically. Also Munis just aren't an attractive investment unless your taxable investments put you in or near the top tax bracket. The tax advantages for most people just aren't there when you consider the yields.

I agree - taxable bonds are a better choice unless your income hits the top tax bracket. Another good fund is FLTMX - it's less volatile than the long-term muni funds and the performance is quite similar. It is not a one-state fund though.

[sophie]

I know I've spoken out against muni bonds in the past, but I'm considering using FTFMX (duration 7 years, New York state & city tax exempt) as a separate housing fund - for which the PP, which is mainly in tax-advantaged accounts, is not so well suited.  Right now, the yield beats the after-tax cost of mortgage interest, and also the after-tax yield of the PP.  The share price is likely to remain stable except in a scenario where interest rates rise dramatically.  Which they could, but a) I doubt it, and b) that's what gold is for.

Somebody point out where I'm wrong in this chain of reasoning?

[AdamA]

Are things really this bad in Illinois?

http://illinois.municipalbonds.com/bond ... ction:desc

The yields are pretty crazy.

[Ad Orientem]

California has some fairly high yielding munis as well. But a lot of those bonds are issued by localities or entities with significant financial problems.

http://screener.finance.yahoo.com/bonds.html

If I were extremely wealthy and just wanted to set things up so I had a fairly certain income stream to live off while putting my investments into a PP, then  I might be tempted by munis. There is something to to be said for the peace of mind that comes from knowing that you are going to get X amount of money every year irrespective of what the markets do.

But I do not have enough money to make munis attractive.

[Pointedstick]

California has some fairly high yielding munis as well. But a lot of those bonds are issued by localities or entities with significant financial problems.

http://screener.finance.yahoo.com/bonds.html

If I were extremely wealthy and just wanted to set things up so I had a fairly certain income stream to live off while putting my investments into a PP, then  I might be tempted by munis. There is something to to be said for the peace of mind that comes from knowing that you are going to get X amount of money every year irrespective of what the markets do.

But I do not have enough money to make munis attractive.

Out of curiosity, why do you say that munis are only attractive for higher-income folks? Even if you're only in, say, the 15% tax bracket, that's 15% federal income tax as well as possibly the 2-9% state income that Munis let you bypass, vs only the 2-9% state income tax that Treasuries let you bypass. Seems like that would be pretty nice even if you weren't that rich. Of course you're taking on more risk, but that's an orthogonal issue to your wealth level.

[Ad Orientem]

California has some fairly high yielding munis as well. But a lot of those bonds are issued by localities or entities with significant financial problems.

http://screener.finance.yahoo.com/bonds.html

If I were extremely wealthy and just wanted to set things up so I had a fairly certain income stream to live off while putting my investments into a PP, then  I might be tempted by munis. There is something to to be said for the peace of mind that comes from knowing that you are going to get X amount of money every year irrespective of what the markets do.

But I do not have enough money to make munis attractive.

Out of curiosity, why do you say that munis are only attractive for higher-income folks? Even if you're only in, say, the 15% tax bracket, that's 15% federal income tax as well as possibly the 2-9% state income that Munis let you bypass, vs only the 2-9% state income tax that Treasuries let you bypass. Seems like that would be pretty nice even if you weren't that rich. Of course you're taking on more risk, but that's an orthogonal issue to your wealth level.

The tax advantages when weighed against the lower yield on Munis vs equivalent graded corporates don't really pay off until you get into the higher tax brackets. With average muni yields where they are I wouldn't even look at them unless my taxable income put me in a 30+% bracket.

[Pointedstick]

The tax advantages when weighed against the lower yield on Munis vs equivalent graded corporates don't really pay off until you get into the higher tax brackets. With average muni yields where they are I wouldn't even look at them unless my taxable income put me in a 30+% bracket.

On TDAmeritrade's assortment of bonds, here's one of the best (non-callable, tax-free) munis that I can find:

M-S-R ENERGY AUTH CALIF GAS RE GAS REV BDS Non-callable, tax-free
CUSIP: 55374SAJ9
Rating: A-
YTM: 5.159%
Taxable equivalent yield at 15% income tax bracket: 6.137%
Taxable equivalent yield at 25% income tax bracket: 6.956%
Taxable equivalent yield at 28% income tax bracket: 7.246%
Taxable equivalent yield at 33% income tax bracket: 7.786%
Taxable equivalent yield at 35% income tax bracket: 8.026%
Taxable equivalent yield at 39.6% income tax bracket: 8.637%


I only found a single non-callable A- rated corporate bond with a YTM of greater than 6.137%, issued by BellSouth with a YTM of 6.273%.

So unless I've calculated all this out wrong (totally possible), it looks like there are slim pickings for superior-yielding corporate bonds if you're in the 15% tax bracket, and for any tax bracket higher than that, it's not even close.

[Pointedstick]

The higher muni yields actually make sense if you believe the bond market prices these things efficiently and see state and local governments--especially certain ones--as less credit-worthy and in more trouble than private firms, which is either hilarious or terrifying.

[Ad Orientem]

Wow! It's been years since I have paid any attention to corp bond yeilds and the spread between them and munis has narrowed to the point of being ridiculous. I NEVER thought I'd see a day where munis were an attractive buy for anyone below the moderately wealthy. Further evidence of our distorted bond market.

[Pointedstick]

Wow! It's been years since I have paid any attention to corp bond yeilds and the spread between them and munis has narrowed to the point of being ridiculous. I NEVER thought I'd see a day where munis were an attractive buy for anyone below the moderately wealthy. Further evidence of our distorted bond market.

Being a bond market noob myself, I'd like to ask: with the benefit of your experience, do you think the yields on munis have risen compared to what you would expect, or have yields on corporate bonds fallen compared to what you would expect? Or both?

[Ad Orientem]

Corporates look really pricey right now. But to be honest I'm not feeling a lot of love for bonds on any kind of speculative basis.

[Ad Orientem]

It looks like the yield on 20 yr AA rated Munis has risen about 90 basis points in the last  month. The yield on 10 yr T Notes has risen almost 40 BPs in the same amount of time. That's a scary move in bonds. If this continues it could have serious implications. Consider how much it will cost to refinance the national debt if Treasury yields continue to spike in a similar manner.

http://finance.yahoo.com/bonds/composite_bond_rates

[Xan]

Emergency Manager Kevyn Orr’s plan to suspend payments on $2 billion of Detroit’s debt threatens a basic tenet of the $3.7 trillion municipal market: that states and cities will raise taxes as high as needed to avoid default.

Detroit Recovery Plan Threatens Muni-Market Underpinnings