Investors May Face Municipal Bond Meltdown
Inevitably, people are always asking me where the market is going next. Believe me, if I could answer that question, I wouldn’t be working for a living. I would be trading my own account from my private hammock on my own private island.
What I can do is tell you about the trends I see developing and how they may or may not represent opportunity or risk. That’s why I am writing today.
One of the smartest financial advisors I know, Ric Edelman, is sounding the alarm on municipal bonds. The reasons are simple. Bankruptcies at a handful of municipalities in California are shaking the very foundations of the sleepy muni bond industry.
In the largest ever municipal bond bankruptcy in Stockton, Ca., officials are making payments on employee retirement plans to Calpers, while they default on payments to bondholders. This is unheard of – it's as astonishing as if the sun rose in the west and set in the east. If local governments can put muni bond holders at the back of the line when it comes to payments, well, then the investment has just moved out the risk curve. Bondholders have traditionally been fully repaid their principle during major bankruptcies. Game of craps, anybody?
Edelman talked about these risks on The Willis Report last week after attending a roundtable with a Securities and Exchange Commission Official and bond money managers who discussed their worries that higher rates will hit individual bond investors hard. The muni bond market is dominated by retail investors who hold 7.4% of the $3.7 trillion market.
A couple of years ago, a Wall Street analyst was vilified for saying the muni bond market would encounter headwinds. Today, numerous market players are saying there could be troubles ahead. This time we all should listen.