October 12, 2011
Investors demand value. In the current investment environment, many are struggling to find optimal investments given their rate of return requirements, risk tolerances, and time horizons. Equity markets have been too volatile for some, while treasuries are not yielding enough to provide a sufficient return for others. Treasuries are an optimal investment for the investor seeking safety, liquidity, and preservation of capital. For investors comfortable expanding beyond treasuries and seeking greater returns, Alamo Capital is seeing great value in the municipal bond and mortgage backed securities markets.
Treasury yields are near all time lows. Given the inverse relationship between price and yield, prices of treasuries have shot up very significantly over the last few months. Treasury pricing is largely based on inflationary expectations, and investors’ appetite for risk. Over the past few months, markets have had to digest a slough of adverse news including the European debt crisis, growth projections revised downward, and volatile equity markets. All of these headlines have contributed to many institutional investors flocking to the safety and liquidity of the treasury market in a flight-to-quality rally, driving yields down, and driving prices up. Over the past 30 years, the 10-year treasury has had an average yield of 7.16%, with a high in 1981 of 15.84%, and a low in September 2011 of 1.84%. Through the first three quarters of 2011, the Barclays 20+ Year Treasury Bond index has returned an astounding 31.44%. The returns would be remarkable for any asset class, and leaves many to question if treasuries could be the next bubble to burst.
To contrast treasuries, the municipal bond market is reflecting some enticing values. Municipal bonds have had a nice year after getting off to a rough start, following headlines from people such as Meredith Whitney who predicted doom and gloom en masse for municipalities, which has yet to materialize. The S&P National AMT-Free Municipal Bond index has returned a respectable 8.93% through the first three quarters of 2011. The ratio of 10-year municipal bonds to 10-year treasuries currently stands at approximately 1.2:1. Given the tax free nature of municipal bonds, the tax equivalent yield for investors in higher tax brackets makes the investments all the more appealing. For investors in lower tax brackets and in tax-deferred accounts, many have been jumping on taxable and alternative minimum tax (AMT) bonds, as 10-year investment grade offerings have been yielding in excess of 5%!
For investors seeking greater yield, many have been finding mortgage backed securities (MBS) very attractive. MBS bonds give the investor a claim to principal and interest payments from a pool of mortgages. As of this writing, 10-year investment grade MBS offerings are yielding in excess of 6%. Some MBS pools have been rightfully subject to undesirable headlines in association with the real estate downturn, but many individuals, families, and businesses continue to pay their mortgages every month.
As is the case with any investment, it is critical to understand the risk involved and the source of return. With municipal bonds, depending on what is securing the bond, investors should consider multiple variables including debt service coverage, the change in net assets, and/or the built out percentage. For MBS investors, considerations should include the remaining principal outstanding, the weighted average life, the tranche type, the collateral type, the loan-to-value, the delinquency rate, and the foreclosure rate. Alamo Capital has an Investment Information department dedicated to investor education. Talk to your Alamo Capital Representative today to create a solid understanding of your investment opportunities.
This report is prepared for informational purposes only. It is not intended as an offer or solicitation for the purchase or sale of any financial instrument or service. Market prices and other data may be obtained from outside sources and is not warranted as to completeness or accuracy. Any comments, statements and/or recommendations made herein are subject to change without notice, and may not necessarily reflect those of Alamo Capital. Alamo Capital has no affiliation with any political party. Investing involves risk. Consult with a Financial Professional for additional information to determine the suitability of this or any other financial product or issue as it relates to your particular situation.