iShares target-dated muni ETFs for taxable account

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iShares target-dated muni ETFs for taxable account

Postby allocator » Sun Dec 30, 2012 9:38 am

Hi all. Does anyone have any experience and/or opinions about iShares target-date municipal bond ETFs? Information available online suggests that the point of these instruments is that they "behave" like individual municipal bonds in that they have a specific maturity date when the ETF will liquidate, but also provide diversification in that each ETF holds a basket of bonds. These features allow the bonds to be laddered much like one would ladder individual bonds.

From Seeking Alpha website: Most muni bond ETFs are designed to operate indefinitely, using any proceeds from maturities to purchase longer-dated funds. But iShares offers a lineup of muni bond ETFs that deliver a cash flow experience similar to individual bonds. These funds concentrate on muni bonds maturing in a certain year, meaning that the interest rate risk component gradually declines as the maturity date approaches. And as the target date approaches and the underlying bonds mature, these ETFs will gradually convert to cash that will ultimately be distributed to shareholders.

The er is a little high at .30%. But the target-date aspect seems to limit the downsides of typical bond funds.

Is this really the best of both worlds? I am here guided by two maxims:

1) if it seems too good to be true, it probably is, and

2) investment products are created and marketed to make money FROM you, not FOR you.

Thoughts would be welcome and appreciated. Best wishes for a happy and healthy 2013 (and for a safe landing :happy )
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Re: iShares target-dated muni ETFs for taxable account

Postby Rainier » Sun Dec 30, 2012 10:06 am

The funds are pretty small, which scares me. I do like the concept though.
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Re: iShares target-dated muni ETFs for taxable account

Postby indexfundfan » Sun Dec 30, 2012 10:28 am

I don't own these funds. But here's my understanding: since bonds mature at par value, you need to purchase the ETF when the bonds in the ETF are trading at either a discount or par. If muni bonds of the duration you are looking at are trading at a premium when you purchase the ETF, you will probably have a capital loss when the ETF terminates.
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Re: iShares target-dated muni ETFs for taxable account

Postby grabiner » Sun Dec 30, 2012 10:35 am

Do you actually want to hold munis that mature on the target date? If you have a 2025-dated fund, then in 2024, all your munis will have a one-year duration, and the ETF will be a money-market fund. That may be correct if you have a specific need for the money in 2025. However, most bond investors don't have such a need; if you will be retiring in 2025, you need income from your portfolio every year from 2025 until your death around 2045. (The most common need for money in a specific year is college tuition, but 529 plans are better for that purpose.)

If you ladder the maturity-date ETFs, you don't get any benefit of having maturity-dated ETFs. The purpose of a ladder is to keep duration and maturity constant over time, and that's what a conventional bond fund does. An intermediate-term bond fund will likely keep a fixed maturity of five years, just as a ten-year ladder does.
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Re: iShares target-dated muni ETFs for taxable account

Postby grabiner » Sun Dec 30, 2012 10:47 am

indexfundfan wrote:I don't own these funds. But here's my understanding: since bonds mature at par value, you need to purchase the ETF when the bonds in the ETF are trading at either a discount or par. If muni bonds of the duration you are looking at are trading at a premium when you purchase the ETF, you will probably have a capital loss when the ETF terminates.


You have this backwards for muni funds, because a capital gain is worse than tax-exempt income.

For a muni fund, you will have an extra tax cost if you buy the fund when the fund is trading for less than the liquidation value (which will happen if the bonds in the fund are at a discount relative to the price at which they were purchased). If you buy a ten-year muni ETF which pays $3 per year at $90 with a par of $100, you will receive $30 of income and have a $10 capital gain when the fund is liquidated, so you will earn $40 on your $90 but $10 of that is taxed at 15%; this is worse than buying an individual muni which would earn the same $40, all treated as interest. (In contrast, if you bought a taxable bond fund in the same situation, you would receive $30 of income taxed at your full tax rate and $10 taxed at 15%, which is better than the tax treatment of an individual bond.)

Conversely, if a muni fund is trading for more than the liquidation value, you pay no tax on the income and you may be able to deduct the capital loss from your taxes, for a net negative tax cost.
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Re: iShares target-dated muni ETFs for taxable account

Postby Rick Ferri » Sun Dec 30, 2012 10:48 am

It's an interesting concept for diversification, but the cost is too high. A better idea is to "ladder" Vanguard Tax-exempt funds by using a combination of short- limited- intermediate and perhaps long-term. This accomplishes the same thing at a lower cost and much broader diversification.

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Re: iShares target-dated muni ETFs for taxable account

Postby Rainier » Sun Dec 30, 2012 10:53 am

Rick Ferri wrote:It's an interesting concept for diversification, but the cost is too high. A better idea is to "ladder" Vanguard Tax-exempt funds by using a combination of short- limited- intermediate and perhaps long-term. This accomplishes the same thing at a lower cost and much broader diversification.

Rick Ferri


Where do you re invest the dividends? Evenly across the ladder I assume.
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Re: iShares target-dated muni ETFs for taxable account

Postby allocator » Sun Dec 30, 2012 4:15 pm

Thanks for your thoughtful responses. I do find the concept appealing, but the expenses, as Rick suggested, are too high. I appreciate the suggestion of "laddering" bond funds, but does this really have the same effect? If I ladder these ETFs in, say, 2, 3 and 5 year maturities, I know that I will receive my principal in 2, 3 and 5 years and can make a decision at those times (or before, should I elect to sell) to reinvest. With laddrered funds, I forego that option. Thoughts?

By the way, Rick, I've read, learned from, and enjoyed much of your work, and you are in that way at least partly responsible for bringing me to this forum and helping me get my family's finances in sound order.

Thanks, again.

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Re: iShares target-dated muni ETFs for taxable account

Postby JamesSFO » Sun Dec 30, 2012 4:34 pm

Interesting fund concept. I give Blackrock points for trying to innovate fund product choices.
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Re: iShares target-dated muni ETFs for taxable account

Postby Rick Ferri » Sun Dec 30, 2012 5:47 pm

Rainier wrote:
Rick Ferri wrote:It's an interesting concept for diversification, but the cost is too high. A better idea is to "ladder" Vanguard Tax-exempt funds by using a combination of short- limited- intermediate and perhaps long-term. This accomplishes the same thing at a lower cost and much broader diversification.

Rick Ferri


Where do you re invest the dividends? Evenly across the ladder I assume.


They are invested where needed depending on how the NAVs of funds have moved over the period.

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