Loews, Guardian join Allstate sellings munis as individuals buy

Loews Corp., the holding company run by New York's Tisch family, and Guardian Life Insurance Co. of America sold state and local debt as individuals poured a record $55 billion this year into municipal-bond mutual funds.

The sellers joined Allstate Corp., the largest publicly traded U.S. home-and auto-insurer, in profiting from the biggest municipal-market rally in 20 years as governments experienced the steepest decline in tax collections since at least 1963 and underfunded pension liabilities reached about $1 trillion.

"It's appropriate to reduce tactical allocations," said Tom Sorell, chief investment officer at Guardian Life, a policyholder-owned insurer in New York that oversees $28 billion in assets. "When the world blew up in 2008, tax-exempts got very cheap. That's no longer the case."

Institutions were selling as individual investors put a record amount of more than $2 billion a week in August and September into municipal-bond mutual funds, according to the Investment Company Institute in Washington, D.C. Returns for the first nine months in the market for state and local debt totaled about 16 percent, the best in the 20 years that Merrill Lynch & Co. has compiled its Municipal Master Index.

The rally drove average interest rates at which states and localities borrow, as measured by the Bond Buyer 20-General Obligation Bond Index, to 3.94 percent on Oct. 1, a level not seen in 42 years. Yields rebounded to 4.41 percent as of Nov. 5.

Guardian Sells

Guardian Life sold tax-exempt debt in July and August after purchases of almost $300 million in municipal bonds at the end of 2008 brought its holdings to $1.5 billion, Sorell said in an interview.

Tax-exempt yields soared to more than 200 percent of U.S. Treasury securities in September 2008, more than twice the historical average, as investors sought protection in the safest government securities after the bankruptcy of Lehman Brothers Holdings Inc. A renewal in investor demand for tax-exempt income, coupled with a decline in supply caused by competition from taxable Build America Bonds, has since pushed the ratio for 10-year issues back under 100 percent.

The bonds, which first went on sale in April, are part of President Barack Obama's $787 billion economic-stimulus program and offer local governments a 35 percent subsidy on interest costs. About $51 billion in BABs have been issued this year, according to data compiled by Bloomberg. Last month, $12.4 billion of the securities were sold, in addition to $33 billion in tax-exempt obligations.

'Opportunity to Reallocate'

Increasing prices on tax-exempt debt "gave us the opportunity to reallocate into other, taxable bonds," said Richard Scott, chief investment officer at Loews Corp., which owns about 90 percent of business-insurer CNA Financial Corp. and whose chief executive officer, Jim Tisch, is co-founder Laurence Tisch's son.

The New York-based company sold $1.2 billion of the $8.7 billion in municipals it held as of Dec. 30, 2008, according to Scott.

Some investors sold municipals on concerns that states and localities' faced years of financial stress. State tax collections declined 16.6 percent in the three months through June from the year-earlier period, the largest quarterly drop since at least 1963, according to the Nelson A. Rockefeller Institute of Government in Albany, New York.

At the same time, investment losses at public pension funds "could contribute to negative rating actions for select issuers in the next several years," Moody's Investors Service said last week. State and local retirement plans may be underfunded by $1 trillion, according to Orin Kramer, chairman of New Jersey's Investment Council and general partner of hedge fund Boston Provident Partners LP.

'Begun to Reduce'

"We've just begun to reduce our exposure to municipals because we are uncomfortable with some of the fiscal practices of some of the government entities," said Thomas Wilson, Allstate's chief executive officer, said in an interview. Tye Northbrook-based insurer reduced municipal holdings 8.3 percent to $22.1 billion in the third quarter.

Public officials "haven't adjusted their spending, so they are running deficits," said Wilson. "When we look at the risk- return profile we don't think we are being paid enough to take that risk today."

While there have been 137 municipal-bond defaults totaling $4.2 billion since January, according to Distressed Debt Securities, a newsletter in Miami Lakes, Florida, they trail the 2008 record of 151 municipalities violating covenants on $7.9 billion in obligations.

'Quite Severe'

"Budgetary pressures at the state and local level are going to be quite severe over the next two years, at the very least," George Friedlander, Morgan Stanley Smith Barney's municipal strategist, wrote in the firm's Municipal Market Comment on Nov. 6. While this may result in a handful of defaults, "suggestions of widespread disruptions in debt repayments are, in our view, greatly overstated."

Even as state and local governments struggle against "revenue-side headwinds, the chances of default at the general obligation level are few and far between," said Loews's Scott.

While corporations are at least 90 times more likely than local governments to take such action, according to Moody's, recent fiscal strains mean investors will have to pay more attention to credit quality, Guardian Life's Sorell said.

"That's always been a very important component of the taxable market, but not as strongly studied in municipals," he said. "There's a higher level of complacency."