Enough research will tend to support your theory. - Murphy’s Law of Research
Yesterday three New York Fed researchers released an article entitled The Untold Muni Story: Default Frequency Is Far Greater Than Reported. It's a good article and worth checking out if you have an interest in munis. For some mysterious reason it is currently removed from the NY Fed site (not supposed to be publicly released? problem with the research?) but not before Bloomberg and BusinessWeek reported on it, and others like zerohedge reposted the article itself (thanks Tyler Durden...).
In the end the authors maintain that if you add unrated securities to the universe of defaulted muni bonds, you get (surprise!) many more defaults. By their counting you get 36 times higher defaults than Moody’s claims in looking at only their rated bonds.
I wrote an article on 5 things a muni expert would say about muni defaults last year in the wake of Meredith Whitney’s now somewhat infamous prognostications of the proverbial muni sky falling. But this article seems like it brings to light a basic question of defining terms. I for one believe that just because current tax law allows the interest payments from certain bonds to be excluded for purposes of an income tax calculation, does not necessarily mean it’s been established as a “muni”. Whether industrial development (sometimes “dirt”) bonds or securities backed by nursing home revenues should be tossed into the same bucket as California GOs or even a water or sewer revenue bond is a question worth pondering when you consider “munis”, in the asset class sense of the term. I’d argue that many of those defaults are effectively traditional corporate-style risks (non-essential service, private activity, and other standard commercial revenues) wrapped in support of what turned out to qualify as a tax-exempt bond. And yes, there is admittedly a bit of self-selection going on in that stronger credits are more likely to be the ones that actually go through the cost and headache of getting a credit rating.
But hey, I’m just a simple pubfin software vendor…what do you think?
8/16/12 ADDENDUM - BondGirl (who frankly is awesome in most of her work - and I use that term very sparingly...) has a great post responding to the Fed research entitled The Well-known story of Municipal bond defaults. Check it out