Municipal Bond Credit Ratings May be Misleading
January 23, 2020
Investors have been pouring money into municipal bonds, seeking to take advantage of their tax benefits and relative safety. However, a recent article from the Wall Street Journal calls into question the credit-worthiness of many muni bonds.
The WSJ uses Chicago as a prime example. The city is facing a pension crisis and an untenable debt load. Despite this, an upcoming muni bond issuance from the city is likely to receive credit ratings that indicate they are super safe.
The article outlines the trouble credit rating firms have in judging the creditworthiness of municipalities with financial troubles. Recent bankruptcies in Detroit and Puerto Rico have cost investors money, even though the muni bonds had high ratings. Ratings firms also face errors in analysis, increasing competition, and the underlying conflict of interest that comes from the fact that they are hired by the very municipalities they are expected to rate.
While muni bond defaults are rare, a strong credit rating may not always be a guarantee of the investment’s safety.