Are T Bills better than Short Municipals?
In ‘normal’ times, Municipal bonds provide our clients with a much better after tax return than US Treasury Bills. These are not normal times, so lets dig into the details.
Let’s assume that most of our clients are in the highest marginal Federal tax bracket of 37% and many pay the 3.8% NIIT. For our purposes, we will assume that our clients pay a 40% top Federal tax rate. Now the math is simple, if the yields of short Municipal Bonds are greater than 60% of the US T Bill rates, then our clients should buy short Municipals, if not, then US T Bills are a better option.
Here is the history of one year Muni Yields and one year T Bill yields as provided by Bloomberg. Notice that as the the Fed began their inflation crusade and raised short term rates, Muni yields did not rise in tandem. For most of July and August our clients were much better served owning T Bills than Munis.
We have seen these rich valuations in the past and they are a result of many different confluences, including: retail clients de risking and looking for a place to park cash, an abundance of maturing municipal bonds resulting in the reinvestment of maturing proceeds, and very limited new issue supply.
We expect more new issue supply in the coming months and we suspect that retail will have far less interest in buying short municipals as they (or their advisor) read articles like this and/or do the tax math. Until then (munis cheapen), we are advising our clients stay put in US T Bills and particularly like owning six month Bills at yields greater than 3.10%.
