Municipal bonds — "munis" — are issued by US state and local governments to fund public projects: schools, roads, hospitals, water systems. They're a $4 trillion market largely invisible to UK investors, but understanding them matters because they illustrate principles that apply to all sub-sovereign debt worldwide, and because they come up constantly in any serious study of fixed income.
General Obligation (GO) bonds are backed by the full taxing power of the issuing government. If the city of Chicago issues a GO bond, it's promising to raise taxes if necessary to repay you. They're considered safer because the backing is the government's ability to tax — a powerful guarantee.
Revenue bonds are backed only by the income from a specific project — the tolls from a new bridge, the fees from a water system, the ticket sales from a stadium. If the revenue falls short, bondholders may not get paid in full. Higher risk means higher yield to compensate.
GO bond: City of Boston issues bonds to fund school renovations. If Boston can't repay, it raises property taxes. Backed by the entire city's tax base.
Revenue bond: New Jersey Turnpike Authority issues bonds backed by toll revenue. If traffic drops 40%, toll revenue drops, and repayment is at risk.
The key feature of US municipal bonds is that their interest income is exempt from federal income tax — and often from state and local taxes for residents of the issuing state. For high-income US taxpayers in the top 37% bracket, a muni yielding 3% is equivalent to a taxable bond yielding ~4.75%. This makes munis genuinely attractive for wealthy US investors, and is why they accept lower yields than comparable taxable bonds.
Municipal bonds default far less frequently than corporate bonds. But they do default. Detroit filed for the largest US municipal bankruptcy in history in 2013, eventually paying bondholders less than full value. Puerto Rico's debt crisis from 2016 onward resulted in significant restructuring of its $70 billion+ debt. GO bonds generally recover better than revenue bonds in restructurings.
What this means for UK investors: there's no direct UK equivalent — UK local councils can borrow but the market is tiny and mostly institutional. The useful takeaway is the framework: sub-sovereign debt (issued by a level of government below the national level) carries more risk than central government bonds and less risk than most corporate bonds, and different types have very different backing and recovery prospects in distress.
Answer questions on municipal bonds, earn XP, and challenge your mates to a stock duel.
Download free on iOS →