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Here's Why Short-Term Muni Bond ETFs Might Seem Appealing

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The United States municipal bond market has grown in assets in the final quarter of 2017. It inched up to $3.851 trillion in the fourth quarter from $3.809 trillion in the previous quarter, per a quarterly report from the Federal Reserve.

Although municipal bonds are not considered by investors when looking for market-beating returns, the current scenario calls for further research on the investment vehicle. These debt instruments provide a good diversifying opportunity to investors’ traditional portfolios.  

Why These ETFs Demand a Second Look?

The primary factor that makes these ETFs appealing is that the income earned is tax free. This is especially appealing for investors from high tax states. Although President Donald Trump’s tax reform initially pushed muni bond investing out of favor, the recent inflows’ report suggests that demand for such bonds has been strong.

The new tax law sets a ceiling for state and local deductions taxpayers can take at $10,000, making these investment vehicles attractive for investors with high tax bills.

There are multiple other factors that make muni bond investing attractive. U.S. markets recently suffered a sell-off owing to fears of rising rates. The S&P 500 entered correction territory, as it declined more than 10% from the record high set in January. Strong wage growth and jobs data introduced fears of inflation, making a comeback and led investors to bet on aggressive rate hikes.

Short-term muni bonds are less sensitive to interest rate changes and as a result safeguard investors during uncertain times. Moreover, the markets are currently being weighed down by trade war fears.

Trump’s America First agenda has sparked fears of a trade war, as he signed a 25% tariff on steel imports and a 10% tariff on aluminum imports. Multiple nations including China and the European Union have already announced retaliatory measures but it remains to be seen how far they will be actually affected (read: Trump Tariffs: ETF Winners & Losers).

As a result, these ETFs seem to be appealing options at the moment, given their diversifying benefits and low risk.

SPDR Barclays Short Term Municipal Bond (SHM - Free Report)

This fund seeks to provide exposure to the municipal bond space in the United States. It has AUM of $3.8 billion and charges a low fee of 20 basis points a year. It has option-adjusted duration of 2.79 years and average maturity of 3.04 years.

From a geographical perspective, the fund has high exposure to high tax states, with 18.4% exposure to California and 15.6% to New York (as of Mar 7, 2018). From a sector look, the fund has top exposure to GO State, GO Local and Special Tax, with 31.4%, 23.6% and 13.7% allocation, respectively (as of Mar 7, 2018).  The fund has returned 0.3% in a year.

VanEck Vectors AMT-Free Short Municipal Index ETF (SMB - Free Report)

This fund seeks to provide exposure to the municipal bond space in the United States. It has AUM of $216.1 million and charges a low fee of 20 basis points a year. It has effective duration of 3.22 years and average maturity of 4.53 years.

From a geographical perspective, the fund has high exposure to high tax states, with 14.3% exposure to New York and 13.2% to California (as of Feb 28, 2018). From a sector look, the fund has top exposure to State, Local and Transportation, with 26.1%, 16.7% and 13.5% allocation, respectively (as of Feb 28, 2018).  The fund has returned 0.2% in a year.

iShares S&P Short Term National AMT-Free Bond ETF (SUB - Free Report)

This fund is another bet on the municipal bond space in the United States. The fund manages AUM of $1.5 billion and charges 25 basis points in fees per year. It has effective duration of 1.97 years and weighted average maturity of 2.11 years.

From a geographical perspective, the fund has high exposure to high tax states, with 18.9% exposure to California and 16.4% to New York (as of Mar 7, 2018). From a sector look, the fund has top exposure to State Tax-Backed, Prerefund/Escrow and Utility, with 44.1%, 23.0% and 10.2% allocation, respectively (as of Mar 7, 2018).  The fund has returned 0.4% in a year.

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