Still Value in Munis

Miriam Sjoblom: Hi, I'm Miriam Sjoblom at the Morningstar Investment Conference, and I'm here with Phil Condon, who is the head of Muni Portfolio Management at DWS Funds. Thanks for joining us, Phil.

Phil Condon: Nice to be here.

Sjoblom: Well, to start out, I think you definitely hear in the press a lot of talk about the state of municipal issuers and all the challenges they're facing on a fundamental level because of the economy. What are your thoughts on munis in general and their attractiveness right now, given the credit situation?

Condon: Well, here we are at the end of May, and the market has done very well. We've seen a lot of recovery. People have probably missed the biggest move in munis, but there's still, I think, a lot of good value in the marketplace. What I worry about is investors who are too concerned about the nitty-gritty, the fundamentals of individual budget problems that states and local governments are having, and avoiding the muni market as an asset class.<TRANSCRIPT>

I think, in a well-diversified, well-managed muni bond portfolio, the nitty-gritty, the little things, are taken care of by us, and I wouldn't be as worried about a budget problem here, or a deficit here.

In a well-balanced portfolio, I think the real thing to look at is just--long munis are yielding very attractive yields, long muni bond funds yielding 4.5% for AA, A quality. That's a good return, given alternatives in the marketplace right now.

Sjoblom: You mentioned diversified portfolio.

Condon: Yes.

Sjoblom: We know that retail investors are also very big participants in just buying individual bonds.

Condon: I think individual bond purchases--that's difficult. What's happening right now in the short end of the muni bond curve in the two- to five-year range for high-quality, the yields are less than 1%, less than 2%. I think retail investors are having trouble locking in yields that are that low. I think we're seeing more interest in the bond funds because that alternative, which used to be more attractive, is now awfully low in yield. So I think going with the yield curve, taking a little more credit risk, makes more sense to investors now than it had in the past.

Sjoblom: OK. You also run a high-yield fund. I think everyone has seen the really devastating losses that occurred to some funds in the high-yield muni category last year. Your approach is a little bit different to that space. I'd just be interested in hearing your thoughts on the high-yield muni market, and the opportunities and risks.

Condon: I think, over time, the high-grade muni market has outperformed the high-yield muni market. So there are times to buy high-yield munis and times to avoid them. Unfortunately, a lot of the high-yield muni funds kind of buy them regardless of valuations. Our strategy is to be more tactical. We will get heavily involved in high-yield munis as the market is cheap right now, but two years ago when the market was rich, we'll back off because it's just too thin a market.

So investors need to think about high-yield muni funds as very different from high-grade muni funds. They're two different asset classes. They aren't interchangeable. I think for someone who wants a little more equity risk, the high-yield muni funds are attractive right now.

But I'd be careful, because if they do well, they'll have to be extra strategy there. You don't buy and hold those things for too long.

Sjoblom: OK. Well, great. I appreciate you taking the time to talk with us today.

Condon: A pleasure. Nice to be here.

Sjoblom: Thank you.