UPDATE 1-US municipal market shrinks for two straight qtrs

Fri Sep 16, 2011 12:45pm EDT

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(Adds details on households, insurance companies, funds)

By Lisa Lambert

WASHINGTON, Sept 16 (Reuters) - The size of the U.S. municipal bond market shrank to $2.89 trillion in the second quarter of 2011 from $2.91 trillion in the first quarter, Federal Reserve data showed on Friday.

It was the second quarterly contraction in a row, although the level of outstanding debt remains above $2.84 trillion in the second quarter of 2010.

The central bank's estimate of state and local governments and authorities' outstanding bonds has come under fire lately, with the market's main information gatherer, the Municipal Securities Rulemaking Board, saying the real market size is closer to $3.7 trillion.

In July, the Federal Reserve said it was evaluating the discrepancy between its reports and private-sector estimates. The bank did not appear to have changed its methodology in the the data released on Friday.

Individual investors, worried by the fiscal crises in states and cities, have been nervous about holding the debt. The Fed's data showed that in the second quarter they shed $91.8 billion of municipal bonds.

The central bank also said households dropped $28.2 billion of municipal bonds in the first quarter, a major revision from its prior estimate of $3.6 billion in that quarter.

Individuals are still the largest holders of municipal bonds, accounting for $1.07 trillion of the market in the second quarter.

Property-casualty companies, traditionally large institutional holders, shed $5.8 billion of bonds in the second quarter after buying $5.2 billion in the first period.

Mutual funds, though, acquired $19.5 billion of municipals in the second quarter, showing appetite for the debt after they got rid of $45.9 billion in the first quarter. They now hold $520 billion municipal bonds.

Foreign investors bought $8 billion in the second quarter and $8.8 billion in the first, the Fed said. (Editing by Andrea Ricci and Jeffrey Benkoe)

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