The city of Detroit emerged from bankruptcy in 2014. Still, its previous inability to pay investors left some questioning their long-held assumption about the relative safety of municipal bonds.¹ Without question, in the wake of Detroit’s troubles, gaining a better understanding of municipal bonds makes more sense than ever.²
At their most basic level, there are two types of municipal bonds:
Both general obligation and revenue bonds share certain investment risks, including, but not limited to, market risk (the risk that prices will fluctuate), credit risk (the possibility that the issuer will not be able to make payments), liquidity risk (muni markets may be illiquid and result in depressed sales prices), and inflation risk (the risk that inflation may erode the purchasing power of principal and interest payments). They also may share call risk, the risk that a bond may be redeemed prior to maturity.
Revenue bonds are considered riskier than general obligation bonds since they are only obligated to make repayments to the extent that the project funded by the bond generates the necessary revenue to meet payment obligations.
Investors seeking to manage their risk may want to consider investing in general obligation bonds with investment-grade ratings.
Bonds used to support essential services, such as water or sewage, are also considered less risky since these services are normally unaffected by economic conditions that may impact other revenue bonds, such as private activity “munis,” which fund projects by private businesses or nongovernmental borrowers.
In light of the widespread uncertainty about the fiscal health of municipalities nationwide, diversification may be more critical now than ever before.³
Since municipal bonds generally are sold in increments of $5,000 and may be subject to disadvantageous pricing for smaller investors, many individuals look to mutual funds to manage their municipal bond portfolio, since they offer the diversification, research, analysis and buying power that most individuals can’t match.
Mutual funds are sold only by prospectus. Please consider the charges, risks, expenses, and investment objectives carefully before investing. A prospectus containing this and other information about the investment company can be obtained from your financial professional. Read it carefully before you invest or send money.
The content is developed from sources believed to be providing accurate information. The information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. This material was developed and produced by FMG Suite to provide information on a topic that may be of interest. FMG Suite is not affiliated with the named broker-dealer, state- or SEC-registered investment advisory firm. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security. Copyright 2017 FMG Suite.