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The economy is slowing. And if you believe that these tariff-tapping brakes are going to land us in a recession, these muni bonds (with tax-equivalent yields up to 12.4%) are for you.
This is the time to recession-proof our retirement holdings. The new administration appears to want to get a slowdown “out of the way” early. Atlanta’s GDPNow forecast says the economy is already shrinking:
Fed GDPNow Forecast
Meanwhile the latest University of Michigan consumer sentiment report shows that confidence is falling fast. The index dropped to 57.9 in March—its lowest level since November 2022!
Back then we were emerging from a sharp and painful 10-month bear market. Are we slipping into the bears’ claws again?
If so, municipal bonds are an attractive income play. “Don’t fight Bessent” is the new cry from investors as Treasury Secretary Scott Bessent bets the house on lower long-term interest rates. Munis traditionally rise as long rates fall, a common feature of recessions.
Plus, munis offer big tax breaks! Let’s start with tax-free federal income options. Vanilla investors reach for iShares National Muni Bond ETF (MUB) and its 4.4% tax-advantaged yield. For high earners this is the equivalent of a 7% pre-tax dividend. Not bad.
But we know better than to settle for a popular ETF! Closed-end funds (CEFs) tend to provide higher yields and discounts to boot. Our Contrarian Income Report favorite Nuveen AMT-Free Quality Municipal Income Fund (NEA), for example, yields 7.4% before tax breaks. For top earners, this equates to a tax-equivalent dividend up to 12.4%.
NEA also trades at a 5% discount to its net asset value (NAV). Which means we can buy its portfolio of munis for 95 cents on the dollar. This discount window is a feature (not a bug!) of CEFs, which have fixed pools of shares and often trade at discounts to their NAVs.
State-Specific Muni Bonds
Live in a high-tax state? There are state-specific muni funds, too. Here are 10 CEFs to consider:
10 State Muni Bonds
California buyers of Nuveen California Quality Municipal Income Fund (NAC) are paying just 95 cents on the dollar for their state-specific munis. These bond distributions then get a pass from Uncle Sam and Governor Gavin Newsom for a tax-equivalent yield over 17%!
Muni bonds also tend to be safe. With default rates around 0.1%, they are the most secure fixed income plays beyond US Treasuries (which are currently bulletproof, at least from a default standpoint, thanks to our global printing press and world reserve currency.)
And state “rainy day funds”—financial reserves for slowdowns—have reached historically high levels, touching $164 billion recently. This cushion helps secure the creditworthiness of state-specific munis.
From a price gains perspective, munis are no longer the slam dunks they were in late 2022. I was pounding the table then to buy for the yields and upside. Today, it’s more about the safety because the price upside from here is likely limited.
Why the measured outlook? First, while long rates have come down, there may be a floor nearby due to persistent inflation. Inflation data continues to come in above the Fed’s stated long-term target.
As I write, the 10-year Treasury trades for 4.3%. Inflation is running at 2.8%. The coupon seems fair, especially given the Treasury Secretary has $9 trillion in debt to refinance this year.
Second, there are risks to the tax benefits. The Biden administration’s 2025 budget proposal included a potential impact on muni exemptions. Past proposals have suggested capping tax benefits for high-income earners, key customers for these bonds.
BlackRock Taxable Municipal Bond Trust (BBN) is a “Goldilocks” muni play for those of you with concerns about the tax code changing against munis. BBN yields 6.7% and will see an inflow of cash if federal or state tax privileges come under pressure. Not only that, but also BBN can be had for 96 cents on the dollar, thanks to its 4% discount to NAV.
How are we handling our munis at CIR? We added NEA in October 2022 when the bond market was bottoming. The fund remains a Buy, but a cautious one—we are keeping eye on the political and inflationary risks to this fund and our two other muni positions.
A taxable alternative like BBN is a potential income pivot, if necessary. We contrarians will keep it in mind. In the meantime, enjoy these fat tax-equivalent yields and their discounts. And when your friends ask, remind them to: “Don’t fight Bessent.”
Brett Owens is Chief Investment Strategist for Contrarian Outlook. For more great income ideas, get your free copy his latest special report: How to Live off Huge Monthly Dividends (up to 8.7%) — Practically Forever.
Disclosure: none
