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Money Managers Gain Sway Over Muni Market

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10/09/2019 | 10:09am EDT

By Heather Gillers and Gunjan Banerji

A larger-than-ever share of municipal bonds is being managed by professionals, shaking up a market that has traditionally been the domain of mom- and-pop investors.

The rapid expansion of muni money managers, under way for more than a decade, reached a milestone in the past year: More than half of the total amount of muni bonds held by households -- a third of the $4 trillion market -- now sits in separately managed accounts or mutual funds.

Investors in these separate accounts typically pay an annual percentage to a portfolio manager tasked with buying and selling bonds, rather than purchasing bonds from a brokerage account for a one-time fee and holding them.

Separate accounts held about $600 billion in municipal debt at the end of the first quarter, triple the amount in 2010, according to Vikram Rai, head of municipal strategy at Citigroup Inc. In addition, muni mutual funds, which are also overseen by a manager but are pooled funds rather than individual accounts, held $739 billion, a 52% increase, during the same period, according to the Federal Reserve.

The jump in such accounts comes as demand for munis is at nearly unprecedented levels and could in some cases put mom-and-pop investors at a disadvantage. Firms that manage munis can wield their market power and bulk-buying capacity, and they can also size up risk in a way many individual investors can't.

High-profile losses in Detroit and Puerto Rico left some investors and financial advisers seeking the help of a credit research team that typically comes with managed accounts. In addition, separate accounts with more active management can help wealthy investors further reduce taxes beyond the benefits munis generally provide. Investors often turn to munis because their interest is typically exempt from federal taxes.

As exchange-traded and mutual funds have slashed fees, bigger shops have been able to invest more in technology, giving them an edge against smaller players, analysts said.

Matt Witkos, president of Eaton Vance Distributors, who works with financial advisers to offer strategies for separately managed accounts, said high-quality bonds have become a hot commodity. "Who's likely to get those bonds? An individual adviser, an individual investor, or someone like Eaton Vance?"

The influx of cash into mutual funds and separate accounts has made the muni market more concentrated in various areas.

The number of broker-dealers, the trading houses that buy and sell bonds, has fallen by almost 40% to 776 since 2006, according to Municipal Securities Rulemaking Board data. As they have closed and consolidated, money managers such as BlackRock Inc. and Nuveen LLC are playing a role as distributors, parceling out muni debt to investors around the country following a bond sale.

According to Cerulli Associates, the three firms that manage the most municipal debt in separate accounts -- BlackRock, Nuveen and Eaton Vance -- have a combined $93 billion in separate accounts, almost double their 2013 holdings. When mutual-fund and ETF holdings are added in, those three money managers hold $176 billion in munis.

"A lot of the activity now is happening on our side of the street, our side of the wall," said Richard Taormina, head of tax aware strategies at J.P. Morgan Asset Management. "It's been a big evolution, and I don't think we're done yet."

Managers buying for separate muni accounts have an additional advantage: They often qualify for what are known as retail order periods created to give mom-and-pop bondholders an edge over mutual funds, banks and insurance companies. Several large managers told The Wall Street Journal that they put in bulk orders during those periods and then distribute the bonds to individual accounts.

While big managers can flex their buying power, there are drawbacks to actively managed separate accounts that aren't faced by direct retail investors who tend to hold bonds to maturity. Some managers including BlackRock have lowered investment thresholds to $250,000 for actively managed separate accounts, but those smaller investors can face high transaction costs if they want to liquidate, analysts said.

Thornburg Investment Management limits its municipal-bond separate accounts to $1 million. Otherwise "every time I sold 10 [bonds] to buy 10, I would crush any gains I had...even if it was the best day ever to buy bonds," said portfolio manager Nicholos Venditti.

Don Martin, a certified financial planner at Cupertino, Calif.-based Mayflower Capital, said he cautions clients against separate accounts for that reason.

"To avoid this cost, I recommend using a mutual fund," Mr. Martin said.

Borrowers are taking notice of professional money managers' increased clout.

Last month, Ben Watkins, director of Florida's Division of Bond Finance, held a phone conference with Breckinridge Capital Advisors to learn how he could help the firm market the state's bonds to investors in its separate accounts. He now plans to increase disclosure about how Florida is addressing climate-change risk.

"It was mostly broker-dealers that issuers talked to historically when they were trying to figure out how to present their debt to the market," Mr. Watkins said. Those dealers "still perform that role but maybe professional investors are being a little more outspoken in their needs and desires."

A BlackRock spokeswoman said that the firm's daily market presence improves pricing and that it wouldn't sell bonds at a price that managers didn't believe was appropriate. A Breckinridge executive said that recent demand has driven down trading costs. Mr. Witkos of Eaton Vance said through a spokeswoman that separately managed accounts are a low-cost option for investors and that the firm's "critical mass" helps land attractive prices for investors when buying or selling.

Write to Heather Gillers at heather.gillers@wsj.com and Gunjan Banerji at Gunjan.Banerji@wsj.com

Stocks mentioned in the article
ChangeLast1st jan.
BEST INC. -4.64% 4.5751 Delayed Quote.-14.75%
BLACKROCK, INC. -0.60% 583.53 Delayed Quote.17.01%
CHANGE INC. -2.67% 9100 End-of-day quote.212.93%
CITIGROUP INC. 1.57% 52.77 Delayed Quote.-34.76%
EATON VANCE CORP. 2.10% 38.92 Delayed Quote.-18.29%
FLEX LTD. -0.99% 11.45 Delayed Quote.-7.61%
LAND CO., LTD. 0.00% 10 End-of-day quote.-16.67%
LETS HOLDINGS GROUP CO., LTD. 4.05% 11.55 End-of-day quote.91.23%
LOOK HOLDINGS INCORPORATED 2.17% 707 End-of-day quote.-43.53%
TEAM, INC. 11.83% 5.96 Delayed Quote.-66.12%
XPLORE WEALTH LIMITED 8.82% 0.074 End-of-day quote.23.33%
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