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Investing in Local Municipal General Obligation Bonds: Earn a Potential 6% Yield After Taxes

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Investing in Local Municipal General Obligation Bonds

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Introduction

Income investors have an opportunity to invest in bonds that help finance school projects and potentially earn a yield of around 6% after tax considerations. Local municipal general obligation bonds fund operations or specific projects, such as school renovations or new buildings. They are backed by the full faith and credit of the issuer and offer tax-exempt interest.

Yield Potential

Currently, yields for local general obligation munis are historically attractive at about 3.7%. For those in the highest tax bracket, yields can reach over 6% on a tax-adjusted basis. Furthermore, in some cases, these bonds are also exempt from state taxes, increasing the potential yield even further.

Credit Quality and Financial Stability

Local general obligation munis generally have a solid credit quality. The majority of them are in good financial shape due to the stimulus received in recent years. Additionally, property taxes, which remain stable, provide a consistent source of revenue. Rising property values can also contribute to increased revenue, although there may be a lag before the assessed value catches up to the current market value.

High Credit Ratings

Local general obligation bonds tend to have high credit ratings, with about 45% being AAA rated. This makes them a relatively safe investment option. The credit backdrop is currently stable and could potentially improve, making these bonds even more attractive.

Considerations for Investors

When investing in local municipal general obligation bonds, it’s important to research the credit of the area, including its reserves and balanced budgets. Areas with a stable or rising population and higher income earners are generally more favorable. Diversification by investing in bonds from multiple states is also recommended. However, keep in mind that investing in bonds outside of your state may subject you to state income tax.

Investment Options

Investors can choose to invest in local general obligation bonds through individual purchases, or they can opt for mutual funds or exchange-traded funds (ETFs) that have a higher allocation to these bonds. It’s advisable to look for funds with a portfolio allocation of more than 15% to local general obligation munis. Some examples include Schwab’s Municipal Bond ETF and Vanguard Tax-Exempt Bond ETF.

Consider Fees and Track Record

When investing in mutual funds or ETFs, it’s important to be aware of the fees charged by the fund. Additionally, evaluating the fund’s track record and performance can provide insights into its historical performance.

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