Invesco’s PowerShares Build America Bonds Portfolio Fund (NYSEArca: BAB), anticipated to launch Tuesday, will be the first ETF to invest in taxable municipal bonds issued through the government’s American Recovery and Reinvestment Act of 2009.

The program is designed to lower the cost for municipalities selling bonds. The Act establishes two kinds of bonds—Tax Credit Bond and Direct Payment Bond; BAB will only invest in the latter. For these bonds, the federal government gives the bond issuer a direct payment equal to 35 percent of the interest rate on the bond. This allows the municipalities to offer interest rates competitive with corporate bond markets. According to Investopedia, for instance, when California priced a BAB offering in early 2009, it offered a 7.4 percent interest rate, but received a rebate that drove their costs down to 4.8 percent.

“This is the dawn of a new fixed income asset class,” Ben Fulton, executive vice president, global product development with Invesco PowerShares, said.

BAB will track the BofA Merrill Lynch Build America Bond Index, which comprises investment-grade bonds with at least one-year remaining term to maturity, a fixed coupon schedule and a direct pay federal subsidy. All together, the index holds some 1,800 issues, but BAB will use an optimization strategy by holding a sampling of the index’s securities.

Fulton sees BABs as particularly attractive right now because they are issued by municipalities seeking capital to invest in the country’s infrastructure problem.

“This is a fixed-income answer to rebuilding America,” Fulton said. “There’s a lot of money that’s needed to rebuild U.S. infrastructure, and we believe this is a taxable product that allows investors to tackle that problem.”

The bonds may be particularly attractive to nontaxable investors, including pension plans, as they offer the perceived security of the muni bond market while providing competitive interest rates to other taxable bonds. They may also be attractive to investors eager for corporate bond-style interest rates, but worried about corporate default risk.

There are some uncertainties surrounding the market’s liquidity ahead as the government program faces expiration on Dec. 31, 2010. Unless the program is extended, the number of BABs in the market could drop after that date as issuance stops and as existing bonds start to reach maturity.

Fulton said that government chatter suggests that the program might not only be extended but it could be made permanent.

Still, in the off chance that it all ends by 2011, BAB will slowly convert to other taxable munis until all BABs have matured, to ensure the continuity of the product.

BAB will come with a net expense ratio of 28 basis points.