Fixed-income investors can utilize exchange traded funds to gain exposure to high-quality municipal bonds with relatively handsome tax-equivalent yields.
For instance, the SPDR Nuveen Barclays Municipal Bond ETF (NYSEArca: TFI), which has a 7.68 year duration, comes with a 1.73% 30-day SEC yield, or 3.05% taxable equivalent yield for those in the highest income bracket.
Since muni bond interest is exempt from federal taxes, muni funds provide attractive yield for those in higher tax brackets and are best utilized in taxable accounts. For instance, TFI’s taxable equivalent yield looks much more attractive when compared to a U.S. Treasuries fund with a similar duration, such as the iShares 7-10 Year Treasury Bond ETF (NYSEArca: IEF), which has a 7.68 year duration and a 1.6% 30-day SEC yield. [Muni ETFs Are a Good Alternative in Low-Yield Environment]
“At first glance, the fund’s yield may appear low relative to other fixed-income investments with similar risk,” according to Morningstar analyst Thomas Boccellari. “However, when you examine the fund’s tax-equivalent yield – or the yield that a taxable bond would need to offer to equal the fund’s tax-exempt yield for investors in the top tax bracket – it’s actually higher than comparable-risk, taxable-bond funds.”
TFI tries to reflect the performance of the Barclays Municipal Managed Money Index, which includes a group of high-quality, investment-grade municipal bonds with an average credit rating of AA- or better. The fund’s underlying index employs a stringent credit-rating screen that only picks out the highest-quality municipal debt securities, which can help diminish volatility and credit risk. Specifically, the ETF includes 16.4% Aaa-rated debt and 83.3% Aa-rated bonds.
“It is currently the only municipal-bond fund that includes an AA- credit rating or better credit-quality screen,” Boccellari added.