How to Play a Transition Away From Munis

by Tom Graff

The other day, I made an offhand comment on these pages that I thought one day the Build America Bonds (BABs) program would eventually replace the tax-exempt municipal market. This caused a flood of emails from readers, so I wanted to answer some of the common questions in more detail, and offer some ways to trade a potential transition. First, some explanation. For many years there has been talk within the Treasury Department and the Internal Revenue Service that the tax exemption for municipal bonds is an inefficient subsidy. It allows the wealthiest individuals (and thus the highest taxpayers) to earn income without paying taxes. At current tax rates, top-bracket earners avoid paying 35% on that income. Meanwhile, state and local governments were not getting the full benefit of that tax exemption. Municipal bond rates have historically only been about 15% to 20% less than Treasury...

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