In a sluggish economy, it can be pretty risky putting your money in municipal bonds given the state of many state and local economies...but this exchange traded fund continues to perform well, writes Benjamin Shepherd of Personal Finance.
Municipal bonds as an asset class haven’t gotten much love over the past couple of years. Every presidential campaign season, they become a favorite whipping boy of politicians looking to raise revenue.
After banking analyst Meredith Whitney predicted a “tidal wave of defaults” in late 2010, investors rushed for the exits and pulled close to $50 billion out of municipal bond funds in just a few months.
Some of that money has trickled back into municipals this year, as investors were lured by attractive tax-exempt yields and solid credits despite a few well-publicized bankruptcies. However, that trend is breaking down again, after both Barack Obama and Mitt Romney during this year’s race for the White House proposed increasing government revenue by eliminating the tax-exempt status of municipal bonds.
Best Buy: Market Vectors
Although heated political rhetoric has created uncertainty for municipal bonds, Market Vectors Intermediate Municipal ETF (ITM) is a solid buy at current prices.
While both presidential candidates are probably earnest in their proposals, this isn’t the first time muni bonds have found themselves under a threat that’s probably hollow. This discussion comes up almost every time a budget bill wends its way through the halls of Congress, but nothing ever comes of it.
That’s largely because eliminating the tax-exempt status of municipal bonds would raise relatively little in revenue for the federal government—the most commonly cited estimate is about $50 billion a year—while doing quite a bit of harm to state and local governments in the form of higher borrowing costs.
Investors are willing to lend to municipalities on extremely attractive terms because of the tax advantages. Without those advantages, it only makes sense that they would demand higher returns on their investment.
Moreover, the average bondholder is by no means a fat cat. The Internal Revenue Service estimates that households making less than $200,000 per year hold more than half of municipal bonds. Consequently, going after municipal bonds would be a direct hit to the middle class, the very group of people both men say they want to protect.
The odds are good that the threat to municipal bonds is mere campaign posturing that’s unlikely to be translated into action. Too many entrenched interests stand in the way of an attack on municipal bonds’ tax exemption, which would wreak havoc on both investors and municipal borrowers.
Take advantage of the recent dip in price to lock in a more attractive yield—currently 2.8%, or close to 4% for those in the higher tax brackets—on Market Vectors Intermediate Municipal ETF.