Municipal bonds often conjure up images of golfers taking in a few rounds at the country club before shopping for their dream yacht. But as we see it, municipal bonds (aka muni bonds) aren’t just an investment option for the wealthiest investors.
Issued by states or local governments to finance public works and infrastructure projects, muni bonds are generally exempt from federal taxes and are often exempt from state and local taxes (although investors may be subject to the federal Alternative Minimum Tax).
Though we feel it’s unjustified, this potential advantage is more pronounced in higher tax brackets, which is how muni bonds earned their reputation as an investment geared toward wealthy individuals.
New Administration, New Tailwinds for the Muni Market
Several Biden Administration proposals could make muni bonds more attractive for a variety of investors. This includes raising the individual tax rate from 37% to 39.6% on those who earn more than $400,000 and raising the corporate tax rate from 21% to 28%. President Biden has also proposed an infrastructure bill that would not only support traditional “roads and bridges” projects, but could also support climate-change and green-related projects, providing potential tailwinds for a variety of muni-bond issuers.
It’s unclear how long it might take to actually pass new legislation or how much the final version may differ from the initial proposal. While we wait for policies and their potential impacts to materialize, here are five reasons investors may want to consider investing in muni bonds.
- Municipal bond defaults are infrequent. According to a Moody’s report, the five-year all-rated cumulative default rate from 1970-2019 was only 0.08% for muni bonds.1 Compare that to global corporate bonds, which defaulted at a 6.7% rate over that same time frame.1 It’s important to note that the overall muni default rate remained that low despite 2017 having the highest municipal defaults volume on record, mostly related to Puerto Rico, and that a bond issuer up against hard times can be downgraded in quality without defaulting.
- Municipal bonds tend to move independently of equity markets. Because they are domestically focused, muni bonds generally lack exposure to some of the same concerns and sources of volatility that global equities face. So when equity markets gyrate, muni bonds can serve as an important diversification complement within your portfolio. It’s important to note diversification does not ensure a profit or protect against a loss in a declining market.