There are multiple reasons to consider municipal bonds, including tax benefits, decent yields and in many cases, benign credit risk. However, in today’s low-yield environment, the fair yields on some municipal bonds may not be enough for income-hungry investors.
The VanEck Vectors High-Yield Municipal ETF (HYD ) is an ideal avenue for investors looking to juice yield with municipal bond investments. The $3.2 billion HYD has a 30-day SEC yield of 3.31%, which is well above-average for the municipal bond space.
Municipal debt and bond-related ETFs have been used as a relatively stable fixed-income stream for many investment portfolios.
Since muni bond interest is exempt from federal taxes, muni ETFs are a good way for investors seeking tax-exempt income, especially those in higher tax brackets. Due to its tax-exempt status, the asset category is also best utilized in taxable accounts.
“In municipal high-yield–and this is a little bit debatable on the part of certain people–but generally speaking, in the municipal world, most people think of BBB as being part of the high-yield muni universe,” said Morningstar in a recent note.
Assessing HYD Credit Risk
HYD, which has an effective duration of 6.33 years, holds nearly 2,100 bonds. Over 29% actually carry investment-grade ratings while just over 35% are rated junk. Another 35% aren’t rated.
“So, even though BBB is technically investment-grade if you look at outside ratings, those bonds tend to be favored by high-yield muni funds,” according to Morningstar. “They tend to get lumped together with them. You’ll hear arguments that their default occurrence is a lot lower than corporate BBB, for example, and there’s some truth to that in terms of the default history. But if you’re looking at the universe that high-yield muni funds are involved in, it starts there. The other issue is that there are a lot of smaller nonrated issues.”
Munis also help diversify fixed-income portfolios. Investors who typically follow the Barclays U.S. Aggregate Bond Index will not have municipal bond exposure, so a muni bond ETF can complement core fixed-income positions.
As of the end of the third quarter, municipal debt issued by California and Illinois combined for 26% of HYD’s weight.
This article originally appeared on ETFTrends.com.