Muni Bond ETFs and Tax Uncertainty

ETF Trends

Amid all the questions and uncertainties whirling around Washington in the aftermath of the presidential election, the image of higher personal income taxes — fiscal cliff or not — is coming into sharper focus. In what could become known as the next “Great Compromise,” I believe taxes are almost assuredly going higher.

We may also have to throw capital gains taxes into the stew of tweaks and twists to which congressional leaders may need to agree. What is there for individual investors to do?

There is precious little time remaining in the calendar year to take action on capturing embedded gains in one’s fixed-income portfolio. Whether from Treasury or municipal bond holdings, gains from the long-term bull market in fixed income are still taxable at 15%. For those wondering what they can do before year-end, this may be the last opportunity to preserve capital gains and avoid an involuntary surrender of investment gains to unknown future legislative action. Savvy professionals may find that harvesting these gains is the biggest end-of-year idea to implement. Needless to say, such activity could potentially push the markets to higher levels of volatility.

For those coming out of high cost structures, there may be the temptation to find lower-cost vehicles for reentry and asset allocation. ETFs can potentially play a significant role in capturing some of those flows — either temporarily or longer term — while the political issues play out.

For muni investors who sense impending change that might significantly alter their long-term strategy, I believe playing the cards in hand to a known strategy may be better than hoping for the luck of the draw.

Market Vectors High Yield Municipal Index ETF (HYD)

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James Colby is a portfolio manager and senior municipal strategist at Market Vectors ETFs.

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