Municipal Bonds as a Core Part of a Portfolio
Municipal Bonds as a Core Part of a Portfolio
Edward J. Saracino September 2016
FOR FINANCIAL ADVISORS ONLY. NOT FOR PUBLIC DISTRIBUTION.
Median monthly return
Bonds can provide ballast in an equity bear market
Median return of various asset classes during the worst decile of monthly equity returns 1988-2016
2% 0% -2% -4% -6% -8% -10%
Sources: Vanguard calculations based on data from Thomson Reuters Datastream, Barclays, HFRI, MSCI, FTSE, CRSP, S&P, and Dow Jones. Notes: U.S. stocks represented by Dow Jones U.S. Total Stock Market Index through April 2005, MSCI US Broad Market Index through June 2013 and CRSP US Total Market Index thereafter; emerging markets stocks are represented by MSCI Emerging Markets Index; REITs by FTSE NAREIT Equity REIT Index; dividend stocks by Dow Jones U.S. Select Dividend Index; commodities by S&P GSCI Commodity Index; high yield bonds by Barclays U.S. Corporate High Yield Bond Index; emerging markets bonds by Barclays EM USD Aggregate Index; investment-grade corporate bonds by Barclays U.S. Corporate Index; U.S. Treasury bonds by Barclays U.S. Treasury Bond Index; Hedged fund index by HFRI fund-weighted total return Index; international bonds by Barclays Global Aggregate ex-USD Bond Index and Municipal bonds by Barclays Municipal Bond Index. The Dow Jones U.S. Select Dividend Index starts in January 1992; Barclays EM USD Aggregate Bond Index starts in January 1993; hedge fund data start in 1994 and Barclays Global Aggregate ex USD Bond Index starts in January 1990. All data provided through June 30, 2016. Past performance is no guarantee of future returns. The performance of an index is not an exact representation of any particular investment, as you cannot invest directly in an index.
FOR FINANCIAL ADVISORS ONLY. NOT FOR PUBLIC DISTRIBUTION.
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Municipals can offer unique advantages relative to other bond products
Compelling After Tax Yield
Income from municipal securities are generally exempt from federal personal income tax, making it an attractive choice for investors in higher tax brackets looking to reduce their tax liability.
Current tax-adjusted yields on municipal bonds are attractive
High Credit Quality
Municipals are a high quality market with primarily investment grade issuers, which reduces the credit risk of the investment. Even during high periods of economic stress, municipals have experienced modest default rates relative to corporates. Over the last 10 years, roughly 0.01% of municipals defaulted compared to 2.8% of corporates.3
1 Yield as of June 30, 2016, before taxes 2 The tax-equivalent yield formula calculates the yield on a taxable investment that is equivalent to the yield on a tax-exempt investment, after taking into account your personal tax rate. It can be used to compare the yield on a tax-exempt investment versus an investment that is taxed. Taxable-equivalent yield = Tax-exempt municipal bond fund yield / (1-Tax Rate) Sources: Barclays and S&P Dow Jones Indices LLC. 3 Citi Research, US Municipals Focus: A primer on U.S. municipal bonds, July 2016 The S&P National AMT-Free Municipal Bond Index is a product of S&P Dow Jones Indices LLC ("SPDJI"), and has been licensed for use by Vanguard. S&P? is a registered trademark of Standard & Poor's Financial Services LLC ("S&P"); Dow Jones? is a registered trademark of Dow Jones Trademark Holdings LLC ("Dow Jones"); and these trademarks have been licensed for use by SPDJI and sublicensed for certain purposes by Vanguard. Vanguard Tax-Exempt Bond Index Fund and ETF is not sponsored, endorsed, sold or promoted by SPDJI, Dow Jones, S&P, or their respective affiliates and none of such parties make any representation regarding the advisability of investing in such products nor do they have any liability for any errors, omissions, or interruptions of the S&P National AMT-Free Municipal Bond Index. Past performance is no guarantee of future returns. The performance of an index is not an exact representation of any particular investment, as you cannot invest directly in an index.
FOR FINANCIAL ADVISORS ONLY. NOT FOR PUBLIC DISTRIBUTION.
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Lower cost product have allowed investors to keep more of their return
Municipal Fund Expense Ratios
250
200
193 bps
150
101 bps 100
76 bps 58 bps
50
12 bps
0
VTEB
First
Second Third
Fourth
quartile quartile quartile quartile
Expense Ratio
Municipal Fund Average Ten Year Returns
4.5
4.0
3.5
3.0
2.5
2.0 First
quartile
Second Third quartile quartile
10 Year Return
Fourth quartile
Basis Points Percentage
Sources: Morningstar data including a sampling of 1,854 municipal bond funds. All quartiles are based upon the expense ratios of each fund, as of June 30, 2016. Past performance is no guarantee of future returns. The performance of an index is not an exact representation of any particular investment, as you cannot invest directly in an index.
FOR FINANCIAL ADVISORS ONLY. NOT FOR PUBLIC DISTRIBUTION.
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Municipal ETFs can offer efficient access to the market through scale
Ability to execute better with scale...
? Municipal bond ETFs can offer predictable, transparent exposure to the market.
? Compared to constructing municipal bond ladders, municipal ETFs can generally offer greater diversification at a lower cost.
? Municipal ETFs can offer greater liquidity than that of bond ladders; through tracking indexes that reflect characteristics of the muni bond universe while focusing on the more liquid portion of the market.
...compared to building a bond ladder
Municipal ETFs can offer a practical, efficient solution enabling advisors to focus on
clients' broader wealth management goals
FOR FINANCIAL ADVISORS ONLY. NOT FOR PUBLIC DISTRIBUTION.
Note: Based on the average spread for municipal bonds from May 9, 2016 to May 13, 2016. Source: Vanguard. Weighing the choice between tax-exempt bond funds and SMAs.
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