The market environment is not static and is always changing. Consequently, as fixed-income investors look to the municipal market category, one may consider a smart beta ETF strategy to tackle the munis segment.
“We ask advisors what their problems are – this helps us with our product development cycle – and one concern that they have when it comes to municipals is aligning yield with the client need,” Marc Zeitoun, Head of Strategic Beta & head of Private Client Advisory for Columbia Threadneedle, said at the Charles Schwab IMPACT 2018 conference. “Right now, I think the muni market is very confusing for the average investor. It use to be a very conservative asset class – everything was triple-A insured – and since the financial crisis, things have changed and you really need to go out and find yield in different places.”
Zeitoun pointed to the recently launched Columbia Multi-Sector Municipal Income ETF (NYSEArca: MUST) as a way for investors broaden their opportunity set and gain exposure to a more effective tool to implement a passive muni solution.
MUST could help complement a traditional approach to municipal bond investing and improve investor outcomes. The smart beta methodology leans toward potential opportunity as opposed to traditional market cap-weighting or indebtedness. As a result, the portfolio takes a more active approach to enhance yield and generate improved risk-adjusted returns over conventional municipal benchmarks while following a passive, rules-based indexing methodology.
Specifically, the underlying portfolio includes a 25% tilt toward shorter, high quality muni debt securities, which provides stability and buoys lower-rated, higher yielding bonds; 45% toward all-weather core positions, which balance duration and credit risk by targeting lower-rated investment grade and intermediate-term revenue bonds; and 30% in longer, low quality debt, which pursues a higher level of income via credit risk in an attempt to mitigate interest rate sensitivity.
Furthermore, the smart beta strategy excludes pre-refunded bonds due to their lower yield potential, California bonds due to high in-state demand leading to lower yields and relatively higher premiums, and U.S. territories and Tobacco to dampen volatility.
“These are thoughtfully constructed indices and there are parts of each sector that we find more efficient than others, and we try to hone that portfolio into those areas,” Zeitoun added.
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