What You Need to Know About Municipal Bond ETFs

Questions to Ask About Muni Bond ETFs

Thinking about including municipal bond ETFs in your portfolio? Make sure you know all the details...

What is a Municipal Bond ETF?

Municipal Bond ETFs consist of “muni” bonds, also known as local government bonds. Local governments issue debt in order to raise capital for towns, cities, and counties to help with areas such as urban development, education, etc. In the case of municipal bond ETFs, they track indexes that consist of local government bond products.

Are Municipal Bond ETFs Risky?

Muni Bond ETFs (and US government bonds) are a type of bond ETF that tend to have lower risk when compared to other bond ETFs like corporate bond funds. Since the bond is backed my a local government, investors feel safer that the government won’t default whereas a corporation may go out of business and default.

However, that’s not to say that a local government can’t default, so no muni bond is without risk, it’s just less likely, so there’s less risk.

What are the Benefits of Municipal Bond ETFs?

The major benefit of most ETFs is the tax benefit. However, with muni bonds, you are investing in a local government, so muni bond (and ETFs) are tax-free.

However, one caveat to the tax advantage of muni bonds being “tax-free” is the AMT – alternative minimum tax amount. In some cases the dividend stream from muni bonds is taxable if it falls under the AMT.

To combat that issue, there are municipal bond ETFs like MUNI – the PIMCO Intermediate Municipal Bond Strategy Fund. This municipal bond ETF’s strategy is to include securities that are not subject to the federal AMT.

Speaking of the dividend stream, that is another benefit to muni and other bond ETFs. If your portfolio is wanting some recurring revenue, a bond ETF may be the solution.

How Do I Invest in Municipal Bond ETFs?

It’s easy to get started with ETFs, which is why they are such a popular investment vehicle. However, before you call your broker, I suggest conducting thorough research. To help you, here is a list of municipal bond ETFs. To find the right fund for your portfolio, look under the hood of each ETF as well as follow their reaction to various market conditions, only then can you decide which muni bond ETF(s) are the best fit for your investing strategy.

What Are the Disadvantages of Municipal Bond ETFs?

As I said, there is less risk with muni bonds and therefore less reward. Since municipal bonds are typically safer, the fund will deliver a lower rate of return than other bond ETFs and investments. As always it comes down to a relationship of risk tolerance and desired return.

We touched on the AMT tax issue above, but again, that can be a detriment for some municipal bond ETFs.

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