Dec

15

Just looking at the muni index funds can be a little misleading. The actual funds are bid down today a lot more than their NAV. Also munis seem to be a lot more affected today on the longer end of the curve (2021+)… though there are debatable interpretations of that.

Everyone seemed to react frantically to the Fed in early afternoon, even though it seemed to me to be exactly what one should expect at this point… "likely to warrant exceptionally low levels for the federal funds rate for an extended period." Did this really catch people by surprise?

Kim Zussman writes:

Here is updated ratio of California muni etf / Treasury etf (fairly well matched in duration, symbols CMF/IEF).

Still above the November low, but since then both munis and treasuries have falled down in price.

 

Ken Drees adds: 

I found this good article on this topic: 

QE 3 ?

Reasons for the Muni Selloff

1. Unwinding of the "sure-thing" Quantitative Easing trade
2. Selloff in bonds in general because of budget and inflation concerns
3. End of the Build America Bond program (BABs)
4. Increasing default risk

Of the above reasons, 3 and 4 are the most important on intermediate and ongoing basis.

BABs was excluded from Obama's compromise tax proposal. Hopefully it stays that way. I discussed why in Time to Kill Build America Bonds (BABs)

The short version is "Taxpayers are already on the hook for hundreds of billions of dollars of Fannie Mae and Freddie Mac debt. We should not extend the insanity to government guarantees of municipal bonds"

However, now that the government guarantee is gone, yields are poised to rise, especially with increased default risk rising.

Here are several examples of rising default risk:

a.. Detroit Mayor Plans to Halt Garbage Pickup, Police Patrols in 20% of City; Expect Bankruptcy, Massive Municipal Bond Turmoil in 2011

b.. Miami Commissioner Says Bankruptcy is City's Best Hope; Chris Christie Says New Jersey Careens Towards Becoming Greece

c.. Oakland California Bankrupt - Councilwoman Pat Kernighan Calls Rest of Council "Crazy and Irresponsible"

d.. L.A. Controller Says City Could Run Out of Cash by May 5

e.. Chicago's Mayor Daley Discusses Bankruptcy For City Pensions

All it takes is one brave municipality to lead the way and others will follow. When that happens, the baby will likely be thrown out with then bathwater. There is no reason to like Munis here.

By the way, bankruptcies are a very deflationary event.

Mike "Mish" Shedlock


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