BBN: A BlackRock Taxable Municipal Bond Trust That Is Best Of Breed, But
ETF investing, Options, Part-time investor, Long Only
Seeking Alpha Analyst Since 2013
I have both a BS and MBA in Finance. I have been individual investor since the early 1980s and have a seven-figure portfolio. I was a data analyst for a pension manager for thirty years until I retired July of 2019. My initial articles related to my experience in prepping for and being in retirement. Now I will comment on our holdings in our various accounts. Most holdings are in CEFs, ETFs, some BDCs and a few REITs. I write Put options for income generation. Contributing author for Hoya Capital Income Builder.
Summary
- Taxable Municipal bonds entered the investment scene in 1986 with the Great Recession of 2008-2009 greatly expanding supply with the creation of Build America Bonds.
- As the name implies, investors pay taxes on interest payments, unlike typical municipal bonds.
- This article will cover BBN and compare it to three other funds in the same category.
- After review and careful thought, I can only rate this CEF as Bearish.
Introduction
When investors hear municipal bonds, most first think of income that’s tax-exempt from Federal and maybe their state taxes. But there is a small segment of that market that isn’t exempt from Federal or some state income taxes and thus carry higher yields than their municipal counterparts. Should investors care? Yes as recently they are performing better than other taxable bonds with the same characteristics.
Fidelity Investments provides a concise history behind the taxable part of the municipal bond market.
The taxable municipal bond market began to develop after passage of the Tax Reform Act of 1986, which eliminated the ability for issuers to sell tax-exempt bonds for certain purposes. Taxable issuance grew along with the overall municipal market, but remained in a range from 3% to 7% of the total from 1986 until 2002. After 2002, the share began to increase, rising to 21% in 2009 and 35% in 2010, because of the Build America Bonds program. Taxable issuance totaled $85 billion and $152 billion in those two years, respectively. Excluding 2009 and 2010, the taxable share of municipal issuance has increased to between 6% and 11% of the total since 2002. In 2017, $37 billion of taxable municipals were issued, representing 9% of the total. While the market has grown substantially from its early years, it remains tiny in comparison to the investment grade corporate bond market in the United States, where $1.4 trillion of debt was issued in 2017.
Source: Fidelity.com
Taxable municipal bonds are currently the fastest-growing sector in U.S. fixed income market. This year has already seen double the 2019 issuance level, currently at $170 billion. Even with the recent growth spurt, taxable municipal bonds represent only 16% of the total municipal bond market.
Investopedia lists three key features of taxable municipal bonds:
KEY TAKEAWAYS
- A taxable municipal bond is a fixed-income security issued by a local government, such as a city, county, or related agency, to finance projects that the federal government will not subsidize.
- Taxable municipal bonds are typically used to fund projects that don't directly benefit the general public, which is why they are not granted tax exempt status.
- Taxable municipal bonds are mainly issued to finance the shortfalls of state and local pension funds.
Source: Investopedia.com
Their limited availability provides upside potential if tax law changes increases investor demand, think supply squeeze. With taxable municipals offering higher yields and lower historical default rates than comparable corporate bonds, they are attractive alternatives to those bonds.
BlackRock Taxable Municipal Bond Trust (BBN)
Source: Photo
Blackrock Investment Management Company is a worldwide corporation managing over $7.8 Trillion, making it the largest asset manager in the world. They are an industry leader in the emerging focus on ESG investing.
SeekingAlpha describes BBN as:
BlackRock Taxable Municipal Bond Trust is a closed-ended fixed income mutual fund launched by BlackRock, Inc. It is managed by BlackRock Advisors, LLC. The fund invests in the fixed income markets of the United States. It primarily invests in taxable municipal securities, which include Build America Bonds. The fund also invests in tax-exempt securities, U.S. treasury securities, obligations of the U.S. government, its agencies and instrumentalities, and corporate bonds. It was formerly known as BlackRock Build America Bond Trust. BlackRock Taxable Municipal Bond Trust was formed on August 27, 2010 and is domiciled in the United States. Under normal market conditions, the Trust will invest at least 80% of its Managed Assets in securities that at the time of investment are investment grade quality.
Source: SeekingAlpha modified
Basic Facts:
Investment exposure: $2.2b Leverage employed: 32% Expenses: 1.97%
Distribution on NAV: 5.55% (no ROC) Premium: 5.8%
Source: Blackrock.com
The long Effective Duration means a 1% jump in interest rates would cause the average bond price to drop over 14%. The distribution shown above is based on the price, not NAV, as shown elsewhere. Both the YTW and YTM are below the average coupon since BBN's bond holdings are selling, on average, 34% above Par.
Source: Cefconnect.com
Almost 70% of their exposure by state falls in the Top 4: California, Illinois, New York, and New Jersey. While some of those states are not as exactly fiscally responsible as others, the bond rating profile of their 156 assets is very favorable, compatible with an investment-grade corporate bond fund. Of concern is at least half the Top 10 could have their income streams negatively effected by COVID-19 (schools, tourism, driving).
Source: Cefconnect.com
Only 8% are rated below investment grade. This compares well against the other funds you will see next and most investment grade ETFs that are not restricted to investment-grade bonds only. With almost the entire portfolio made up of bonds maturing 10+ years out, starting out as investment grade helps lower the long-term risk of defaults versus a fund already holding BB and lower rated bonds.
Comparing Funds
Source: Fidelity & CefConnect, compiled by Author
The above funds were some of those identified by SeekingAlpha as Peers to BBN. BAB, being an ETF does come with a different flavor as it uses no leverage, resulting in both lower expenses and a lower yield. Its current "advantage" is it is not trading at a premium. BBN having the best 5- and 10-year ROIs and it outperforming its Morningside asset class are the reasons I labeled it as "Best in Breed". Those returns did come the highest Standard Deviation but with a compatible Sharpe ratio to the funds I compared BBN against.
Source: Cefconnect.com
Here is the link the BBN’s Factsheet: PDF
Portfolio Strategy
Investors looking to diversify their fixed income assets in their tax-sheltered accounts would be a good audience for taxable municipal bonds. Their limited availability provides upside potential if tax law changes increase investor demand. With taxable municipals offering higher yields and lower historical default rates than corporate bonds, they are attractive alternative.
While I view BBN as the best at what is does, I have to give it a Bearish rating, with the reasons starting with the next chart.
Source: Cefconnect.com
The premium is at record levels, with the 6-month Z-score at 1.4. If BBN returned to its 5-year average discount, the price would drop about 9%, all things being equal. Other reasons to be bearish are:
- Current interest rates are at historic lows. This is reflected in the fact BBN's average bond sells for 135% of Par.
- With only 2.2% of the AUM maturing or callable in the next three years, capturing bonds with better yields will require more leverage and SEC rules limit that option or portfolio turnover, which raises expenses.
- Without more stimulus support, tax revenue shortfalls could results in bond rating downgrades which equate into those bonds' prices adjusting downward to match the yield required by the new rating.
- The supply of taxable municipal bonds is growing the fastest ever. This could temporarily overwhelm demand, depressing existing bond prices.
Related articles municipal bond investors might enjoy:
BAB: Taxable Munis Still Offering Value
GBAB: A Quality Fund That Is Slowly Changing
NBB: I Just Bought This Fund For Its Relative Value
NVG: Nuveen's Higher Yielding AMT-FREE Municipal Bond CEF
NAD Provides Investors Safer CEF For Municipal Bond Exposure
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