One of the best investment areas over the last few months has been municipal bond closed-end funds. There are several reasons for this:
- These funds often use low cost leverage to boost returns. The funds borrow at an average cost of only 0.52% and invest the proceeds in municipal bonds paying over 4%. This allows some of these funds to have distribution yields of well over 6%.
- The low leverage costs are expected to last for at least another year. As regulated investment companies, muni closed-end funds must distribute at least 90% of income to shareholders. Many funds have had to raise their dividends to keep up with the increasing net earnings.
Here are recent monthly dividend increases for some of the Blackrock leveraged muni bond closed-end funds:
MUI .0715 +0.0035 +5.15% Yield = 5.57%
BYM .077 +0.003 +4.05% Yield = 6.03%
BTA .061 +0.0015 +2.52% Yield = 6.15%
MHD .089 +0.003 +3.49% Yield = 6.26%
As long as the FED continues its zero interest rate policy for short term rates, earning for these funds should remain high and more dividend increases are possible. But there are some caveats:
- Valuations for national municipal bond closed-end funds have moved to an average premium over NAV of about 2%. Over the longer term, these funds have usually traded at discounts of roughly 4%.
- Because of the leverage used, volatility for these funds can be high. They should not be regarded as "buy and hold and forget about them" securities.
- Because of potential future credit risk issues, it is probably best to focus on higher rated funds rated A+ or better.
Full Disclosure: We own muni bond closed-end funds in personal and client portfolios.