asset location and municipal bonds

Some people have advised that the bond portion of one's portfolio should be in tax-deferred or tax-free accounts such as IRAs and

401(k)'s and that stocks should be in the taxable account. Currently, the ratio of municipal bond yields to Treasury bond yields is so high
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that I think it makes sense toown municipal bonds in the taxable account and stocks in the tax-deferred account. Comments?

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Reply to
beliavsky
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One obvious one is that you're ignoring investment-grade corporate bonds.

Brian

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Reply to
Default User

Some people advise sticking it all in your mattress and buying high powered weapons. That doesn't mean that it is good advice, or that some potentially good advice applies in your situation. I don't like to see anyone in the bottom 95% of wealth owning bonds when they are under 80 years old. But that is just my opinion.

-john-

Reply to
John A. Weeks III

The "asset location" strategy described in this article from Forbes that was posted here the other day doesn't mention munis, but they are certainly one of the top candidates to hold in a taxable account.

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Personally, I'm in a situation where I have about twice as much money in my taxable account as in my Roth IRA, and about twice as much in the Roth as in pre-tax retirement accounts. Even if I made the pre-tax accounts 100% bonds, I'd be well short of my overall target AA, which is now around 30-35% bonds. So the rest is munis in the taxable account. As the Forbes article suggests, my Roth is 100% equities, including the more tax-inefficient of the actively-managed funds I hold. Again, taxable account gets what's left over.

-Sandra the cynic

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Reply to
Sandra Loosemore

Makes a lot of sense if your Federal tax bracket is 25% or higher. Makes even more sense if you live in a high tax state and you buy bonds from that state.

As the muni bonds yields/ to treasury bond yield ratio moves back to its historic levels you will also achieve a capital gain.

Having said that you need to watch what you buy (revenue bonds are not such a good idea) and remember that the guy who insured the bond may not survive the current credit crunch. Also muni bonds are not as liquid as treasury (you may take a beating if you have to sell before maturity)

Muni bond funds might be a better idea.

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Reply to
Avrum Lapin

It seems to me simple logic that products that are taxed at the highest rate should be in tax-deferred accounts and those taxed at the lowest rate should be in taxable accounts. If I were going to buy bonds at all, I would put them in the IRA and 401 until those accounts are filled up to the limit or there were no more bonds. But if someone were pushing equity mutual funds as an investment and knew you still had room in the taxable account, I suppose they would want you put equity funds there and would not like to talk about bonds at all. Personally I don't do bonds.

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Reply to
Don

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I think it makes sense to> own municipal bonds in the taxable account and stocks in the tax-> deferred account. Comments?>

What is most tax efficient when accumulating is NOT always the most tax efficient when drawing down.

I would use the following criteria for consideration

1) munis are tax efficient during accumulation and withdraw 2) putting equities, which might be taxed at rates as low as 5%/15% into Tax favored accounts, which would tax them at 15-25-28-33-35% federal tax rates is doubling the tax you might pay on those investments during withdraw 3) the longer the period of tax defferal, the more #2 makes sense for equites to be in tax favored accounts.

My point is that if someone is 20 something, in 25% bracket or higher, then equities in tax favored accounts makes sense. If person is in

50's, with around 10 years to retirement in 25% tax bracket, I would argue that placing equities in taxable accounts is a better choice, with higher yielding bonds in tax favored accounts.

These are generalizations, though, everyone's situation is different.

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Reply to
jIM

There are multiple factors driving down the price of munis these days:

Concern over the creditworthiness of the monoline insurers.

Lack of bids for auction rate securities, and the reluctance of institutions to step in to make a market.

Heavy selling by leveraged investors such as tender offer boards and hedge funds to meet recent margin calls.

A hefty new issue calender over the next few months.

As the cliche goes, it's been a Perfect Storm. Vanguard's long term munibond fund (VWLTX) was trading at $11.30 per share as recently as January 23. Friday it closed at $10.56, which is a whopping 6.55 percent decline in about a month. Leveraged closed end munibond funds have been hit even harder. Blackrock's BYM (which invests in insured bonds and is particularly affected by the monoliner problem) has lost 9.22 percent over the same period. Those are big losses in the usually staid world of fixed income, where boring is good.

But as Beliavsky noted, the decline in bond prices (and NAVs for bond funds) means you get more yield for your money. VWLTX is returning 4.01 percent currently, and a careful investor can beat that by 75 to 100 basis points if he shops carefully for individual bonds and accepts some duration risk. If you can tolerate the volatility that comes with leverage, BYM is yielding a juicy 5.5 percent at Friday closing price of $13.30 per share.

Those who follow the fixed income markets have concluded that munis are a screaming buy here. According to a story on Bloomberg.com, PIMCO Bond Guru Bill Gross said Friday that munis have been "sold without discretion" and they are "more attractice than we've seen in decades." He noted his funds are taking advantage of the selloff to purchase good bonds at low prices.

Citigroup Munibond Guru George Friedlander, in a note dated February 29, called it an "unprecedented yield backup," and explained that munis are so cheap relative to taxable bonds that they are being bought by a "new class of investors." He opined that with the stock market being rather shaky these days, the chance to earn more than five percent in good quality munis plus the possibility of a capital gain if the market settles down, makes them a "compelling alternative to stocks," at least for some part of an investor's assets. He cautioned that the volatility could continue for "weeks or months, " but he nevertheless recommends putting additional cash to work and lengthening average maturity.

Finally, in the latest issue of Barrons there is an interview with T. Rowe Price fixed income manager Mary Miller, who opines "we think that municipals trading at more than 100 percent of Treasury yields are a very interesting investment."

And let's not forget that munis are always tax exempt at the federal level. (Unless you're paying the AMT, and even then you can avoid the problem by steering clear of private activity bonds.) And they may be tax exempt at the state level. If you're a high bracket investor or you live in a high tax state this can make a big difference. I'm in the 28 percent bracket, but I live in D.C. where the top rate is 8.7 percent. Munibond interest from whatever source is double tax exempt here, so my tax equivalent yield on BYM is 8.37 percent. As Beavis & Butthead would say that definitely does not suck. Granted, leveraged close end munibond funds are not for everyone. But for risk capital in a taxable account it makes sense for me. For the less aggressive investor the yield on VWLTX is decent for a product with the Vanguard imprimatur and a paltry fee of only

16 basis points.

All in all, I think Mr. Beliavsky is on to something here.

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Reply to
Paul Michael Brown

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