iShares National Muni Bond ETF (NEW YORK:condensed) is the largest municipal bond ETF on the market. Although the fund offers investors diversified exposure to high-quality, tax-exempt municipal bonds, the dividend yield of 2.6% is incredibly low, even after accounting for any potential tax benefits. For the majority investors, Treasuries and investment-grade bonds should offer higher after-tax yields than MUB. For investors in the highest tax brackets, only high-yield municipal bond ETFs, including the SPDR Nuveen Bloomberg High-Yield Municipal Bond ETF (NYSEARCA:HUMB), offer compelling dividend yields. As such, I wouldn’t invest in MUB right now.
- Investment Manager: BlackRock
- Basic index: ICE AMT-Free US National Municipal Index
- Expense ratio: 0.07%
- Dividend yield: 2.62%
- Total Returns CAGR 10Y: 2.13%
Index and Portfolio
MUB is a municipal bond index ETF that tracks ICE AMT-Free US National Toll Municipality index. It is a relatively simple index, including all relevant investment-grade, tax-exempt bonds in the market. As with most indices, applicable securities must meet a basic set of inclusion criteria to be included in the index. It is a market value weighted index, equivalent to a market capitalization weighting scheme, but for bonds.
MUB itself has a highly diversified portfolio, with investments in over 5,800 securities across most industries and relevant countries.
MUB is extremely diverse municipal bond The ETF, however, does not provide investors with exposure to other fixed income sub-asset classes, including high yield corporates. bonds and principal loans.
MUB is one investment grade municipal bonds ETF, focusing on securities with very low credit risk, with an average credit rating of AA.
Municipal bonds are almost always paid in full, with extremely low default rates. AA-rated muni bonds have a 10-year cumulative default rate of just 0.02%, rounding to 0.0% per year.
Since default rates are extremely low, capital losses are extremely rare and low, helping to sustain long-term share prices. MUB’s share price is actually OVER from the start, somewhat exceeding expectations.
Low default rates also help sustain bond prices and fund share prices during downturns and recessions, leading to outperformance during the same. For example, the fund fell just 1.20% during the first quarter of 2020, the start of the coronavirus pandemic. Capital losses were minimal, much lower than those of high-yield stocks and bonds.
Municipal bonds, on the other hand, do not really benefit from a “flight in quality” effect during recessions. Treasuries do, so treasuries tend to see higher prices and higher performance during the same.
MUB’s high credit quality reduces risk, volatility and downside losses, all important benefits for the fund and its shareholders. However, municipal bonds pale in comparison to Treasuries in this regard.
Interest rate risk
MUB invests in bonds of the most significant maturities, with an average period to maturity of 6.6 years, average duration of 6.0 years. Both figures are about average for a bond fund.
However, investment-grade corporate bonds, those most comparable to MUB, have significantly higher terms and durations. Corporate issuers took advantage of lower interest rates in 2022 to issue as much long-term debt as they could, leading to much higher maturities and durations. It appears that municipal issuers have not benefited from the low rates to the same extent.
MUB duration is slightly below average, which should lead to slightly above average returns during downturns and recessions. MUB has significantly outperformed most bond classes and bond sub-assets since 2022, somewhat exceeding expectations, in magnitude if not direction.
MUB’s recent performance brings me to my next point.
MUB has a dividend yield of 2.6%, the more traditional dividend metric, and a 3.4% SEC yield, a more forward-looking dividend metric. Both are extremely low numbers in absolute terms and well below average for a bond fund.
MUB’s relatively low dividends are at least partly the result of recent performance. Most bonds and bond funds have seen much lower stock prices, driving down their yields. MUB’s share price has been much more resilient, so yields haven’t risen as much.
Recent dividend growth also looks somewhat below average, though still quite strong on an absolute basis. Compare MUB:
Spreads also look relatively weak. MUB gave about 0.5% more than the average bond fund during mid-2010, but yielded almost 0.50% less now. Spreads have turned negative since the Fed began raising rates in early 2022 and have not been lower in decades.
Spreads also look relatively thin compared to investment-grade corporate bond funds. As with bonds in general, spreads began to fall since the Fed began hiking and have not been lower in decades.
MUB’s dividends have one major advantage over peers: they are exempt from federal taxes. This is a significant, direct benefit to investors, and particularly impactful to investors in higher tax brackets, who can significantly reduce their tax bill by investing in MUB over other funds.
However, the impact from the above seems small. The fund’s 3.5% SEC yield is equal to the 5.9% SEC yield for investors in the highest absolute tax bracket. That means those facing a federal income tax rate of 37%. AND 3.8% additional tax on net investment income. For most readers, I think equivalent taxable yields are closer to 4.5% – 5.2%, quite a bit lower.
Importantly, the fund’s yield still looks low even after accounting for any potential tax benefits.
For investors facing a federal tax rate of 37%, the fund has a taxable equivalent yield of 5.6%, barely higher than that of Treasuries and investment-grade corporate bonds, both at 5.5%.
For investors in lower tax brackets, these asset classes offer higher after-tax yields than MUB.
For investors in tax-advantaged investment accounts, these benefits are more or less irrelevant.
MUB offers LOT slightly higher yields for investors in the highest absolute tax bracket. While this is definitely a benefit, it is an incredibly small benefit that affects a small number of investors.
Most investors are likely to achieve stronger after-tax yields by focusing on Treasuries and investment-grade corporate bonds, which appear to be stronger asset classes than MUB.
Investors can also achieve stronger after-tax returns by investing in with high yield municipal bond funds, including HYEM. Said fund has an 8.4% SEC yield, much more respectable on an absolute basis. For investors facing a federal tax rate of 37%, the fund has a taxable equivalent yield of 13.3%, a much more respectable yield and well above that of most bonds and bond sub-asset classes.
MUB is the largest municipal bond ETF on the market. Although the fund offers investors diversified exposure to high-quality, tax-exempt municipal bonds, the dividend yield of 2.6% is incredibly low, even after accounting for any potential tax benefits. As such, I wouldn’t invest in MUB right now.