After performing well since the 2008 financial collapse, municipal bonds took their biggest hit in two years last week. "Concern over the increasingly strained finances of states and cities and a growing backlog of new bonds for sale overwhelmed the market last week," Mary Williams Walsh of The New York Times reports. "After performing so well for so long, munis and funds that invest in them fell hard." The declines were small compared to the bonds' gains over two years, but investors were left wondering if this was a brief setback or something worse.
"The big question confronting this market is how state and local governments will manage their debts," Walsh writes. "Many are staggering under huge pension and health care obligations that seem unsustainable." Some on Wall Street have wondered if "indebted states and cities might face a crisis akin to the one that brought Greece to its knees." Still others say it is too early for such dire predictions. "I think it’s too early to say that it’s more than a correction," Richard A. Ciccarone, the chief research officer of McDonnell Investment Management, told Walsh. "The facts just don’t support a serious conclusion that the whole market’s going downhill. They could. We’ve got some serious liabilities out there."
The municipal bond market had been strong as investors looked to tax-sheltered investments as Bush administration tax cuts are set to expire. "People seek a tax shelter like municipal bonds because the interest is usually not taxed, and the bonds are considered very safe," Walsh writes. Tax-exempt bonds have been harder to find this year as more governments have switched to taxable bonds. "The causes of the week’s big decline are clouded by unusual factors like the looming end of the Build America Bonds program, which has prompted local governments to race new bonds to market before an attractive federal subsidy is reduced," Walsh writes. (Read more)
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