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Investors must be extra careful when buying municipal bonds

Dear Mr. Berko: What do you think of municipal bonds?

I recently read that Bill Gross, who manages Pimco, the biggest municipal bond fund, recently invested $4.5 million in Pimco, bringing his total to $9 million in this tax-free fund.

I’m thinking if it’s good enough for him, it should be good enough for me. I have $300,000 in stock, and if you think it is a good idea I would sell $75,000 in stocks and put it in some good tax-free investments.

I would like your opinion and thoughts before I do it and a recommendation of several tax-free investments. Your columns have been very helpful to me.

– M.B., Bloomsburg, Pa.

Dear M.B.: Today, investors must be double-extra-special careful when buying municipal bonds.

Yes, I know that Bill “Muni-man” Gross, who runs the $1.3 trillion Pimco – the largest municipal bond fund in this quadrant of the galaxy – just doubled his persona investment in Pimco to $9 million.

Some would say Pimco’s $1.3 billion in munies is not an investment in the bond market. Rather, it is the bond market.

The total outstanding municipal bond debt is just under $3 trillion, and Pimco owns 45 percent of the entire kit and caboodle (talk about too big to fail). But according to Forbes, Muni-man is worth $2.1 billion, so his $9 million investment is less than 0.45 percent of his net worth. His investment doesn’t impress me one whit and is not a reason to invest 25 percent of your portfolio into municipal bonds.

I think the muni bond market is in for a kick in the grass this year or early 2012. Several small municipalities had to declare bankruptcy last year, and several large municipalities who were talking the talk in 2010 may be walking the walk this year.

Detroit, once proudly called Motor City till the unions assisted the demise of the auto business, may be close to corpse status. A desperate City Council is cutting essential services to 20 percent of the city: no road repairs, streetlights, police protection or garbage collection. Now the crime rate in Detroit is falling because there’s nothing left to steal.

Meanwhile, two New Jersey cities, Camden and Newark, need blood badly, but no one wants to donate. Harrisburg, Pa., just missed a $10.5 million bond payment and is struggling for solvency. And the state of California (the Left Coast) is using running out of smoke and mirrors to camouflage its underbelly and is, by acceptable accounting standards, bankrupt.

Meanwhile, the National League of Cities indicated that 80 percent of its members are downsizing personnel, eliminating programs, reducing services and restricting consumption. There’s a lot of scary stuff going on out there that argues for extreme caution in owning muni bonds.

And, of course, there’re rising interest rates. I’m willing to wager my mint collection of 117 Barbie dolls, including accoutrements, to a dozen of Gram’s Donuts (Largo, Fla.) that today’s rates will be significantly higher in two years. So put this in your bong and smoke it.

But here are a few municipal bond trusts that the consensus seems to favor. Western Asset (MTT, 52-week high of $22.86 as of Sept. 8) is nonleveraged, trades at a 2.8 percent discount to NAV and yields 5.4 percent. Nuveen Select (NXR, 52-week high of $15.25 as of Sept. 20) is nonleveraged, trades at a 2.6 percent discount to NAV and yields 4.93 percent. Nuveen Municipal Value (NUV, 52-week high of $10.22 as of Sept. 1) is nonleveraged, trades at 2.1 percent discount to NAV and yields 5.33 percent. And if you want to take a municipal gamble, consider BlackRock Muni California (MYC, 52-week high of $15 as of Oct. 11), which is 44 percent leveraged, trades at an 8.8 percent discount and yields 7.31 percent.

Please address your financial questions to Malcolm Berko, P.O. Box 8303, Largo, FL 33775 or e-mail him at mjberko@yahoo.com.

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