Rising interest rates diverted investors attention away from municipal bond funds in April, causing the first negative net sales rate since 1987, according to the Investment Company Institute.

Net sales, or total sales minus redemptions, of all long-term municipal bond funds was a negative $292.3 million in April, signaling that investors took more money out of mutual funds than they put in. This compares with a $3.75 billion gain in net sales in April of 1993.

Year to date, through April 30, net sales plunged 63% to $6.35 billion.

"Clearly, the redemptions were because people were afraid of inflation," said Larry Liebers, a vise president of investments at Merrill Lynch & Co.

"No one knew what was going to happen with inflation, so what do you do? You sell your bond funds," Liebers said. "Typically, you go to cash because you're afraid prices on your fixed-income funds will declined."

In April, redemptions of long-term municipal funds increased 83.2% over the year-ago period to $4.15 billion. State funds were the hardest hit, experiencing a 90.8% increase in redemptions, to $1.65 billion.

Through April, redemptions of tax-exempt fund shares were up 71% to a total of $14.64 billion, the institute reported.

Despite the flood of cash spilling out of the funds in April, their asset values gained some ground, compared with 1993 levels. Fund assets grew a modest 9.6% to $240.14 billion. National funds rose to $132.58 billion, a 8.1% increase. State funds picked up 11.4% to $107.56 billion.

Short-term fund assets increased 15.9% to $112.07 billion, with national funds moving up 15% to $77.23 billion and single-state money market funds growing to $34.84 billion, an 18.1% increase.

The institute culled its figures from 272 national municipal bond funds and 572 single-state funds. Information was collected from 152 national money market funds and 151 single-state funds.

At Heartland Advisors in Milwaukee, redemptions picked up in April, but did not exceed cash inflows, said Patrick J. Retzer, director of fixed income for the Heartland Funds Inc. "It was slower than normal, based on inflows," but "we had a limited number of redemptions," said Retzer, who manages the firm's $114 million Wisconsin fund and $14 million Nebraska fund.

"I think people got very nervous about the bond funds," Retzer said. As a result, "some of the funds did have net redemptions and sold securities," he said.

When the market had problems absorbing all of the bonds, prices and fund's net asset values fell and fund shareholders got even more nervous, Retzer said.

However, the bull market and popularity of tax-exempt funds in the previous 12-month period was enough to ensure that the uptick in redemption did not erode asset gains, Retzer said.

Another indication of the movement of cash away from tax-exempt funds in April come from the negative levels of net new cash flow posted by both long-term and short-term funds. Net new cash flow includes exchanges from one fund into another, but excludes reinvested dividends.

In April, long-term national funds had a net new cash flow level of negative $965.8 million, the institute said. $612.1 million level. Among short-term funds, national funds had a negative $2.31 billion net new cash flow level in April and state funds had a negative $706 million level.

"This April, the selling was really dominated by people shifting away from fixed-income investment," said Dave MacEwen, senior municipal portfolio manager for The Benham Group.

"The market in a general sold off tremendously. This caused a lot of people to reevaluate their holdings of bonds in general - not jut municipals," MacEwen said. But the municipal market's limited liquidity compared with Treasuries caused tax-exempts to get hammered, he said.

The municipal market was "seeing bid lists of $500 million a day when $50 million was closer to the average," MacEwen said.

But the reemergence as investors property and casualty insurance companies has helped tax-exempts to regain their footing, he said.

Now that the market is showing signs of strength, municipals' trademark lack of liquidity is proving to be an asset, the portfolio manager said.

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