Tag Archives: Muni Bond

Puerto Rico Opportunity … Final Of a Three Part Series

While I am not sure if it is the new car effect (when you buy one, seems like everyone else is driving one too) or there really has been a major increase in headlines concerning Puerto Rico. Coincidentally, S&P downgraded them the day before our first post, now Moody’s followed with an even lower rating last Friday. Either way our logic is the same, and is as follows.

Puerto Rico Opportunity

In our first and second post along with our fill in muni primer earlier this week, we spoke about Puerto Rico’s background, economy, and the huge size of it’s public debt.Opportunity

Here is the possible secret opportunity and most important item. As we highlighted and underlined in the second post, 75% of all Muni Mutual Funds hold some Puerto Rico Debt.

If there is a rush for the exits due to the perceived risk of Puerto Rico debt or even more opportunistically, Puerto Rico debt starts to wobble and Mutual Fund Managers see heavy redemptions, there will be blood AND opportunity.

It is possible that Mutual Fund managers MAY HAVE TO SELL GREAT Muni Bonds in the open market if there is a rush for the exits. If this occurs, we will be ready.  Remember, bonds are more complicated in many ways than stocks and may present inefficient opportunities.

Closing Thoughts

We hope you enjoyed our three-part series. Our thesis may never occur, and for the record, we think it highly likely a USA intervention would occur if Puerto Rico started to wobble. We also know that perception can be stronger than reality and may present an opportunity in the interim. If this occurs we will be ready (digital diary.)

Have a Great Day!

John A. Kvale CFA, CFP

8222 Douglas Ave # 590
Dallas, TX 75225

What the Heck is a Muni Bond?

Our final Puerto Rico discussion is later this week and focuses on their Public Debt/Municipal Bond situation. As a primer, we wanted to dig a little deeper into our good friend the Muni Bond.

What is a bond?

A bond is generally a debt instrument issued for an amount of money with a promise to return the amount in the future for a stated interest rate. As an example an issuer may sell his instrument for 15 years and pay an annual rate of 6% with the promise to give back the principal at the end of the term.

What is a Muni Bond?

A Muni or Municipal Bond is a special bond (debt instrument) that is issued by a public agency (think city, public stadium, transportation road, water utility, just to name a few) and in most cases pays income tax-free to investors.Muni Bond

Tax Free Income, but with a Catch

As mentioned above, the income from Muni’s are generally tax-free, however there is a catch. The income from a Muni is generally lower than that from a non-muni similar bond. Without getting into the weeds, if a 5 year regular bond yields/pays 5%, a similar muni bond might only yield 3%, but the investor need not pay taxes on the muni bond income/interest received. Each investor’s tax rate determines the best bond for their situation.

Bonds Can be Complicated

Unlike stocks/equities, bonds can be complicated. Generally, the stock of company ABC has only one class. The city of ABC may have dozens of different bonds with more or less covenants (restrictions, bylaws, and safety features.)

While investors can easily purchase one share of stock, muni bonds are best traded in $100k lots, also known as “Round Lots.” Trading smaller lots/amounts of bonds may lead to less efficient executions. An investor can also purchase muni’s via ETF’s or mutual funds as well, especially helpful for smaller dollar purchases.

Our favorite Muni bond is call a GO, or General Obligation bond. This means the bond is not focused on one single project or revenue source. Generally speaking for a GO to default the entire agency must default, which usually does not happen as a surprise. Detroit was on notice for years, as is Puerto Rico today.

While not exhaustive, this Muni Primer should have us all ready for our final Puerto Rico post later this week.

Have a Great Monday!

John A. Kvale CFA, CFP

8222 Douglas Ave # 590
Dallas, TX 75225

Puerto Rico Part Two …. Debt Levels … Darn S&P Steals Our Thunder

You just cannot make this up … Right after market close yesterday (2-4-14) Standard and Poors did all they could do to steal our thunder on this subject and downgraded Puerto Rico’s debt, EXACTLY where we were headed in our series, great minds.

Not to worry, we will trudge ahead as the sizzle is in Part Three which comes next week.

Puerto Rico’s Debt SituationPuerto Rico

As noted in last weeks post, Puerto Rico is beautiful and a wonderful place to visit, with tourism making up a lot of their GDP, however their growth is lacking and they have heavy debt load.

Here are a few interesting stats from a recent Forbes article:

  • Puerto Rico has public debt of $53 billion  or $17,500 per person ($70 billion with government debt)
  • The State of Texas for comparison purposes has $40 billion or $1,577 per person
  • 75% of all Muni Bond funds own some Puerto Rico Debt ($3.7 Trillion total muni debt) VERY IMPORTANT !!
  • Puerto Rico is the THIRD largest issuer of public debt behind only California and New York

Ok, you get the point, a smaller country, with a sinking GDP and HUGE debt service … Something has to give!

How likely is a Puerto Rico default?

As said earlier, Standard and Poor’s stole our thunder by downgrading Puerto Rico’s debt less than 24 hours ago.

… S&P, which had placed Puerto Rico’s rating on notice for a downgrade last month, said it now rates the Caribbean commonwealth at “BB ,” one level below investment grade. Previously it had rated it “BBB-.   … S&P said it worried that Puerto Rico, a Caribbean island populated by 3.62 million people, has limited ability to sell more debt in the U.S.’s $3.7 trillion municipal bond market and faced possible cash shortages.

Next week, possible opportunity from the masses  … No more beating up on Beautiful Puerto Rico!

Have a Great Day!

John Kvale CFA, CFP

8222 Douglas Ave # 590
Dallas, TX 75225