Rumblings heard from Washington recently regarding a threat to the tax-exempt status of municipal bonds don’t seem to trouble retail investors, who have increased their purchases of munis this year, mostly through mutual funds.
If anything, mom-and-pop investors are actually paying closer attention to the federal deficit and the possibility of higher marginal tax rates following the 2012 elections.
Rather, if there are any general worries among the vast retail contingent about the tax-exempt market, they appear to involve credit fears, muni pros say. But even here, moms and pops are increasingly aware of the fact that many state and local governments are balancing their budgets.
Retail investors aren’t worried about the risks to tax-exempt status because there’s not that much of a perception among their numbers of any real developments in that regard, according to Todd Curtis, a senior municipal bond manager with the Aquila Group of Funds.
“There’s a little more fear at the retail level about the federal deficits, and how we’re going to pay for those deficits, and how they believe it’s going to be highly inflationary,” Curtis said. “And what little they know about fixed-income products, they know that’s bad.”
The most recent menace to munis’ tax-exemption came from President Obama’s 2013 budget proposal. Most in the industry, though, say it has no chance of becoming a reality this year.
In February, Obama proposed to limit the tax rate at which high-income earners can reduce their tax liability to 28% for individuals making more than $200,000 a year and married couples earning more than $250,000 a year, rather than as high as the current 35%. The limit would apply to tax-exempt interest from all muni bonds — those in existence, as well as those to come.
Retail investors are more aware of the fact that the deficit headlines have died down, he added, and that predictions of large numbers of municipal defaults in 2011 have proved inaccurate.
Now there is more attention being paid to potential changes to the tax code. If Obama is re-elected, he could choose to raise marginal tax rates for the highest brackets. And retail buyers are mindful of this, said John Mousseau, a portfolio manager for Cumberland Advisors.
If marginal tax rates were to climb, so likely would retail interest in tax-exempts, he said. Retail investors would “start viewing things a little differently, and that makes the taxable equivalent returns, of course, higher,” Mousseau said.
“And when you look at some of the volatility that’s gone through the stock market — even with a good stock market since last October — combined with possible higher marginal tax rates, as well as the fact that you have an older population of baby boomers retiring, it makes the case for bonds a little more.”
