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Safety of Municipal Bonds

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Municipal bonds are debt obligations of local municipalities or government agencies, usually issued for the funding of long-term capital projects.

In general, investing in municipal bonds is considered safer than investing in stocks, but municipal bonds are not risk-free.

 

Safety of Municipal Bonds

 

Considerations

The principal risk in investing in municipal bonds is that the issuing municipality will default on its obligations to make its annual interest payments or will be unable to redeem the bonds when they mature or come due in the future.

 

General Obligation Bonds

Most municipal bonds are characterized as general obligation bonds that are backed by the full faith and credit of the issuing municipality.

 

Bond Rating Agencies

Independent bond rating firms base their credit ratings on an examination of the financial condition of the municipality issuing the bonds, which may include its tax base, any outstanding long-term debt, stability of its property values, and the amount of any existing and/or projected budget deficits.

 

Risk Ratings Designations

Municipal bonds with the least investment risk are designated with a rating of “AAA.” Municipal bonds with the greatest credit and investment risk are denoted as “CCC.”

 

Interest Rate and Risk

In order to compensate investors for the additional risk assumed, the lower the rating, the higher the interest rate that must be paid by the municipality.

 

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