Our “bondA financial instrument representing an IOU from the borrower to the lender. Bond issuers promise to pay bond holders a given amount of interest for a pre-determined amount of time until the loan is repaid in full (otherwise known as the maturity date). Bonds can have a fixed or floating interest rate. Fixed-rate bonds pay out a pre-determined amount of interest each year, while floating-rate bonds can pay higher or lower interest each year depending on prevailing market interest rates. guy,” Chris Keith, gives a rundown of the rapidly growing taxable municipal bond segment of the U.S. bond market
Taxable munis may grant both issuers and buyers advantages over more-common tax-exempt muni bonds—and risksThe probability that an investment will decline in value in the short term, along with the magnitude of that decline. Stocks are often considered riskier than bonds because they have a higher probability of losing money, and they tend to lose more than bonds when they do decline. are about the same
Your tax bracket and account type will determine if taxable munis are a good fit for your portfolio—Chris and Adviser Investments’ Managed Bond Program can help you decide if these (or other) bondsA financial instrument representing an IOU from the borrower to the lender. Bond issuers promise to pay bond holders a given amount of interest for a pre-determined amount of time until the loan is repaid in full (otherwise known as the maturity date). Bonds can have a fixed or floating interest rate. Fixed-rate bonds pay out a pre-determined amount of interest each year, while floating-rate bonds can pay higher or lower interest each year depending on prevailing market interest rates. make sense for your long-term goals
Municipal bonds, or “munis,” are well-known—and well-loved—by fixed-income investors for their tax-exempt income. But not all munis have the same tax profile. There’s one type that’s a little different: The taxable muni bond.
Despite the fact that their interest is subject to federal taxes, taxable munis represent the fastest growing segment of the municipal bond market with an impressive 51% increase in issuance from 2019 to 2020.
Before deciding if they’re right for you, here are five facts we think you should know:
1. Taxable munis are growing in prominence.
Both taxable and tax-exempt munis are popular capital-raising tools for states, cities, towns, counties and their respective agencies. Municipalities issue them to finance a variety of public projects including roads, schools, airports, public buildings and infrastructure.
While not quite as common as their tax-exempt siblings, taxable munis have been around for decades. A combination of factors, including the introduction of economic stimulus programs and federal tax reforms, have contributed to the growth of the taxable muni market in recent years.
As of January 31, 2021, the Bloomberg Barclays Taxable Municipal BondA financial instrument representing an IOU from the borrower to the lender. Bond issuers promise to pay bond holders a given amount of interest for a pre-determined amount of time until the loan is repaid in full (otherwise known as the maturity date). Bonds can have a fixed or floating interest rate. Fixed-rate bonds pay out a pre-determined amount of interest each year, while floating-rate bonds can pay higher or lower interest each year depending on prevailing market interest rates. Index consisted of 7,700 constituent members with a market value of $448 billion. As big as that sounds, it pales in comparison to the 55,700 members of the better-known Bloomberg Barclays Municipal Bond Index (tax-exempt munis), which has a market value of $1.7 trillion.
Taxable Munis Are Growing in Popularity
Tax Exempt Munis
Note: Table shows total issuance for 2019 and 2020 in billions of dollars and the year-over-year percentage change by bond type. Source: Bloomberg.
2. Taxable munis have advantages for issuers.
Raising money (selling bonds) via the taxable muni market gives issuers more flexibility in how they can spend the proceeds from the sale. As per the IRS, funds raised from tax-exempt munis must be used in a way that “directly benefits” the public. Whereas, proceeds from taxable munis can be used to finance shortfalls of state and local pension funds or meet a broader range of municipal expenses or private activity projects. For instance, in January 2021, the City of Nashua, NH issued $27 million in taxable munis for the purpose of financing an arts center and rebuilding a hydroelectric dam turbine.
3. They also offer greater benefits to some investors.
It’s not unusual for taxable munis to have a yieldYield is a measure of the income on an investment in relation to the price. There are several ways to measure yield. The current yield of a security is the income over the past year (either dividends or coupon payments) divided by the current price. advantage over a corporate bond of similar quality and rating. In today’s low-yield environment, this can make taxable munis an attractive addition to a diversified fixed-income portfolio.
Even so, they rarely form the core of a large institutional portfolio. Pension plans, mutual funds and hedge funds typically focus on assets where they can quickly and efficiently invest large sums of money. The taxable muni market doesn’t generally fit the bill for institutional investors due to the smaller size of the market, which makes it less appealing to them. (Big institutional investors more often fish the waters of the far deeper investment-grade corporate bond market.)
As a registered investment adviser that caters to the needs of individual investors and smaller institutions, Adviser Investments’ Managed Bond Program often finds attractive bonds in the taxable muni market for our clients’ portfolios that, due to their smaller size, are overlooked by the larger, institutional players.
4. Taxable munis are no more (or less) risky than most other bonds.
Like any bond, taxable munis come in a variety of credit qualities. Investors can choose how much riskThe probability that an investment will decline in value in the short term, along with the magnitude of that decline. Stocks are often considered riskier than bonds because they have a higher probability of losing money, and they tend to lose more than bonds when they do decline. they want to take based on their goals and comfort level. In fact, many taxable munis share the same backing (debt service backed by income taxes, sales taxes or property taxes) as their tax-exempt counterparts. This means they face similar risks. While not all muni bonds are tax-backed, many are supported by dependable revenue streams, government appropriations or user fees that will vary in strength and thus impact how they are rated.
5. Are taxable munis for you? Start with your tax bracket and account type.
Income from taxable munis is federally taxable, but may be tax-exempt at the state level, so unless our client is in a low federal tax bracket, we typically use taxable munis in a tax-deferred account like an IRAA type of account in which funds can be saved and invested without being subject to tax until the account holder reaches retirement age.. For non-tax-deferred investors in low federal tax brackets who live in a state with higher tax rates, they may find an advantage here.
An investor with a taxable account (non-tax-deferred) will need to do a bit of homework to see what makes the most sense for their portfolio—and that’s one of the ways we can help.
Adviser Investments’ Managed Bond Program
There is a higher level of complexity and opacity to the bond market compared to stocksA financial instrument giving the holder a proportion of the ownership and earnings of a company. or mutual funds. As a result, many individual investors feel at a disadvantage investing in bonds on their own—it’s not like opening a brokerage account and trading stocks. That’s why it’s far more common for investors to either buy fixed-income mutual funds or exchange-traded fundsA type of security which allows investors to indirectly invest in an underlying basket of financial instruments (these may include stocks, bonds, commodities or other types of instruments). Shares in an ETF are publicly traded on an exchange, and the price of an ETF’s shares will fluctuate throughout the trading day (traditional mutual funds trade only once a day). For example, one popular ETF tracks the companies in the S&P 500, so buying a share of the ETF gets an investor exposure to all 500 companies in the index., or work with a financial adviser or bond manager to tailor a bond portfolio on their behalf.
Adviser Investments’ Managed Bond Program seeks to provide our clients with diversificationA strategy for managing investment risk by investing in a mixture of different investments. Since different asset classes face different risks, even if one type of asset declines in value, others may not. from an equity-heavy portfolio, a reliable stream of income, a means of preserving capital or a combination of the three. We craft a custom portfolio based on your goals and work closely with your wealth management team and other service professionals to consider your entire financial picture. Call us today to learn how taxable munis (or any other type of bond) could enhance your portfolio. We’re here to help!
For informational purposes only; not a recommendation to buy, hold or sell any investment product. Past performance is not an indication of future returns. All investments carry risk of loss and there is no guarantee that investment objectives will be achieved. Speak with a financial adviser before taking specific action. The investment ideas and opinions contained herein should not be viewed as recommendations or personal investment advice or considered an offer to buy or sell specific securities. Data and statistics contained in this report are obtained from what we believe to be reliable sources; however, their accuracy, completeness or reliability cannot be guaranteed.
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