IU: How is the growth of muni ETFs impacting costs for investors?

Colby: It might cost an investor in fees and related expenses anywhere from 2-4% to purchase or sell an individual muni security. Mutual fund muni fees range anywhere between 60-120 basis points in average costs. Contrast that to the transparency and low cost of muni ETFs, which have expense ratios ranging from 16-35 basis points. So ETFs really are driving down costs for all types of investors to participate in this market.

IU: But aren't muni funds typically used only by upper-income investors?

Colby: Over the years, the perception has been that munis are for high net worth investors. In fact, for investors in the lower tax brackets, there are very attractive opportunities that might now be realized with the use of ETFs. And there are plenty of Web sites that you can use to compare the taxable equivalent of munis to taxable bonds.

IU: How does the current muni market look in that regard?

Colby: Here's an example. As of March 5, the SEC 30-day yield of the Market Vectors Intermediate Muni ETF (NYSE: ITM) was 3.87%. At a 15% tax bracket, the taxable equivalent yield would be 4.56%. In the 25% tax bracket, it would be 5.16%. At the 35% bracket, it jumps to 5.96%. The average maturity of this fund is 11 years. If you take an 11-year Treasury note, you're earning around a 3.50-3.60% yield.

IU: How about comparing corporate issues?

Colby: With corporate spreads being what they are, you're not going to get an equivalent maturity and equivalent-rated security anywhere close to that 6% tax-equivalent yield. Even at lower tax brackets, muni yields are very competitive.

IU: Fundamentally, what is the situation with state budget deficits and muni credit quality?

Colby: If there's any one overwhelming concern, it's credit quality. What Moody's and S&P are contemplating doing is re-rating some of the significant issuers in the marketplace. There may be downgrades in the offing if the government's recovery efforts to stimulate the economy don't prove effective.

We're talking about a need for those stimulus plans to positively impact state and local governments in the next six to 12 months. The hope is that money coming to the states will prevent any further erosion in their budget situations. The question is whether this stimulus package is going to be enough and whether it can happen quickly enough to help support local economies.

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