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  • Muni Nation

    Reward For Risk

    Jim Colby ,Portfolio Manager
    February 29, 2012
    • High-yield muni bonds are at attractive spreads despite a recent rally in AAA munis
    • Current yield spreads indicate a potential total return opportunity for investors

    "Hey! Did you make a mistake?" you may ask after looking at the table below. "Well, no" I would reply. The table shows the yield spreads, or the difference in yields, between high-yield and investment grade munis, as measured by the Barclays Capital Municipal Bond Index and the Barclays Capital High Yield Municipal Bond Index, respectively, measured as of January 1, 2012, and currently. Yes, the numbers are the same, during the recent YTD period [1/1/12 - 2/27/12] when AAA municipal yields hit all-time lows and then rose approximately 20 basis points [bps] as supply began to build.

     Municipal Bond Spreads:
    High Yield vs. Investment Grade Munis


     As of
    10/31/95 - 1/01/12

     As of 
    10/31/95 - 2/27/12

    Current Yield Spread

    399 bps 

    399 bps 

    Long-Term Avg. Yield Spread

    272 bps 

    272 bps 

    Historic Minimum Yield Spread

    113 bps 

    113 bps 

    Historic Maximum Yield Spread

    636 bps 

    636 bps 

    Municipal high yields, thus far in 2012, continue to be priced at attractive spreads of 399 basis points, or 127 basis points above the long-term average of the past 16 years between the two Indices. Additionally, high-yield munis are currently offering nearly 4% more in yield than investment grade munis.

    Looking forward, I believe that investment grade municipals will remain fairly stable given the Federal Reserve's stance. However, given the type of issuers that dominate the muni high yield space (airlines, oil services, paper, chemicals, autos, health care services, etc.), it is my opinion that if the economy improves, then a total return opportunity could be realized in high yield if the two Indices revert to their long-term average relationship of 272 basis points.

    The Barclays Capital Municipal Bond Index is considered representative of the broad market for investment grade, tax-exempt bonds with a maturity of at least one year. The Barclays Capital High Yield Municipal Bond Index is considered representative of the broad market for non-investment grade, tax-exempt bonds with a maturity of at least one year.



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    All indices listed are unmanaged indices and do not reflect the payment of transaction costs, advisory fees or expenses that are associated with an investment in a fund. Certain indices may take into account withholding taxes. An index’s performance is not illustrative of a fund’s performance. Indices are not securities in which investments can be made.

    The Bloomberg Barclays Municipal Bond Index is considered representative of the broad market for investment grade, tax-exempt municipal bonds with a maturity of at least one year. The AAA and BBB indices are sub-sets of this broader index.

    Municipal bonds are subject to risks related to litigation, legislation, political change, conditions in underlying sectors or in local business communities and economies, bankruptcy or other changes in the issuer’s financial condition, and/or the discontinuance of taxes supporting the project or assets or the inability to collect revenues for the project or from the assets. Bonds and bond funds will decrease in value as interest rates rise. Additional risks include credit, interest rate, call, reinvestment, tax, market and lease obligation risk. High-yield municipal bonds are subject to greater risk of loss of income and principal than higher-rated securities, and are likely to be more sensitive to adverse economic changes or individual municipal developments than those of higher-rated securities. Municipal bonds may be less liquid than taxable bonds.

    The income generated from some types of municipal bonds may be subject to state and local taxes as well as to federal taxes on capital gains and may also be subject to alternative minimum tax.

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