Municipal bond exchange-traded funds (ETFs) provide investors with diversified access to the municipal bond market. Municipal bonds, or munis, are debt instruments issued by states, municipalities, or counties for the purpose of financing public capital expenditures, such as the construction of highways, bridges, and schools. For investors, munis generally offer tax-free interest income. While many of these bonds are rated "investment grade" by ratings agencies, indicating a relatively low degree of credit risk, they are not risk-free. Their risk might be heightened by the coronavirus pandemic, which is placing enormous financial strain on state and municipal budgets and making it harder for them to pay their debts. A municipal bond ETF can help to reduce risk through holding debt issued by a broad range of states, municipal governments, or agencies.

Key Takeaways

  • Municipal bonds underperformed the broader market over the past year.
  • The ETFs with the best 1-year trailing total returns are BAB, MMIN, and IBMQ.
  • The top respective holdings of these ETFs are bonds issued by: Allegheny County, Pennsylvania; the St. Louis Lambert International Airport; and the city of Columbus, Ohio.

There are about 39 distinct municipal bond ETFs that trade in the U.S., excluding inverse and leveraged ETFs and funds with less than $50 million in assets under management (AUM). Municipal bonds, as measured by the Bloomberg Barclays Municipal Bond Index, have underperformed the broader market with a total return of 4.6% over the past 12 months compared to the S&P 500's total return of 16.8%, as of November 10, 2020. The best-performing municipal bond ETF, based on performance over the past year, is the Invesco Taxable Municipal Bond ETF (BAB). We examine the top 3 municipal bond ETFs below. All numbers are as of November 11, 2020.

Invesco Taxable Municipal Bond ETF (BAB)

  • Performance over 1-Year: 8.0%
  • Expense Ratio: 0.28%
  • Annual Dividend Yield: 3.17%
  • 3-Month Average Daily Volume: 402,459
  • Assets Under Management: $2.1 billion
  • Inception Date: November 17, 2009
  • Issuer: Invesco

BAB tracks the ICE BofAML U.S. Taxable Municipal Securities Plus Index, an index designed to gauge the performance of the U.S. market for taxable municipal debt publicly issued by U.S. states and territories, as well as their political subdivisions. The ETF normally invests 80% or more of its total assets in the securities comprising the index. It is rebalanced and reconstituted on a monthly basis. Nearly 24% of the bonds held by the fund are issued by an entity based in California while almost 17% are New York-based bonds. Nearly all of the bonds held are issued by local authorities. The fund's top three holdings include bonds issued by Allegheny County, Pennsylvania; the state of California; and the University of California.

IQ MacKay Shields Municipal Insured ETF (MMIN)

  • Performance over 1-Year: 6.9%
  • Expense Ratio: 0.31%
  • Annual Dividend Yield: 2.62%
  • 3-Month Average Daily Volume: 71,682
  • Assets Under Management: $197.2 million
  • Inception Date: October 18, 2017
  • Issuer: IndexIQ

MMIN seeks to provide investors with income exempt from federal income tax. It achieves this by primarily investing in investment-grade municipal bonds covered by an insurance policy guaranteeing principal and interest payments. The fund is actively managed by a team that employs a relative value strategy reliant on credit analysis, yield curve positioning, and sector rotation. Bonds issued by entities based in California comprise nearly 17% of the fund's holdings while bonds from Illinois-based issuers make up 16%. Bonds with maturities between 10 and 20 years comprise half of total assets. The fund's top three holdings include bonds issued by the St. Louis Lambert International Airport; school tax revenue bonds issued by Phenix City, Alabama; and property tax revenue bonds from the Poudre Tech Metropolitan District in Colorado.

iShares iBonds Dec 2028 Term Muni Bond ETF (IBMQ)

  • Performance over 1-Year: 6.7%
  • Expense Ratio: 0.18%
  • Annual Dividend Yield: 1.25%
  • 3-Month Average Daily Volume: 9,197
  • Assets Under Management: $51.7 million
  • Inception Date: April 16, 2019
  • Issuer: iShares

IBMQ tracks the S&P AMT-Free Municipal Series Callable-Adjusted Dec 2028 Index, an index composed of investment-grade U.S. municipal bonds that are expected to mature or be redeemed before December 2, 2028. The ETF seeks to provide investors with the defined maturity and regular income distribution characteristics of a bond while at the same time offering the transparency and tradability of a stock. Of the fund's 388 holdings, nearly 39% are state debt, 17% are utilities based, and almost 16% are backed by local taxes. More than 88% of the bond's held have a high credit rating of either AA or AAA. Its top three holdings include bonds issued by the city of Columbus, Ohio; Energy Northwest, a consortium of public utilities based in Washington state; and the state of Florida.