Individual investors have been shedding their holdings of municipal bonds and pulling money from mutual funds that hold the tax-exempt securities, according to data gathered for Money magazine's Small Investor Index.
Over the past three months, investors have yanked $1.7 billion out of muni bond funds, according to AMG Data Services in Arcata, Calif. Small investors also unloaded $9.8 billion of individual bonds in the first quarter of this year, according to Federal Reserve data to be released this week. As a result, banks and other institutions have surpassed individuals as the largest holders of tax-exempt bonds for the first time since 1976.Bond analysts see two reasons behind the march out of munis. First, the pros believe that investors' faith in such securities was badly shaken by campaign talk of a flat tax, which would have wiped out munis' tax advantage over other investments. Analysts also figure that investors have been lured from munis to stocks, which have gained 11.4 percent since Jan. 1, vs. just 2.8 percent for munis.
But many analysts contend income investors should still consider munis. Says Jim Lynch, editor of Lynch's Municipal Bond Advisory: "For the best buys, stick with high-quality munis that mature in five to 10 years." At their current 5.5 percent tax-free yield, 10-year munis yield the taxable equivalent of 7.6 percent to investors in the 28 percent federal tax bracket - more than half a percentage above 10-year Treasuries' 7 percent yield.
Last week, the Money Index, which tracks the value of the typical investor's portfolio, lost $337 to $64,286. Stocks dropped $209, and bonds fell $134, while CDs and money-market funds added $13. Gold tumbled $7.