The Growing Magnetism of Munis

The municipal bond market is likely to be an attractive asset class to investors in the years ahead. The success of California's mammoth sale of securities this week indicates that investors recognize the current appeal of munis.

California sold $6.54 billion of securities in various maturities, the second-largest ever sale of municipal securities behind a $7.9 billion sale by the state in May 2004. The sale was "upsized," which is to say that it was increased because of strong demand, with the offering increased from an expected $4 billion.

An unusual characteristic of California's offering is that it was more a "national" issue than a local issue. In other words, it appealed to investors throughout the nation because of its yields. California recognized as much, running advertisements throughout the country.

The attraction is apparent in the yields on the various maturities it sold. California's 2013 maturity, for example, priced at 3.20%, well above four-year Treasuries, which are yielding about 1.80%. The yield is even sweeter when adjusted to a taxable equivalent yield, which is the yield that an investor would have to receive in a taxable security to achieve the same yield for munis. In this case, the 3.20% has a taxable equivalent yield of 4.93% for those in the 35% tax bracket.

California's 10-year maturity yielded 4.9%, a whopping 2.1 percentage points more than 10-year Treasuries and a taxable equivalent yield of 7.539%. California's 30-year was sold at a yield of 6.1%, well above the 3.7% yield for 30-year Treasuries and a sweet 9.385% taxable equivalent yield.

It is unusual for municipal bond yields to be higher than Treasury yields. Historically, munis have tended to yield about 85% of Treasuries depending on maturity range, the locality and the credit rating of the muni. California's 10-year maturity is 175% of the 10-year Treasury, another way of saying that munis are very appealing at the moment.

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Tony Crescenzi is the chief bond market strategist at Miller Tabak + Co., LLC, and advises many of the nation's top institutional investors on issues related to the bond market, the economy and other macro-related issues. At the request of the Federal Reserve, Crescenzi is a regular participant in the board's Livingston Survey of economic forecasters. He is also the author of the revised investment classic, The Money Market, first published in 1978 by Marcia Stigum, and The Strategic Bond Investor. At the time of publication, Crescenzi or Miller Tabak had no positions in the securities mentioned in this column, although holdings can change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Crescenzi also is the founder of Bondtalk.com, a popular Web site covering the bond market and the economy. Crescenzi appreciates your feedback; click here to send him an email.

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