Muni bond funds

On Wealthtrack interview recently Randy Forsyth (Barrons Online editor) and Whitney Tilson discussed the subprime situation, and Randy concluded that given expected weak returns on MM funds throughout rest of 2008 muni funds are a good investment.

Risk of owning muni bond fund: If insurers get down graded by ratings agencies, barring bailout, (or bankrupt) could cause muni downgrade. This would force institutions that own munis to sell them because such institutions may have investment mandate to own double-A or better, for example, and bonds sold to single-A could force selling, causing your fund to get marked down. Now, if you own the bonds, it doesn’t matter how it’s rated – the municipalities are not going away. You can hold the bond funds to maturity – the fund will take mark down, but as long as fund holds the muni bonds and didn't speculate in CDOs or other derivatives rooted in bonds, then fund should recover. Note best bond funds never took insurance into account – only looked at underlying assets.

Given recent declines in bond fund values, could be good time to initiate small position. E.g., VWITX (Vanguard Intermediate Term Tax Exempt bond fund) closed at $13.18 per share, close to Q4 low of $13.13. Now, in Aug it was in $12.90s, so the market has tested lower values. But this would be one to hold until the markets look better, and the income would be tax free.

According to Randy, very unusual situation where top quality tax-free muni bonds pay same yield as taxable Treasuries. Best way for consumers to participate are through bond funds.