The slow and steady municipal bond market has been put into a frenzy as investors begin to question the financial stability of state and local governments. Add in the fact that interest rates are increasing at a rapid pace, making bonds less attractive, and the municipal bond market has literally fallen off a cliff.
IN PICTURES: 9 Simple Investing Ratios You Need To Know

With that being said, I believe the sell-off is an opportunity for investors to become vultures and begin buying into municipal bond ETFs. In December, a so-called expert, in the bond market made a bold call on "60 Minutes" television program that 50 to 100 large municipalities will default on their bonds.

In the last 40 years there have only been 54 defaults on muni bonds. That is just over one per year. To make a call that in the next year there will be more defaults than the last four decades is unjustified. My honest opinion is that Meredith Whitney, the woman making the call, is looking for more face time in the media. I hope she comes back on the national stage in one year to admit she was wrong and apologize for spooking the innocent investors that put their faith in her analysis.

When a municipality is faced with tough times, as many are right now, there are several ways they can get out of trouble. They include raising taxes, cutting services, refinancing, and ultimately help from the states or the federal government. As bond holders you really do not care how they do it, all you want if you interest payment. (For more, see The Basics Of Municipal Bonds.)

Muni ETFs
The iShares National Municipal Bond ETF (NYSE:MUB) is a basket of over 1100 municipal bonds from around the country that current has a distribution yield of 3.6%. Because of the tax advantages of muni bonds, the tax equivalent yield on MUB is 5.6% based on a 35% tax bracket. The ETF is down about 10% from the September high, but is now a buying opportunity near $100/share. The expense ratio is 0.25%.

A competitor MUB is the PowerShares National Municipal Bond ETF (NYSE:PZA), which is composed of 167 different bonds and currently has a distribution yield of 5.7%. The expense ratio is 0.35% and the ETF has a very similar chart pattern to MUB. SPDR Lehman Municipal Bond ETF (NYSE:TFI) is composed of 301 bonds with a current yield of 4.6%. The expense ratio is 0.23% and again a similar pattern to MUB.

Investors that are willing to take on extra risk in search of a higher yield can turn to the Market Vectors High Yield Municipal Bond ETF (NYSE:HYD). The ETF is composed of a basket of 111 muni bonds that are mainly considered "junk bonds" because they are rated below investment-grade by the agencies. The distribution yield is 6.3%, resulting in a tax equivalent yield of 9.6%. The ETF took a major hit similar to MUB, however the magnitude was not much more and therefore the higher yield makes it the best play in my opinion. The expense ratio is 0.35%.

Of course there is the risk that the analyst I mentioned above is correct in her call. Obviously I believe she is incorrect or I would not my recommending buying into municipal bond ETFs at this time. Proceed with caution and always use stop-loss orders. (For more, see Municipal Bond ETF Considerations.)

Use the Investopedia Stock Simulator to trade the stocks mentioned in this stock analysis, risk free!

Related Articles
  1. Mutual Funds & ETFs

    ETF Analysis: PowerShares FTSE RAFI Emerging Mkts

    Learn more about the PowerShares FTSE RAFI Emerging Markets ETF, a fundamentally weighted fund that tracks emerging market equities.
  2. Mutual Funds & ETFs

    ETF Analysis: iShares Cali AMT-Free Muni Bond

    Learn more about the iShares California AMT-Free Municipal Bond exchange-traded fund, a popular tax-advantaged ETF that dominates its category.
  3. Mutual Funds & ETFs

    ETF Analysis: SPDR S&P Emerging Markets Dividend

    Learn more about the SDPR S&P Emerging Markets Dividend Fund, a yield-focused exchange-traded fund tracking global emerging economies.
  4. Mutual Funds & ETFs

    ETF Analysis: First Trust Dow Jones Global Sel Div

    Find out about the First Trust Dow Jones Global Select Dividend Index Fund, and learn detailed information about characteristics and suitability of the fund.
  5. Mutual Funds & ETFs

    ETF Analysis: U.S 12 Month Natural Gas

    Learn about the United States 12 Month Natural Gas Fund, an exchange-traded fund that invests in 12-month futures contracts for natural gas.
  6. Mutual Funds & ETFs

    ETF Analysis: iShares Floating Rate Bond

    Explore detailed analysis and information of the iShares Floating Rate Bond ETF, and learn how to use this ETF as a defense against rising interest rates.
  7. Mutual Funds & ETFs

    ETF Analysis: ProShares UltraPro Short S&P500

    Find out information about the ProShares UltraPro Short S&P 500 exchange-traded fund, and learn detailed analysis of its characteristics and suitability.
  8. Mutual Funds & ETFs

    ETF Analysis: SPDR Barclays Investment Grd Fl Rt

    Learn more about the SPDR Barclays Investment Grade Floating Rate Fund, which tracks an index of highly rated floating debt securities.
  9. Mutual Funds & ETFs

    ETF Analysis: ALPS Medical Breakthroughs

    Learn more about a unique and innovative exchange-traded fund (ETF) in the biotechnology industry: the ALPS Medical Breakthroughs Fund.
  10. Mutual Funds & ETFs

    ETF Analysis: iShares US Healthcare

    Learn about the iShares U.S. Healthcare exchange-traded fund, which invests in a wide range of health care providers, hospitals and home care facilities.
  1. Equity

    The value of an asset less the value of all liabilities on that ...
  2. Exchange-Traded Fund (ETF)

    A security that tracks an index, a commodity or a basket of assets ...
  3. Exchange-Traded Mutual Funds (ETMF)

    Investopedia explains the definition of exchange-traded mutual ...
  4. Hard-To-Sell Asset

    An asset that is extremely difficult to dispose of either due ...
  5. Sucker Yield

    When an investor has essentially risked all of his capital for ...
  6. Lion economies

    A nickname given to Africa's growing economies.
  1. How do dividends affect retained earnings?

    When a company issues a cash dividend to its shareholders, the retained earnings listed on the balance sheet are reduced ... Read Full Answer >>
  2. What is the difference between called-up share capital and paid-up share capital?

    The difference between called-up share capital and paid-up share capital is investors have already paid in full for paid-up ... Read Full Answer >>
  3. Why would a corporation issue convertible bonds?

    A convertible bond represents a hybrid security that has bond and equity features; this type of bond allows the conversion ... Read Full Answer >>
  4. What does a high turnover ratio signify for an investment fund?

    If an investment fund has a high turnover ratio, it indicates it replaces most or all of its holdings over a one-year period. ... Read Full Answer >>
  5. Does index trading increase market vulnerability?

    The rise of index trading may increase the overall vulnerability of the stock market due to increased correlations between ... Read Full Answer >>
  6. How does additional paid in capital affect retained earnings?

    Both additional paid-in capital and retained earnings are entries under the shareholders' equity section of a company's balance ... Read Full Answer >>

You May Also Like

Trading Center

You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!