Opportunities in the Maelstrom: Munis Continue To Perform Well

Two good articles appeared in yesterday's New York Times about the municipal bond market.

The first one was by Roger Lowenstein, and was titled "Broke Town, U.S.A."

Lowenstein is an excellent observer of the financial scene. Among other books* he has written was a prescient book called While America Slept which correctly forecast the current crisis in the public pension arena.

What I like about yesterday's article was a couple of points. First, Lowenstein agrees with Random Glenings in that he foresees that most municipal bonds will pay as scheduled.

However, he takes it a step further, and notes the misery that past debt obligations will inflict on today's citizens:

But what if the burden of municipal woes falls elsewhere than on bondholders? Yes, cities and states have creditors. They also have citizens who rely on their services and who pay the taxes, and they have public employees who are dependent on stable public-sector jobs and often-ample benefits. {Meredith} Whitney isn’t wrong about a crisis in local government; the crisis is here. The question is, will it be articulated in terms of bond defaults or larger kindergarten classes — or no kindergarten classes at all? The efforts in Wisconsin and elsewhere to squash organized labor suggest that politicians are no longer so willing to protect public employees. Teachers and nurses are likely to suffer well in advance of investors.

http://www.nytimes.com/2011/03/06/magazine/06Muni-t.html?_r=1&scp=1&sq=broke%20town%20USA&st=cse

So it was with no small sense of irony that the Times' business section had a good piece discussing how well investors who ignored the naysayers at the end of last year and bought munis have done so far this year:

This great exodus {by retail investors} has contributed to short-term price distortions. Small investors have been hurt by selling low, and, as always, smart money has entered the fray. Speculators have had easy pickings.

“Some of the trades in this market have been very sweet lately,” said Matt Fabian, managing director of the research firm Municipal Market Advisors. Muni yields began rising in November, and prices, which move in the opposite direction, fell, hitting a trough on Jan. 14, he said.

Swept up in the price movements were some red-hot munis — including those Cornell and Harvard bonds. (Although state and local governments, as well as water systems and sewer districts, are classic issuers of munis, universities may also offer them through various means.)Traders who bought a 30-year Cornell 5 percent bond in mid-January and sold it last week would have pocketed a quick 9.3 percent profit, he said. Trading the equivalent Harvard bond over the same short period would have produced a 6.3 percent gain.

http://www.nytimes.com/2011/03/06/your-money/06stra.html?scp=1&sq=jeff%20sommer&st=cse

*I highly recommend Lowenstein's earlier books on Warren Buffett and Long-Term Capital (titled When Genius Failed).