Debt That Pays You Well

Municipal bonds are rallying for a reason – they pay well. The market is finally realizing that they aren’t all doomed.

Imagine…getting paid 7 percent in monthly checks coming into your retirement portfolio and getting a pass on the tax owed to Uncle Sam next year.

For most folks, that’s like getting a 10.7 percent yield on a taxable-equivalent basis. But it gets better.

Think about the yield environment over the past several months. Prices of many quality companies paying good dividends have been heading higher – meaning that new purchases are yielding less.

That’s been the case with many of my favorite minibonds, and even some of my favored global bond funds. I love the big price gains we’ve achieved – but where to put new money?

A tax-equivalent yield of 10 plus percent certainly gets my attention…

But we need to do our due diligence. We need to know how that yield is getting generated – and the likelihood that it will be continued for the months, quarters and years to come. Why bother with yields that look good now but may be unsustainable later?

That’s the reason why, each month, I stress test every stock, minibond and fund inside The Pay Me Strategy. To make sure our dividends are reliable, I put the revenue streams from each of our investments under an analytical microscope – even those that I’ve known and recommended for years and years.

This same approach works with muni bonds – just as it does for oil companies, utilities, corporate bonds or government bonds.

And let’s apply our skepticism a step further. What I’ve learned – and continue to stress – is that the general wisdom of Wall Street isn’t going to do any big favors for you now or in the years to come – when it comes to building a retirement account you can rely on.

This applies to both the buy and the sell sides of the ledger. Right now, Wall Street and its lackeys in the general media are telling you to just stick with the usual stocks of the S&P – paying an anemic average dividend yield of 2 percent, more or less. That won’t keep you ahead of inflation, let alone fund your retirement.

At the same time, when Wall Street tells you not to buy something – then perhaps it might just be worth taking a look at – especially if that something is paying well.

Municipal bonds are not just paying well – but they’ve continued to pay well for decades.

Sure, there have been some municipal bankruptcies over the years. But there have been far more bankruptcies in corporate bonds – not to mention countless companies out there that have cut or eliminated dividends or even gone bust.

You wouldn’t ditch all stocks and bonds just because some have failed over the years – and the same should hold true for muni bonds.

Muni Madness

Right now, some folks are doing their level best to be the go-to guys for muni bond doom and gloom – selling it like hotcakes at a Rotary Club fundraiser breakfast.

And why not? Who hasn’t seen the news about California and Illinois and how the elected officials in Sacramento and Springfield can’t seem to grasp that they have to cut spending and reform the fiscal coffers of their respective states.

And then there are states such as Wisconson – where the folks in Madison are actually doing something to clean up their financials – and they’ve been faced with labor leaders’ hired henchmen storming the capital with torches and pitchforks.

No wonder the average retirement investor has been scared off from muni bonds.

And then there’s the queen of muni madness – Meredith Whitney of Whitney Advisory Group – who made the markets quake in near panic with her call that there would be hundreds of billions of dollars in default across the minibond market this year. She was the guest of choice on all of the networks and papers.

But you know what’s happened? Pretty much business as usual – the sky didn’t fall and most munis keep paying.

Facts Not Fiction

Let’s look past the hype to the broad facts. Whitney forecast 50 to 100 defaults – instead we’ve had 14, amounting to only 600 or so million dollars – most of it recoverable at up to 100 percent by investors in the respective munibonds.

And in the thick of the mess from 2008 – one of the worst years – the total was only around 8 billion bucks. Again, most of it recovered by investors – and for many, at full face value.

Moreover, if you look at the long-term averages – including plenty of deep recessions over the past many, many years – the default rates for munis are very low. In fact, muni default rates are much, much lower than for most other bond markets – and light years better than for corporates.

According to reviews by the leading rating agencies and muni-insurers – the average default rate for muni bonds is very low. In fact, for general obligation bonds around the nation, the rate has been running at less than a quarter of one percent. Meanwhile, corporate bonds of top-tier credit have more than double that default rate.

Even for the worst end of munis – speculative, project-specific issues including prisons and the like – the default rate is running at only 3 plus percent – with corporates of similar characteristics running at multiples of that rate of trouble.

But the real crux of minibond defaults involves recovery. Just because a muni issue delays or misses a payment doesn’t mean that the investors get nothing. In fact, for most muni issues that have defaulted, the recovery rate – for decades running – is 100 percent. That’s right – 100 percent of principal recovered by investors.

Even speculative minibonds, such as toll road revenue bonds, have a recovery rate running at 90 percent – that’s 90 cents on the dollar after the disaster.

You know what corporate bond investors have been getting over the decades when their bonds default? The average is running at only 40 percent – just 40 cents on the dollar.

My Muni Bond Buys

In writings, public presentations and lectures I’ve been recommending three munibond closed-end investment companies: AllianceBernstein Muni (AFB), Nuveen Quality (NQU) and Blackrock Muni (BLE).

The average yield paid by these three collectively is running at over 7 percent – paid in monthly checks. And the average value of the funds is greater than that of the average stock in the market by some 1 to 3 percent.

So, don’t snap up just any muni bond – buy good ones at a discount to the market and get them to pay you monthly.

Over the past trailing year – even as the market prices have been up and down as the doom and gloomers get ink and airtime – prices for AFB, NQU and BLE are still nicely positive around 3 percent – while they keep cutting hefty checks to investors.

That’s been the case for the past decade – the average price gains for all three funds are running in excess of 5 percent per year – with higher yields and less tax owed to Uncle Sam.

You can either buy these three and get paid well – or you can buy into the hype of the gloom and doomers such as Meredith Whitney and get paid nothing.

Nibble on these munis is my call.

Tagged as: retirement income

If you enjoyed this article, get email updates (it's free).

We respect your email privacy