Munis Get Their Due

{Q} What types of bonds are you buying now?

{Hukriede} Years ago, we were looking at charter schools. We were buying a lot of charter schools; we followed them closely. We’re not buying many charter schools now because we have enough exposure in our portfolio to these types of bonds, we feel. The newer ones are coming out are either rated BBB or they’re coming out at 20 years for 5.5 percent. We don’t feel that there’s enough payment for the risk.

 

{Q} Where are you investing?

{Hukriede} Alternative fuels are a fast-growing area—biodiesel and ethanol production facilities in particular. The other large area right now is federal correctional facilities. Unfortunately, that’s a high-growth area. The facilities we look at are used for federal U.S. Marshals and for immigration and customs enforcement. The U.S. Marshal side is sorely lacking in conforming facilities.

 

{Q} Would a new immigration bill affect the construction of these facilities? The valuation of the bonds?

{Hukriede} Right now, all of these facilities are being filled with immigrants or illegal immigrants that have broken laws and that they are trying to deport or prosecute. I don’t think too many people are arguing that illegal immigrants who break our laws—in addition to being here illegally—should not be imprisoned. I don’t think that’s going to be part of any immigration bill that becomes law.

{Hippen} A key point here, I think, is that when these bonds come to market, they come in many maturities—5 years, 10 years, 30, 35 years. We tend to buy medium-term securities in the 5- to 15-year range, so we’re not exposed to the long-term event risk of, say, an immigration bill changing the landscape in the longer term.

{Q} Why are these bonds tax exempt? How are they paid back?

{Hukriede} They are revenue bonds. The federal government pays the local municipality or county a per diem for each inmate.

 

{Q} Are they rated bonds?

{Hukriede} Not the ones that we’ve been buying, because they’re so new. So in other words, one of the things you look for in an unrated bond is the opportunity down the road that this bond will get a rating, thus increasing its value.

{Hippen} Right. It’s not the pervasive reason for buying, but it’s one of the aspects of the natural flow of what happens with good projects getting better. They mature; the rating agencies recognize that and begin giving the issues then coming to market investment-grade ratings.

{Hukriede} When a market is new, the rating agencies need to see how that sector is going to perform. We think Moody’s and S&P are already looking at the correctional facilities. They’re very pleased with how they’re doing and will continue watching them, looking at the legislative aspects. Once things in the sector start to get ratings, the yields will come down for the whole sector, whether it has a rating or not. And when yields come down, that means the value of the bonds you’re holding goes up.           

 

{Q} Are there any other areas where the municipal-bond market is growing?

{Hippen} One is communications, where a medium-sized county seat wants to build a fiber optic loop around their town so they can all get high-speed Internet and telephone. The bonds to pay for the project are often issued by the utility commission of the community. The sign-up rate is quite high—50–60 percent, which is more than adequate to provide debt coverage.