Kotok: Why You Should Buy Munis Now

July 31, 2013

Never mind Meredith Whitney, there are great opportunities in the municipal bond market, David Kotok says.


David Kotok, chief investment officer of Cumberland Advisors, is looking right past the Detroit bankruptcy and Meredith Whitney’s warning about the dangers of municipal bonds and sees tremendous opportunities in the muni market. With total assets under management of more than $2 billion, the firm casts a long shadow.

Kotok, one of the most established ETF-focused financial advisors in the world, expresses his view on munis by owning individual bonds, steering clear of pooled vehicles such as ETFs to find the value himself. And with yields on tax-free munis higher than equivalent Treasurys, Kotok told IndexUniverse that the $3.7 trillion muni market is large enough and varied enough to avoid town, cities, counties and states that are in decent financial shape.


IndexUniverse.com: Let’s talk about the muni market. What do you make of Detroit and Meredith Whitney’s notion from her piece in the Financial Times that she sees a lot of Detroits that could pop up out of nowhere?

Kotok: First on Detroit, Detroit was predictable. The rating agencies have been downgrading Detroit for the last dozen years. There was a time in which a little over a decade ago that rating agencies had Detroit rated single-A credit. You could have tracked the credit changes by Moody’s, Standard & Poor’s and Fitch and watched it deteriorate to the quality of junk, and now junk default.

So anybody who bought Detroit bonds watching deteriorating credit and chasing higher yield now faces this issue of perhaps getting 20 or 30 cents on the dollar. And some judge, after a long process and lots of appeals, will determine who’s going to get paid how much.

IU.com: You're saying that it’s relatively contained? The broader context of the question, as I'm sure you grasped, is you have Stockton, California; San Jose, California; all these cities—that aren’t necessarily associated with the auto industry, but perhaps all having these pension obligations that suggest that this muni challenge is not confined to Detroit?

Kotok: The argument that all cities are bad, I disagree with. The argument that all municipal bonds are bad I disagree with. I've always maintained that this is an idiosyncratic market. There are over 90,000 issuers of tax-free bonds. Some of them are very small towns and the buyer of the bond is a single local bank. And some of them are very large, like the state of California.

So, there are about 40,000 issues that trade sufficiently deep enough to have reporting in databases. And they are not alike. Homogeneity in the municipal bond market is a falsehood. So you have to deal with 50 states and the territories like Puerto Rico, and you have to deal with counties and cities and structures that are different.

IU.com: So of the 90,000 muni issues, 40,000 of them are investable, and that’s the universe you look at?

Kotok: Correct.


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