In 2010 one brave analyst took to 60 minutes to give deliver a warning message: municipalities are broke. Meredith Whitney made a very controversial call, declaring state and local governments a poor place to invest. In particular, she noted her expectations for the future of the municipal bond market which included hundreds of billions of dollars in defaults within the next five years.

A full year later, Meredith might want to rethink her prediction.

How Munis Performed in 2011

See the chart below of three popular municipal bond ETFs (more on municipal bond investing options and the benefits of triple tax free investing):

This chart includes:

• iShares S&P National Municipal Bond ETF (MUB) – Invested primarily in intermediate term issues, MUB looks for general obligation and sales tax revenue bonds for investor protection. The fund is invested largely in bonds with an A-rating or better by credit ratings agencies. MUB yields 2.86% to investors
• SDPR Nuveen Barclays Municipal Bond ETF (TFI) – Barclay’s created this lesser diversified, rules based index for municipal bond investors. The ETF owns bonds with Aa3/A- ratings or better from at least two of the three major ratings agencies including Moody’s, Standard & Poors’, and Fitch. TFI yields 3.19% to investors.
• iShares S&P Short-Term National AMT-Free ETF (SUB) – This fund was included for the fact that it sticks to the short end of the yield curve. The SUB ETF holds 25% of assets in short-term securities with maturity dates less than 1 year in the future. The remaining holdings are kept in bonds with less than 5 years to maturity. SUB yields 1.28% per year at the current price.

Where Meredith Missed the Muni Market

Meredith missed horribly in her prediction. A quick look from the chart shows us the outsized capital gains for muni investors in the year-ago period. Atop this gain, however, investors also have very reasonable tax-free distributions.

So where did Meredith go wrong?

Here’s just a few of the things she missed:

1. Europe – You cannot have a conversation about the debt markets without addressing the international markets. Given that the PIIGS nations (an acronym which includes Portugal, Ireland, Italy, Greece and Spain) all face budget and debt woes, Americans naturally find the town next door to be a better investment than European Sovereigns.
2. Bernanke – Any investor knows not to fight the Fed.  We’re finally seeing the strategy of shorting Treasuries paying off, but it’s been fighting an uphill battle. Meredith Whitney made her call for troubled municipalities to default in December, just one month after another $600 billion quantitative easing program (dubbed QE2) rolled out to drive down yields. Given the Fed’s capacity to deliver on lower interest rates (and thus higher bond values) one must question Whitney’s timing.
3. Bottoming Real Estate Markets – Municipal bonds are very much tied to the fate of the real estate market. General obligation bonds backed by the full faith and credit of a municipality are the most directly related to property taxes. Luckily for state governments, US housing prices moderated to drop only slightly for the full year, helped in part by a low interest rate environment and improving spreads between real estate cash flows and carrying costs. Trends look better for 2012, as a number of builders exit the commercial markets to begin building new residential real estate to grab yield.

Fed Backstops Municipal Default

Most municipalities finance their obligations with long-term, callable bonds. Callable bonds are obviously favorable to the municipality and detrimental to investors in periods of falling interest rates.

Meredith Whitney may be right to say that municipalities have long term financing problems. It is true that most every government does eventually spend beyond its ability to finance ever-growing obligations. Municipalities face rising obligations to baby boomer workers through pensions and other investments. Certainly, pensions aren’t meeting their “hurdle rate” to make good on future promises.

However, the same environment that crushes pension performance is enabling municipalities to fund their most pressing needs in the here and now. Call provisions allow municipalities to call higher yielding bonds issued over the last several years with new issues at lower and lower rates.

Do municipalities have a funding problem? Yes, and it would be a lie to deny the concern. However, Whitney’s 5-year call is far too pessimistic – every municipality enjoys much lower borrowing costs today than it previously paid even five years ago.

Dear Meredith, don’t fight the FED.

Written by: JT, who blogs about anything finance at MoneyMamba.

Disclosure: No position in any ETFs reviewed in this article

©2012 ETF Base. All Rights Reserved.

I caught an article over a SeekingAlpha quoting the Financial Times in highlighting that perhaps the ETF market has become saturated.  I’ve been saying for some time that the new issues coming out seemingly weekly are becoming more inane and bizarre by the issue.  Much seems to be more about marketing and getting a trendy niche in your name than actually representing a true underlying sector (Social Media ETF? Nano ETF?  Please).  Also, using catchy ticker symbols to compete with similarly structured ETFs that may have lower fees isn’t doing investors any good (TAN, MOO, etc.).  Investors need to do their research and understand how well a “themed” ETF actually represents the sector they may assume it does based on a carefully selected name.  Curious on your thoughts on the state of ETFs for 2012.

With that off my chest, here’s a shoutout to some great blogs that hosted my content during the past few weeks.  Check out these carnivals for tons of investing articles from around the blogosphere:

Self-Directed Investing Carnival

Carnival of Passive Investing

Carnival of Wealth

Carnival of Financial Comraderie

Totally Money Carnival

©2012 ETF Base. All Rights Reserved.

I came across an interesting article on SeekingAlpha where the author suggests a strategy for exploiting the high yields of the Dogs of the Dow (I recently wrote on the 2012 Dogs of the Dow) mixed with selling long-dated options (LEAPS) on those positions. Using Dow stocks also tends to minimize the risk of outright collapse in a stock as well, as they tend to be a bit more stable than smaller, less recognized companies. While it’s a lot to manage all those positions and options contracts, the beauty of selling covered call options is that you’re capturing the premium as it drops off over time since most options expire worthless. And if the stock runs and the shares get called, you had the gain on the underlying stock AND the premium on the option.

The author used a methodology whereby he sold LEAPS out in 2013 and stated what the returns would be should shares remain FLAT or HIT THE STRIKE PRICE during that time. The returns look good, especially considering the low interest rate environment we’re in and the volatility stocks will likely face in the future. But there’s the rub. His analysis considers what happens if all shares are FLAT or MOVE UP, but not what happens if shares decline. When I model out such scenarios, I like to set up a spreadsheet and model the full range of prices both up and down. While the option premium and dividends can certainly blunt downward moves in share prices, you can still end up with a sizable loss, especially across such a long time horizon.

Interested in Your Thoughts – Would You Try This Strategy?

Have You Ever Sold Covered Calls?

©2012 ETF Base. All Rights Reserved.

With 2011 wrapping up, we saw US indices close roughly flat on the year (slight gain on the Dow and a huge move for the Dogs of the Dow especially, at 17%), but global markets swooned, especially those in the developing world and Europe.  It shouldn’t come as a major surprise then, that the major story for 2011 in ETFs was that of the Treasury ETF.  While a great strategy historically has been to short Treasuries with out of the money calls, even that strategy failed on certain occasions when the underlying ETFs moved too quickly and positions had to be covered.  Other trends and stories will be evident below in the Top 10 for each class – both leveraged and non-leveraged ETFs.  I wanted to include non-leveraged since it gives a more true picture of the actual top performing sectors, as not all sectors have a 3X leverage equivalent and most leveraged ETFs go to zero eventually, further distorting real gains from the underlying sectors.

Top 10 Non-Leveraged ETFs of 2011

TICKER /2011 /NAME

ZROZ 58.85 % PIMCO 25+ Yr Zero Cpn U.S. Trsy Idx ETF
EDV 56.14 % Vanguard Extended Dur Treas Idx Instl
DTYL 46.16 % iPath US Treasury 10-year Bull ETN
DLBL 42.87 % iPath US Treasury Long Bond Bull ETN
TLT 33.56 % iShares Barclays 20+ Year Treas Bond
TLO 29.4 % SPDR Barclays Capital Long Term Treasury
VGLT 29.14 % Vanguard Long-Term Govt Bond Idx Instl
FLAT 26.76 % iPath US Treasury Flattener ETN
LTPZ 25.06 % PIMCO 15+ Year US TIPS Index ETF
BABS 24.02 % SPDR Nuveen Barclays Cap Build Amer Bd

Top 10 Leveraged ETFs of 2011

TICKER /2011 /NAME
LBND 117.85 % PowerShares DB 3x Lng 25+ Yr Trsy Bd ETN
TMF 109.08 % Direxion Daily 20+ Yr Trsy Bull 3X Shrs
INDZ 78.72 % Direxion Daily India Bear 3X Shares
UBT 72.77 % ProShares Ultra 20+ Year Treasury
TYD 48.45 % Direxion Daily 7-10 Yr Trsy Bull 3X Shrs
BOM 41.84 % PowerShares DB Base Metals Dble Shrt ETN
UPW 35.21 % ProShares Ultra Utilities
MLPL 31.89 % UBS E-TRACS 2x Long Alerian MLP Infr ETN
BZQ 25.83 % ProShares UltraShort MSCI Brazil
RXL 17.82 % ProShares Ultra Health Care

Admittedly, the non-leveraged top ETF list is pretty boring to look at – it’s all Treasuries!  But that was the story of 2011 – the flight to safety.  For a large part of 2011, it was a flight to gold as well, but as I warned in September in 5 Reasons to Avoid Gold ETFs (when gold was appreciably higher than it is now in spite of Russia, Iran, Egypt and Europe worsening), that story may well have been played out regardless of what happens in the near-term.

Disclosure: No position in any ETFs covered in this article

©2012 ETF Base. All Rights Reserved.

When buying a home, it’s reasonable to imagine that most people consider things like finances, budgeting, location, finding a trustworthy agent, getting a mortgage, dealing with movers. All these things make up the localized tasks that are a necessary part of the process. And while obviously such things must be dealt with, I’d like to entreat us all to take a step back and consider home buying, not just for how it affects the individual, but how it impacts — and is impacted by — the rest of the world.

As an exercise, let’s consider home buying in the macro scale, not the micro. The US’s recent sub-prime crisis has caused a sea change within the financial services sector, which has directly led to a closer look at global regulation. We’ve seen governments react in different ways to the economic downturn; most have introduced austerity measures while some tried to stimulate their economy to combat deficits.

The US has applied stimulus measures, growing public works and providing cash gifts to consumers in an effort to encourage spending. Yet it’s no surprise that according to Genworth Financial’s International Mortgage Trends Report “More than half of Americans surveyed are nervous about how the economy will perform in the coming year.”

However much planning for our economic futures we try to do, there are innumerable external factors that will affect us. Because the sub-prime crisis had such a profound affect on the global economy, and because home ownership is one of the fundamental rights that humans strive for, it’s interesting to consider how people across the globe are currently venturing into the home buying market. Home ownership is not solely an American Dream. And the state of an individual’s personal finances is an overarching fear across the globe.

There are shared socio-economic trends across the world, yet there are a wide variety of environmental, economic and cultural differences that touch homebuyers locally. Homebuyer confidence is shaped by all these elements.

According to Genworth’s study, people in the US are still worried about the price of real estate falling. It’s harder and harder to buy a home. On average, the age at which a borrower is able to purchase their first home has increased from 27.3 years during the 1970s to 31.6 years in the last decade. However, it’s not all dire news. The majority of people across America are feeling that now is a good time to buy a home. Americans

also feel that private mortgage insurance helps them buy a home with a smaller down payment, allowing them to achieve their dreams even sooner.

The important thing to remember is that we we’re all in this together.

©2012 ETF Base. All Rights Reserved.

Every few months, I’ve been repeating the same pattern of shorting out of the money leveraged ETFs on US Treasuries and keeping the premiums when the options expire.  It’s been a nice way to supplement largely flat market returns with recurring income, and in my view, without taking on an inordinate amount of risk.  Since that was a mouthful, I’ll explain.  In my latest post on the matter, I laid out the case and specific trade for shorting treasuries in September.  The key facets of that particular trade were the following:

• Sold TMF Calls (TMF was priced at 61 at time of trade in early December)
• Strike Price $75
• Expiry November
• Premium 3.40 each

Come November 21 options expiry, these option contracts expired worthless of course, so I kept the full premium.  I do these a couple at a time, so that was $640 less a $10 commission or so.  But in doing so several times per year, it’s a decent ~2K or so I can earn each year and still sustain a loss now and then should the bond markets rally (ironically) when ratings agencies downgrade US debt each time.  But I digress.  I just did it again that very same Friday when this last set expired with the following details:

Latest Trade

• Sold TMF Calls (TMF was priced at 70 at time of trade in early December)
• Strike Price $85
• Expiry Feb
• Premium 3.90 each (*2 = $780)

I anticipate with TMF now trading at only 67 (with markets rallying, long bond prices have dropped), I’m in pretty good shape on this set as well.  The bid/ask is 1.90/2.45.  Oh, that’s the other thing; the bid-ask is sometimes pretty bad on these out of the money options on exotic ETFs, so make sure to enter as a limit order to get the best price when selling!

Selling naked call options is not for the faint of heart of course. You have unlimited liability in that if Treasuries were to rally substantially enough to drive TMF up 30-40% in a week or two, you’d be well into the red (note that TMF is a triple leveraged ETF which is by design since they all go to zero to daily resets given enough time!).  How could this happen?  Basically, whenever people freak out, they flock to Treasuries.  If an overt bombing of Iran occurs (yes, they have been bombed several times this year now and they keep claiming they were “accidents”); if Europe implodes further, if there’s some other unforeseen malady that causes markets to crash, TMF will rally.  Why?  US Treasuries, as laughable as it seems, remain the safest investment in the world during times of fear, even moreso than gold, which often sells off during market crashes as well as investors liquidate everything that’s not chained down.  So, you COULD see TMF rally quickly; I just don’t lose sleep over the prospect of a move that large overnight.  My options are so far out of the money and I buy so few, that I can monitor the situation every day or two and react accordingly.  Remember, with options premiums ticking off value day by day, I’m making money for doing nothing each day :>

Here’s a screenshot for your perusal.

(click to enlarge)

If you’re interested in doing more on the options front, you should check out Options House (review), where you can also get 100 Free trades when you open an IRA account.

©2012 ETF Base. All Rights Reserved.

As I set out to embark on a trip to India in December, of course, my wife’s thinking the worst while I’m just psyched to see some neat stuff outside the routine business meetings.  That being said, of course, my mind wanders to whether my family would be equipped to deal with some unforeseen event, as unlikely as it may be – another Mumbai terrorist attack? Malaria? Robbery? Who knows?

My Life Insurance Situation

Fortunately (financially speaking), I do have some pretty hefty life insurance.  With a portion through my employer and the rest self-funded, My policies exceed $1 Million.  I figure with the investments as well, in the event of my demise, my wife could easily pay off the mortgage, pre-pay each of the kids’ college funds now and still get them through highschool without ever even going back to work herself.  I’d be highly surprised if she didn’t go back to work, get remarried, whatever, within the next 20 years, so I think I’m covered.  However, I’m continually baffled by admissions from married people and parents that they have no life insurance (or wills!).  They say, if they die, that’s pretty much the worst thing that can happen and no amount of money would right the situation… or that they just can’t find the time to do it.  Certainly not the best legacy to leave.

Umbrella Policy

I initially bought an umbrella policy figuring it would protect me from any lawsuits arising from my blogging.  Well, it won’t!  But I needed it anyway.  It can help supplement any settlements from car accidents, accidents in our home and now that we have a pool, it’s a must-have!  Additionally, I entered into a real estate deal last month where an umbrella is highly recommended, especially since we’re renting to crazy college kids!

Car Insurance

I was just talking to a family member who went through a nasty divorce.  Long story short, my family member has a son who was a teenager at the time she got remarried.  Because she and her son would have had a higher premium, they put the car in the new husband’s name to get the lower rate.  In order to do so, the title had to be in his name.  Meantime, she paid for the car for her son.  Fast-forward a few years and they get divorced.  Well, just to be spiteful, the ex-husband (not birth father but stepfather) was withholding the car’s title saying he owned it.  That was pretty messed up, but this is the risk one takes in relying on someone else for the better car insurance rate I suppose.  This isn’t a scenario I would have ever envisioned initially, but something you may want to think about if you encounter something similar.

What’s the takeaway here?  Primarily to reinforce that various types of insurance are needed routinely as an adult, and the considerations are often more numerous and complex than first glance.

Any Interesting Insurance Stories?

©2012 ETF Base. All Rights Reserved.