by Robert Williams, Publisher
Friday, November 20, 2009

David Fessler has a sector that warrants your attention. But first, I want to officially raise a red flag in another market.

Something’s amiss in the municipal bond market. Year-to-date, “munies” have behaved more like momentum stocks than their intended purpose of providing a safe yield.

Consider this: A handful of closed-end muni funds have averaged a 46% return so far this year.

The rally, of course, was borne out of the financial crisis, when investors and institutions alike went furiously scrambling to safety.

The novice move was into cash. But the smart money flowed strategically into the bond market. And a lot of the action was in municipal bonds. (The junk bond market is similarly overheated.)

What’s noteworthy, however, is that when the market’s sanity returned in March, the muni rally chugged on. Counterintuitive, to say the least.

So what gives? The stimulus package.

Specifically, sales of “Build America Bonds,” created under President Obama’s economic stimulus package, rose 28% in the third quarter, as municipalities chased the bonds’ abilities to lower interest costs.

More than $51 billion of such bonds have been issued since their inception.

“The federal government pays sellers 35% of their interest cost. The subsidy is needed by states coping with an 8.2% annual decline in tax collections in the first half,” according to a Bloomberg report.

Clearly, the bonds are propping up the muni market. (The effect they’re having is quite intriguing. But beyond the scope of this article.)

For now, just take note that the federal Build America subsidy is only available for bonds issued by before midnight on December 31, 2010. Beyond that, all bets are off. (Can you say “thud?”)

Ahead of the tape,

Robert Williams

View original at: Investment U

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