Municipal bonds are one alternative asset that investors can own to diversify their portfolios, containing certain benefits such as tax exemption.
Wealth Enhancement Group deputy chief investment officer Doug Huber sits down in-studio with Wealth's Brad Smith to outline the best practices for investing in municipal bonds.
Catch Franklin Templeton's Dave Donahoo explain three other types of alternative assets that investors should consider.
To watch more expert insights and analysis on the latest market action, check out more Wealth here.
Another potential alternative investments to add to your portfolio, municipal bonds. Here to break down what they are and just how they work, we've got Doug Huber. He is the deputy chief investment officer at Wealth Enhancement Group. Doug, good to have you here in studio with us.
Thanks for having me.
All right, so let's just start there. How do municipal bonds work? Why are they attractive potentially in a market like this?
Yeah, sure. I think, you know, at at their core, they're just debt issued by state and local governments to fund, you know, projects, right, bridges, schools, highways. Um, the big benefit is that they have tax advantage benefits, right? Their yield is typically tax exempt from federal or state taxes. And so for clients that are in high tax jurisdictions like a California or New York, they can be really interesting from a fixed income investment.
Do you have to live in the jurisdiction in order to participate in municipal bonds?
No, absolutely not. You know, anybody can buy them. I think it's it's just more advantageous if you buy, if you live in California, you pay California taxes, if you own California municipal bonds, those that income stream is not subject to that tax.
What's a good rule of thumb in terms of the returns that you should be looking for from municipal bonds?
Yeah, I think there's a couple ways to look at kind of are they valuable today, right? You know, one we took frequently look at is just we call it the tax equivalent yield, right? So what would a taxable bond, one that you would pay taxes on, need to yield to meet the same yield that you're getting from muni bonds today? And so interestingly, I think, you know, the municipal bond index is probably yielding around 4.1% give or take right now. The tax equivalent yield for for a similar security is almost 7%. So that means you got to probably get, you know, high yield type exposure to get that yield. So it is attractive from that perspective. Uh another way we can look at it is what we call the muni treasury ratio, right? And oftentimes, I think for the 30-year average, munis have been roughly 84% of the yield of US Treasuries. Today they're 92%. And so you're getting that pickup. They they generally trade below that kind of parity because there is that tax exempt benefit. But I think anytime it gets, you know, into that 90s to 100 range, that's when people generally are going to say, hey, this this is a, you know, looking like an opportunity today.
What is the issuance process for municipal bonds?
Like I said, they're issued by state and local governments. You know, the I think the bigger issue is that um it isn't a liquid market, right? It's typically, you know, individual investors. Um there's obviously, you know, managers that invest in these. So typically done in separately managed accounts, mutual funds, ETFs. But you know, as a as a holistic asset class, it is less liquid than you might see in investment grade corporate bonds, US Treasuries, even the high yield market. It's just not as big.
Who is the type of investor then with that liquidity profile in mind, who is the type of investor that would be apt to layer this into their portfolio and at what juncture in their perhaps portfolio build out process?
Yeah, absolutely. I think this is this is an alternative to traditional taxable fixed income and I think the the the typical investor you would see in this is a higher ultra high net worth individual uh that is is usually towards that top top tax bracket and usually in states that have high, you know, marginal tax rates, right? This is less of an issue for a Florida resident, right? It is a big, there's big issuance in New York, Massachusetts, Minnesota, California, those high tax states because it's attractive, right? Um and so it's usually high and ultra high net worth individuals and they take some piece of that fixed income pool, whatever that allocation may be, and put it into muni bonds to to complement their taxable fixed income.
Doug, thanks so much for taking the time here with us in studio.
Absolutely. Thanks for having me.