Municipal Bond Markets and the Potential Impact of Tax Reform


James Bernard, CFA, Managing Director, Fixed Income

Much has been written about the likelihood of some kind of tax reform coming out of the new congress/administration. Consensus expectations seem to be lower tax rates for both corporations and individuals, possibly as early as later this year. While discussing changes in tax rates, tax reform, tax simplification, etc. seems to be an ever-present conversation in Congress, often little if anything is actually accomplished. However, given the current make up of Congress, the odds currently seem rather high that this time will be different, and that something will actually happen later this year or early next year. Changes in tax rates in the name of fiscal stimulus seems the most likely course of action while true tax simplification seems the most difficult to accomplish. With many lobbyists, special interest groups, tax attorneys and others fighting to keep every line of the tax code that benefits their clients intact, meaningful tax reform has always been and continues to be a difficult task.

Yields in the municipal markets have shown very little to no adjustments suggesting they are factoring in the effects of lower tax rates on after tax municipal yields. Municipal yields as a percentage of U.S. Treasury yields have remained relatively constant since the election, indicating that municipal buyers remain skeptical that meaningful changes in tax rates will occur. To quantify this, a current 10-year AAA municipal bond yields 2.34% or a taxable equivalent yield of 3.77% for an individual in a marginal tax rate of 38%. If that top/marginal tax rate is reduced through tax reform to 28% then the yield on the AAA municipal bond needs to increase from the 2.34% mentioned above to 2.72% in order to maintain the 3.77% taxable equivalent yield. This does not imply that the markets will fully bump yields to reflect the example above, but some adjustment seems likely.

We continue to believe that the adjustment in after tax municipal yields will be very modest given the fact that 10-years AAA municipals already yield almost as much as comparable maturity U.S. Treasury issues. This implies that the tax-free treatment is currently almost “for free” less whatever credit spread premium investors demand to purchase AAA municipal issues instead of Treasuries. We will continue to actively monitor this tax reform debate and factor any events that occur which are significantly different than our expectations expressed above into our investment decisions. If you have any questions, please don’t hesitate to reach out to

Jim Bernard, CFA, is the Managing Director, Fixed Income at Ancora Advisors LLC a SEC Registered Investment Advisor. He is also a Registered Representative and Registered Principal of Inverness Securities, LLC. (Member, FINRA/SIPC)

The mention of specific securities, types of securities and/or investment strategies in this newsletter should not be considered as an offer to sell or a solicitation to purchase any specific securities or to implement an investment strategy. Please consult with an Ancora Investment Professional on how the purchase or sale of specific securities can be implemented to meet your particular investment objectives, goals, and risk tolerances. Past performance of these types of investments is not indicative of future results and does not guarantee dividends/interest will be paid or paid at the same rate in the future. The data presented has been obtained from sources that are believed to be accurate and credible. Ancora Advisors makes no guarantee to the complete accuracy of this information. The indexes discussed are market performance indices and are not available for purchase. If you were to purchase the securities that make up these indices, your returns would be lower once fees and/or commissions are deducted. Past performance of these indices is not indicative of future results of the securities contained in these indices.

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