PIMCO Launches MUNI Bond ETF

by on December 2, 2009 | ETFs Mentioned:

PIMCO, the Newport Beach, California-based bond fund giant, launched its latest exchange-traded fund on Wednesday, the Intermediate Municipal Bond Strategy Fund. The new ETF, which comes with an expense ratio of 35 basis points, will trade under the ticker MUNI, which was somehow still available. The ETF will be managed by John Cummings, the company’s executive vice president and head of PIMCO’s municipal bond desk. MUNI will be benchmarked against the Barclays Capital 1-15 Year Municipal Bond Index, and will invest in a portfolio of bonds that are of high credit quality, intermediate duration, and carry interest payments exempt from federal tax.

Why Municipal Bonds?

Colorado State HouseDespite the massive size of the municipal bond market, currently more than $2.6 trillion (PDF), there are only 13 other ETFs in our National Munis ETFdb Category with a combined $5.4 billion in assets under management (which equates to less than 0.21% of the total muni bond market). This ratio indicates a huge untapped market for ETF issuers.

Despite a challenging economic environment that has produced dozens of cash-strapped state and local governments, muni bonds remain an attractive option for many investors, especially those who find themselves in high tax brackets. “The U.S. fiscal outlook will likely include higher marginal tax rates in the years to come, raising the need for tax-efficient investments,” says Cummings. “At the same time, however, municipalities and states face a host of challenges in managing their budgets, so the importance of credit analysis is heightened.” PIMCO hopes that investors will embrace MUNI as a way to combine the firm’s lengthy and sound track record in bond management with all the benefits of an exchange-traded structure.

Possible Risks

Unlike the issuers behind Treasury bonds, state and local governments do not have the luxury of being able to print currency in order to pay off any debts. They do, however, generally have access to tax revenues (general obligation bonds) or the income from completed projects (revenue bonds) to back up any future payments. Since these income streams are usually relatively stable, municipal bonds tend to carry a lower interest rate than their corporate counterparts. However, should the tax base in a municipality erode significantly (a common occurrence in recent years) or a project stall, muni bond revenue streams could be endangered.

Muni bonds are overlooked by many investors, but represent a unique sub-asset class that can add significant value to a portfolio, especially those of investors in high tax brackets. Funds like these also allow investors to get a diversified mix of muni bonds without having to research a new toll bridge in Kansas or a water utility in Massachusetts. This fund also helps to keep costs low due to the favorable structure of the ETF, while still offering active management from a respected bond company. With the PIMCO name behind it, don’t be surprised in MUNI is soon challenging the iShares S&P National Municipal Bond Fund (MUB) and PowerShares VRDO Tax Free Weekly Portfolio (PVI) as the most popular muni bond ETF plays.

So Far, So Good

MUNI brings the total number of PIMCO ETFs now available to U.S. investors to nine, including three TIPs funds (STPZ, TIPZ, and LTPZ), three traditional Treasury funds (TUZ, FIVZ, and TENZ), and an ETF investing exclusively in long-term zero coupon government debt (ZROZ). PIMCO now offers two of only three actively-managed bond ETFs in MUNI and MINT, its Enhanced Short Maturity Strategy Fund (PowerShares’ PLK is the other). PIMCO’s entrance into the ETF industry has been, by most accounts, a success. Six months ago, the company was watching from the sidelines. Today, it has more than $400 million in assets under management in its line of ETFs.

For more ETF news, sign up for our Free ETF Newsletter.

Disclosure: No positions at time of writing.