Municipal Bond Market

This may bore most, if not all, of the few people who regularly read this blog, but an interesting event occurred earlier this week. The municipal bond market has tanked in the last 3 weeks. There are a variety of reasons such as the poor condition of municipal finances, Republicans were elected so the Build America bond program will likely end, and the prospect of future inflation. As an example, iShares Tax-Free Municipal Bond ETF, MUB, fell from $106 a share in October to $99 on Tuesday. This may not seem like a significant drop to those who don't follow the market closely, but to give some perspective, the last time the municipal bond market fell this much was October 2008 during the height of the financial crisis.

In a few previous posts I've mentioned that I don't truly believe that the market is efficient in the short term. In other words, I do not think the market price accurately reflects future cash flows at all times. The latest example is the municipal bond market. While I would not speak highly of the long term prospects for many issues, I do not think that the probability of default or debt restructuring (lowering the principal or interest associated with the bonds) increased over the weekend. Of all debt holders who should be worried, it's Treasury holders. They are accepting absurdly low returns while ignoring the certain pricing change that will occur as the bond market wises up. Much like other investments I've made such as BP, GS, GE (during the flash crash), and others, this is a good opportunity to enter the municipal bond market with the intention of selling after a more realistic price level returns in the near term. The municipal bond market is not very liquid, so a minor movement can affect the fair value of others' holdings. This is what I believed has happened in the last few days. Sanity will likely return and I should make a decent return, 2-5% for about 4-6 wks of investment.

With this investment I intend to publish an update every week with the returns I receive. With any luck, I will not be embarrassed by thought process outlined above.