Municipal bonds have been back in vogue since 2014 despite Puerto Rico’s ongoing debt crisis. While many investors purchase individual bonds, there are a number of mutual funds and exchange-traded fund options.
The most popular muni bond ETF is the iShares National AMT-Free Muni Bond ETF (MUB), which tracks the S&P National AMT-Free Municipal Bond Index. MUB has approximately $5.8 billion in assets as of December 2015. When it comes to mutual funds, investors must choose from an array of actively managed funds focused on various subsets of the market, such as high yield, long-term, short-term, regional and countrywide.
Investors looking for cheaper exposure to a broad range of muni bonds may be in luck, with Vanguard’s launch of new funds in the space.
Vanguard’s New Funds
Vanguard launched the first muni index mutual funds earlier this year, providing investors with a low-cost, passively managed option for investing in muni bonds. Like the iShares ETF, these funds track the S&P National AMT-Free Municipal Bond Index.
Following the launch in August, investors can now purchase Investor Shares under the ticker VTEBX, with a 0.2% expense ratio and $3,000 minimum investment, or the Admiral Shares under the ticker symbol VTEAX, with a 0.12% expense ratio and a $10,000 minimum investment.
With many actively managed mutual funds in the muni bond space sporting higher expense ratios, Vanguard’s funds will be a welcome alternative for many investors. Morningstar estimates that the median expense ratio for no-load shares in the muni-national intermediate muni bond category was 57 basis points in 2014. The new Vanguard funds charge just 20 and 12 basis points, respectively, depending on the level of investment.
The company also launched an ETF under the ticker symbol VTEB, with a 0.12% expense ratio, which is designed to compete head-to-head with MUB. While the new ETF has far fewer assets, its expense ratio is significantly lower than MUB’s 0.25% fee and could offer a viable alternative for investors over time. Vanguard has become widely known for its low-cost funds and its indexing skills have been nearly unmatched in the industry.
Risks to Consider
Vanguard’s new funds may provide a compelling opportunity for investors looking for cheaper exposure to muni bonds, but there are some important risks to consider.
Since they only recently launched, the mutual funds and ETFs have just over $100 million in assets under management. This introduces a level of liquidity risk. The implosion of Third Avenue Management’s Focused Credit Fund has underscored these risks, although the municipal bond market is significantly more liquid than the distressed debt markets. Vanguard’s status as one of the world’s largest fund managers also helps mitigate these risks.
Investors may also want to keep in mind the risks associated with the overall muni bond market, although many of these risks can be mitigated through a high level of diversification.
The Bottom Line
The muni bond market has a number of different fund options for investors. In the mutual fund space, Vanguard introduced the first low-cost, passively managed index mutual fund that tracks the S&P National AMT-Free Municipal Bond Index. The funds have few assets under management given their recent launch, but they should continue to expand over time to offer a compelling alternative to individual bonds or actively managed funds.
