As dreary as the thought may be, as 2020 comes to a close, it’s not too a bad idea to start thinking about taxes in 2021. For ETF investors looking to minimize income tax liability in the new year, funds like the VanEck Vectors CEF Municipal Income ETF (XMPT) are a great place to begin.
XMPT seeks to replicate as closely as possible, before fees and expenses, the price and yield performance of the S-Network Municipal Bond Closed-End Fund IndexSM (the “CEFMX Index”). The fund normally invests at least 80% of its total assets in investments the income from which is exempt from U.S. federal income tax (other than federal alternative minimum tax).
XMPT gives investors:
- A Potential High Level of Tax-Exempt Income: A portfolio of municipal CEFs may produce yields higher than most other fixed income investments
- Diversification by Asset, Strategy, and Manager: Reduced single fund risk with a portfolio of CEFs managed by leading active fixed income managers
- The Discount Advantage: Index assigns a greater weight to CEFs trading at discounts, potentially enhancing yield and capital appreciation
ETFs in the Fixed Income Market
With the dynamic abilities of an ETF, investors have been given access to corners of the bond market like municipal bonds. Justin Marlowe of the Harris School of Public Policy at the University of Chicago examined the relationship between ETFs and municipal bonds in a recent research paper.
“Like mutual funds, ETFs own the underlying bonds and can create and redeem shares in the fund every day,” a Brookings Institution article said. “Unlike mutual funds, investors in ETFs can trade in and out of positions throughout the day because ETFs trade like a stock on an exchange. This makes them attractive to investors who want a degree of liquidity not typically available in fixed income over-the-counter markets. ETFs are, in many ways, an ideal innovation for the municipal bond (i.e. ‘muni’) market.”
“The muni market is fragmented and comparatively illiquid,” the article added. “Unlike publicly-traded corporations, state and local government financial disclosure is largely unregulated, so price-relevant information can be costly to obtain. This lack of liquidity and high search costs are reflected in mark-ups on muni trades that are often orders of magnitude larger than similar trades in corporates or equities. The muni market has high barriers to entry, but ETFs are a comparatively low-cost, well-diversified, and richly-informed vehicle for investors to access it.”