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Author: trader2012 Big red star, 1000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 35272  
Subject: Looking at CA Muni Bonds Date: 11/21/2012 3:08 PM
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In another thread, Blacktree introduced the idea of buying CA munis. So, let’s pursue it. For those who might want to follow along, I’m going to assume you have an account at E*Trade.

An unrestricted search returns more than five hundred issues. So, start imposing filters. An obvious one is a 'yield filter', such as 3%. (Why would you accept less for a muni no matter how good its credit-worthiness might be?) That scan still returns more than 500 bonds, which is more than will appear on a single webpage, which is more than can be downloaded by a single click. So, either adjust the parameter for the filter, such as by increasing the minimum YTM to 4%, or add a new one.

At this stage in the scanning process, I’d say not to tighten up the yield, but, instead, partition the set into more manageable groups, and this is the reason. Yield numbers by themselves are meaningless. What you want to see is how any given bond’s yield compare to that of its supposed peers across the range of available maturities. So, at this stage of the shopping, you want to see what that range of yields might be. So, keep the min-yield at 3%, but partition the set into “Use of Proceeds”.

The first choice in the drop-down menu for “Use of Proceeds” is “Agriculture”, and a mere 13 bonds will be returned. That’s a manageable sized group to look at. So, go back and relax the yield filter, as well as relax the credit-rating filter (which had been set at its default of ‘invest-grade’). Now you’re looking at total set of currently-offered, CA munis whose proceeds are somehow tied to ag. Sort the list by ‘Issuer’ and then ‘Maturity and then start looking for patterns, specifically, “Who’s in trouble, but not more trouble than you could likely manage?” And the reason for this is, as Marty Whitman says, “If there’s nothing wrong with it, you don’t want, because there’s no money to be made.” But, also in your search for yield, you don’t want to take on more risk than you’re being paid to take on.

A quick glance at the list of 34 suggests there’s little of interest. Either the mins are too high (which is anything more than a min of five), or the yields are too low. So let’s step back again and talk about strategy again.

As an individual bond-investor, you lack the research skills and trading advantages that the big boys have. You aren’t smarter than they are, nor will you ever have the experience they do. Therefore, the only way you’re to survive your inevitable mistakes, misjudgments, and disadvantages is by betting small. Period. End of discussion. I don’t care that you might have gotten away with buying bigger in the past. You’re not going to be able to get away with it going forward. A five-min at par is $5k. A prudent exposure to anyone’s muni debt is no more than 2% of AUM. In other words, if you’re trading with an account less than $250k, you can’t be buying tens and twenty of anything that offers a decent return and expect to survive, on average and over the long haul. $250 is 3x the median investment net-worth, meaning, most investors have no business screwing around with munis, for two reasons. The supposedly ‘safe stuff’ won’t offer them a real rate of return. Thus, to buy is to lose money for sure. The stuff that might offer a real rate of return isn’t safe, and some losses will have to be assumed. You’ve got to size and place your bets so that you can survive the inevitable damage as well as do better for yourself than you would have done simply by buying a muni bond fund.

OK, with those thoughts in mind, let’s look again at the list of 34 ag munis. Seaside’s 71.125’s of ’36 should be looked at, as well as Madera’s debt. In all likelihood, you’ll quickly find reasons why you should back away from them. But they definitely should be looked at, as, also, should those issued by the Calif Mun Fin Auth. At this stage of you shopping, all you’re trying to do is to see what your choices are, and as part of your DD, you’re going to pull their financials, as well as investigate the communities they are part of. In effect, you’re going to be lending them money. So, you want to know who you’re doing business with.

Then run the same scanning and vetting process with the other eight sub-sets (Ed, Gov, Hospital, Housing, etc.). Maybe you’ll find something worth digging into further, maybe not. If not, repeat the shopping process a couple times a week, for a couple of months, and also looking at other states. But if something does attract your attention, then before you write the order, pull T&s just to get a better sense of where you’re entering the market. If that causes you no worries, then feel feel to execute. Then, as Jack would say, “Wash, rinse, and repeat.” Bond-investing is nothing but comparative shopping in which you’re trying to answer for yourself two questions: ”On a risk-adjusted basis, is this the least worst of what is currently offered?”, and Is it not so bad that opening a position wouldn’t be something I’ll later regret?” , all the while keeping this bon mot in mind.

It is easier to make up a missed opportunity than a realized loss.

If you invest (in no matter what), you’re going to suffer losses. If you don’t invest, then you’re going to losses. They just going to be a different kind, the chief of which is the ravages of inflation and the coulda/woulda/shouda’s of failing to act when you really should have. So, if you’re going to lose either way, you might as well lose as little as possible, and taking on a prudent risk is often the least riskiest course of action, on average and over the long haul.

Obviously, there's a whole bunch more details to the bond-shopping/bond-vetting process, such as the checklists and spreadsheets one develops. But the really important work is done by trolling the offering-lists, day after day, so that it becomes easy to see good prices when they occur. Then, having spotted such a price, you go into high gear with your vetting process and scramble to submit your order before the opportunity disappears. And then you do it again and again and again, week after week, year after year, because that's what a serious investor does. And if that sounds like too much work, then just buy a good mutual fund instead, of which there are many, many truly excellent ones, the truly best of which are impossible for the individual investor to beat over the long haul. So, why be a self-directed investor in individual bonds? For the down-side protection the gig can offer (which is a post for another time).

Charlie
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