The high-yield segment of the municipal bond market has returned 15% on an aggregate basis so far in 2012 but looks to be cooling off.
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The rally in the high-yield market has been demand driven as investors have scrambled to find yield in a low interest rate environment that the Fed has committed to supporting until mid-2015.
But high-yield munis have now attracted so many buyers, the value may have been driven out of them.
Yields have been compressed to historic lows, an indication that investors may wish to begin gauging if the risk in credit quality is worth taking.
High-yielding tobacco bonds have been the best performers, turning in 19% so far in 2012. But they also carry higher risk since they are the bonds with long durations as well as higher yields.
Analysts at Standard and Poors (S&P) say that state muni bonds are beginning to look more attractive as projections for tax revenues are increasing. The US Census Bureau confirmed rising revenues at the end of September.
S&P bond analysts say the state bonds are good credit risks because they are mandated with a level of fiscal discipline.
States are being forced to get their acts together and better manage their budgets by renegotiating pension obligations, cutting teachers, increasing classroom size, and reducing services.
Rising real estate prices will also increase future tax assessment values
. Essential services bonds like water, sewer, and electrical bonds may be more stable than multi-family revenue bonds that could more easily lose rental revenues.