Fixed income exchange traded funds are coming off a record year of asset gathering that saw two bond funds rank among the top 10 ETFs for added assets. To start 2015, municipal bond funds are keeping the torch burning for bond ETFs.
“While investors pulled $4.9 billion out of taxable bond mutual funds in the first week of January, according to ICI, municipal bond funds gathered $1.3 billion in assets, continuing a December 2014 trend. In our view, the appeal of these funds is the tax-free income and the diversification benefits of holding bonds from various states. Of course, we think investors need to consider the active funds in conjunction with cheaper, passive alternatives,” said S&P Capital IQ in a new research note.
Muni debt is close to their cheapest since December 2013 relative to Treasuries. Looking at the rates on state and local bonds relative to federal debt, the ratio of interest rates hit 106 percent Thursday, which suggest that municipal bonds have weakened relative to the federal debt. Historically, the muni-to-Treasuries ratio has been below 100% since interest on state and local debt is tax-exempt, which make the assets more attractive for high-income investors. [Muni ETFs More Attractive Than Treasuries]
With default rates still low and Treasury yields depressed, investors have been willing to embrace high-yield municipal bond ETFs, such as the Market Vectors High Yield Municipal Index ETF (NYSEArca: HYD) and the SPDR Nuveen S&P High Yield Municipal Bond ETF (NYSEArca: HYMB). HYD and HYMB added $576 million and $156.7 million, respectively in new assets last year.
“According to J.R. Rieger, Global Head of Fixed Income for S&P Dow Jones Indices, ‘low new issue supply and relatively attractive tax-free yields helped keep the supply demand equilibrium to the demand side in 2014,’” said S&P Capital IQ in the note.
The research firm has an overweight rating on HYMB. The ETF, which has almost $410 million in assets under management, has a 30-day SEC yield of 3.88% and an annual expense ratio of 0.45%. Supply risk could present headwinds for muni ETFs in 2015.
Supply is set to pick up in 2015 as municipal bond sales rise and the amount of redemptions and maturing debt dip. States and local governments are expected to sell $8.6 billion in bonds over the next 30 days, compared to $6.4 billion planned sales for the coming month a week ago. Meanwhile, municipalities have stated that there will be $12.1 billion in redemptions. [Muni ETFs Face Supply Risk]
The $1.5 billion HYD has a 30-day SEC yield of 4.32% and charges 0.35% per year. On a combined basis, HYD and HYMB have added over $96 million in new assets since the start of 2015.
Market Vectors High Yield Municipal Index ETF