Are municipal bonds still safe?

You may be wondering how investing in Municipal Bonds has changed. Jeffrey H. Massey, a Certified Financial Planner™ Professional joined The Rhode Show to discuss the new reality for Municipal Bonds.

The Rhode Show: Many cities, counties and states are facing tough financial times. How might their financial troubles impact investing in Municipal Bonds?

Jeff: As an investor, you may be wondering if Municipal bonds (referred to as “Munis”) are still an appropriate investment in this economic environment – or if the Munis you already own are at risk.

The last 10 years or so has seen a major shift in the global economic balance of power. I do not think that the United States is finished and emerging countries will take over - far from it.

All I am saying is that things have changed and the old assumptions may no longer hold true. I am suggesting many of the financial beliefs that were taken for granted for decades should now be reevaluated. One area that has certainly changed is the financial position of many Municipalities across our country.

The Rhode Show: Why would an investor by a municipal bond over other types of bonds?

Jeff: Historically, people have bought Munis because they believe they're one of the safest things out there, but today people are thinking that they may not be as safe as they were in the past. Let’s face it municipalities are having a hard time living within their budgets.

They have unfunded pension liabilities, healthcare costs, etc. They are having trouble balancing their books. In the past, investors would be willing to take a lower yield in a Municipal Bond due to the favorable tax treatment of the income.

The market data now suggests that investors are getting leery of Munis and are not as willing to accept a lower yield. They are buying Treasuries instead. That translates to they are not comfortable with the potential risk of default. Add to that the issue of duration, which is the time until maturity.

Munis are historically very long term bonds. Bond market values will move in the opposite direction of interest rates. It is inevitable that interest rates will rise. When interest rates rise, bond values will fall.

For every 1% point rise in interest rates, your bond value will drop approximately equal to the duration. So, as an example, if you have 8 years remaining on your bond, your market value will drop approximately 8%.

That will be the next stock market bubble to burst. So, as a precautionary step, evaluate the duration of your bond holdings and determine what steps you should take to avoid that next bubble.

The Rhode Show: Will inflation affect the value of Municipal Bonds?

Jeff: Inflation is eroding the value of long-term, buy and hold fixed assets because the fixed principal and coupon associated with bonds will shrink by the rate of inflation. Moreover, the coupon from a Muni cannot normally be reinvested. So you lose the advantage of compounding your growth.

For more information or a complimentary consultation, contact:
Jeff Massey, Certified Financial Planner™, at 401-333-8000

Massey & Associates, Inc,
650 George Washington Highway, Lincoln RI 02865
Also offering meeting locations in Middletown and in East Greenwich.
www.jeffreymassey.com