June 10, 2011

Muni Managers Say Widespread Default Fears Overblown: Morningstar Confab

The market remains attractive despite risks and worries fanned by analysts like Meredith Whitney, panelists say

Recent gloom about a possible wave of municipal bond defaults got a dismissive response from a panel of muni bond portfolio managers at the Morningstar Investment Conference in Chicago on Friday.

“The predictions of widespread defaults that are going to decimate municipal bond portfolios are completely preposterous,” said panelist Michael G. Brooks, senior portfolio manager at AllianceBernstein, as the discussion opened.

The panelists were Brooks; John Cummings, head of the municipal bond desk at PIMCO; and Lyle Fitterer, head of the tax-exempt fixed income team at Wells Capital Management. Moderating the discussion was Miriam Sjoblom of Morningstar.

Public anxiety about the muni market was stoked last December by a “60 Minutes” segment in which high-profile financial analyst Meredith Whitney (left) predicted “significant” muni defaults and “hundreds of billions” in losses for investors. That prediction brought a “collective gasp,” recalled moderator Sjoblom.

The reaction of today’s panel, however, was more of a collective yawn. “Sensationalism [about massive defaults is] doing a disservice to investors by putting fear in their minds,” said Fitterer, who added that such fears also have created some opportunities to buy munis cheaply.

“Default is a tiny risk because issuers do not want to be shut out of the credit market,” said Brooks. The AllianceBernstein manager pointed out that municipalities, unlike corporations, do not have options of “moving to Barbados” and therefore must plan on maintaining an ability to borrow in the future.

PIMCO’s Cummings assessed munis as a relative bright spot in his firm’s outlook on bond markets. “We think that municipal bonds are attractive relative to other U.S. fixed income assets for a U.S. taxpayer,” he said, noting that munis “do not protect you from a drop in the dollar and they do not protect you from an increase in inflation, but they do protect you from an increase in tax rates.”

“Clearly tax rates are going to be higher in the future than they are now,” said Brooks, adding that munis will remain attractive for tax purposes barring a development — which he thinks unlikely — such as Republican presidential hopeful Tim Pawlenty’s proposal to eliminate taxes on interest and capital gains.

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