In the wake of the financial crisis, property and casualty insurers and government-sponsored enterprises became sellers while foreign investors and life insurance companies flocked to taxable munis. Banks in general have ramped up their holdings.
The shifts in sentiment are reflected in data from The Bond Buyer/Thomson Reuters 2012 Yearbook, published this week.
The data, drawn from the Federal Reserve Board, show that there have been shifts in the top five municipal debt holders since 2001. Money market funds have slipped from number two in 2001 to fourth place in 2011. Households, which include individual investors, remain the number one holder of munis.
Mutual funds, a proxy for individual investors, have risen from being the third biggest muni debt holder in 2001 to being the second biggest in 2011.
During the same period, property and casualty insurers have risen from being the fourth largest to being the third largest, even though they have reduced the total amount they own in the last three years.
The Federal Reserve data indicates that the total municipal debt outstanding went from $1.60 trillion in 2001 to $3.74 trillion in 2011, a 133.4% increase. All debt totals are for Dec. 31 of the year mentioned.
In December the Fed revised all of its outstanding municipal debt data going back to 2004. The new method revised the central bank’s estimate of the amount of municipal bonds held by households by an average of $840 billion per year since 2004. This increase in household muni portfolios also increased the number for total debt outstanding.
The Fed did not use the new methods to revise estimates for muni debt outstanding for years before 2004.
There was a great deal of leveraging that went on in the past decade, including in the public sector, according to Peter Hayes, head of the municipal bonds group at BlackRock. That helps to explain why total muni debt expanded as much as it did, he said.
This story’s figures are not adjusted for inflation. Inflation from 2001 to 2011 was about 27%.
Using the official Fed figures for household ownership of municipal debt, it went from $581 billion in 2001 to $1.9 trillion in 2011, a 224% increase. However, the Fed acknowledges that the data before 2004 is inaccurate. If one assumes that the actual household holding was $1.401 trillion in 2001, then the actual increase was about 34%.
Households, attracted by tax-exempt interest, increased their muni holdings because wealth levels have increased generally since 2001, Hayes said. “With aging baby boomers more concerned with income than return, munis became the investment of choice,” he said.
Most of the jump in household holding was due to the Fed’s methodology change, said Alan Schankel, managing director of fixed-income research at Janney Montgomery Scott LLC.
The amount of municipal debt held by mutual funds went from $253 billion in 2001 to $543 billion in 2011, a 115% increase.
The low interest rates of the last decade have encouraged investors to turn to mutual funds, according to Richard Ciccarone, chief municipal strategist at McDonnell Investment Management LLC. Investors have found they can get higher rates by investing in mutual funds than by investing in individual bonds, he said.
In this period investors have found mutual funds to be convenient, Ciccarone said.
Due to fears of default, many retail investors withdrew cash from mutual funds in 2010 and 2011, noted George Friedlander, senior municipal strategist at Citi. Mutual funds are now slowly growing again.
While property and casualty insurers held $174 billion in municipal debt in 2001, they held $347 billion of this debt in 2011, a 100% increase.
The insurance industry sees munis as safe assets, said Steven Weisbart, chief economist at the Insurance Information Institute. Property and casualty insurers have traditionally held more munis than life and health care insurers because of tax reasons, he noted.
The P&C insurers took a hit to their profits when the housing bubble burst in 2008, Friedlander said, and they have been reducing their holdings of municipal debt since then. He said because they are still suffering, they will be slow purchasers of muni debt in the next few years.
The fourth ranked holder of municipal debt, money market funds, held $296 billion in 2011 compared to $277 billion in 2001, a 7% increase. Adjusted for inflation, money market funds actually held about 20% less muni debt at the end of the period than at the beginning.
