Funds and etfs
High Yield Muni ETFs to Consider as Central Banks Ease
July 1, 2016 7:01 pm ET
Britain’s decision to leave the European Union may not be having much of an immediate effect – as many major indexes have clawed back from their losses – but it will almost certainly impact monetary policy at some of the world’s largest central banks.
According to the CME Group, only 14% of traders believe that the Federal Reserve will raise interest rates at some point before the end of the year. The European Central Bank and the Bank of Japan are widely expected to introduce dovish measures to counteract potential economic fallout from the ‘Brexit’ – and both already have negative interest rates.
The dovish policies may have been helping equity and bond prices move higher, but yields are being pushed down to record lows. Income investors looking for yield have fewer and fewer options without moving into junk bonds or other risky asset classes.
Municipal bonds may be an attractive alternative for income investors given their tax-advantaged status. In many cases, the interest payments on these bonds are not subject to local, state, and/or federal income taxes, which increases after-tax yields. The problem is that these bonds are typically sold in $10,000 blocks, which makes them prohibitively expensive for most individual investors – particularly if they want a diversified portfolio.
Exchange-traded funds (ETFs) provide an attractive alternative to investors looking to build a diversified portfolio of muni bonds. By holding hundreds of different bonds that are diversified across geographies, these funds offer the benefits of diversification with a modest expense ratio that’s often worth the benefit. Some of these ETFs also target the high yield muni bond sector, which targets the highest yielding bonds in the space.
The most popular high yield muni bond ETFs include:
- SPDR Nuveen S&P High Yield Muni Bond ETF (NYSE ARCA: HYMB)
- Market Vectors High-Yield Municipal Bond ETF (NYSE ARCA: HYD)
Risks to Consider
There are many important risks to consider before investing in high yield municipal bond ETFs, including the expenses involved and the exposure to risk.
Investors should take a close look at these funds’ expense ratios in order to ensure that they’re not overpaying for exposure. Often times, high expense ratios can eat into returns over time and take a surprising chunk of capital out of retirement benefits.
At the same time, investors should carefully look at their exposure when it comes to high-yield muni bond ETFs. Muni defaults may be rare, but there are instances of losses. The Puerto Rico crisis is a particular concern over recent months and remains unresolved; muni bond funds with exposure to the market could see losses if the territory defaults on its obligations.
The Bottom Line
The ‘Brexit’ crisis has had a relatively benign impact on the equity markets to date, but central banks are likely to pursue dovish monetary policy. As a result, bond prices have risen and yields have fallen to multi-decade lows. Investors looking for yield in today’s market may want to consider high yield muni bond ETFs as an easy and convenient way to build an income portfolio that’s likely safer than junk bonds and other high yield instruments.