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Discussion Starter #1 (Edited)
I'm looking to buy bonds to balance out my portfolio. What are your thoughts on municipal bonds?

Traditionally Canada's yield less than provi's, and provi's yield less than muni's, due to a perceived increase in the levels of risk. By searching google I cannot find an example of a Canadian municipal bond defaulting, or getting restructured. With the deficits being posted by the federal and provincial governments, they appear to be a larger risk to me than municipal governments, who seldom run large surpluses or deficits.

Municipal governments generally have more predictable revenue streams. Federal and provincial governments earn the majority of their revenue from income taxes, which can be volatile. Municipal governments earn the majority of their revenue from property taxes, which are a lot more stable. Municipalities can budget more accurately, they know roughly the assessed value of the properties, they choose the mill rate required to bring in their desired revenues. Federal and provincials need to set taxes based on anticipated incomes.

Is the extra yield in municipal bonds justified? I would argue no (ie they are a better value), but am looking for your opinions before I pull the trigger on a trade.
 

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I'm ambivalent. With a couple of exceptions nearly all municipalities in Canada are "creatures of the province" in law. They are created and regulated by provincial statute. It is unlikely a province would let one go bankrupt. And I think a lot of provinces set limits on how much debt a municipality can acquire. So, if you intend to hold your bond to maturity, it's probably pretty safe. If you think you might sell it before maturity, the market value could be adversely affected by public perception of the credit worthiness of the issuer, and the risk of this for a municipality is greater than for a province or the federal government.

On the other hand, issuing municipal bonds is usually a sign that a municipality is strapped for cash and living beyond its means. As a municipal taxpayer I don't like to encourage deficit financing by municipalities, and by buying their bonds you are enabling this.
 

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I think part of the extra yield is also because they are less liquid, and thus have higher transaction costs. The extra yield is needed to pay for this. I think it's generally assumed that the provinces guarantee their municipalities' debt, although I'm not sure there is any formal guarantee (think Dubai World).

So, if you're willing to buy Ontario debt and hold to maturity, there's no reason not to buy, say, City of Toronto debt. The key is holding to maturity. If you might need to sell, I'd go with the more liquid instrument.
 

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I am a big believer in munis. They form a part of my fixed income component. They now have to float investments in roads that the province used to fund. Similarly buildings like libraries.
 

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Discussion Starter #5
Thanks for the advice everyone. I hadn't thought of less liquidity as one of the reasons for a higher yield.

To answer your questions, I'm 25 years old, so I can hold them to maturity (and I plan to). I have stocks in my TFSA that can be liquidated in case of an emergency, so I shouldn't need to sell the bonds prior to them reaching maturity.
 
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