I once did a post about the tendency to refer to market gurus on a first name basis. (Check it out and see how many you recognize.) Meredith Whitney was in there in her earlier incarnation as a bank analyst. That was before her controversial call about municipal bonds. Now when her name is invoked, disdain and sarcasm come along with it.
Things haven’t turned out as she predicted, to say the least, although attention to the subject of muni credit risk was welcome. As I noted in a piece last year, the state of municipal financial reporting leaves a lot to be desired, especially for small and mid-sized issuers.
The top panel of the chart shows the performance of the largest muni ETF (MUB), starting with the issuance of Whitney’s report in September of 2010. As she subsequently made televised comments predicting a huge wave of bankruptcies, the sector got hit. However, if you look at the middle panel, you can see that the losses were related to a general rise in rates. The bottom panel shows the yield ratio between general obligation bonds rated AA1 and Treasury notes. The real gapping out in the ratio took place well after Whitney’s call. (For perspective, the ratio averaged 0.88 from 2000 to 2007, with 0.80 generally being the low end and 1.00 the high. It hit 2.20 during the financial crisis.)
Of late, munis have been on a tear. As noted in The Bond Buyer, there has been “high investor demand, little issuance, large muni bond mutual fund inflows, and a rally that pushes yields to record lows.” On Saturday, there was a positive take in Barron’s, arguing that reaching for yield will continue apace, as is happening with junk bonds.
While there still may be credit risk out there, it’s interest rate risk that most buyers of municipal bonds should be wary of now. (Chart: Bloomberg terminal.)
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