Nomura Tax-Free USA Short Term ETF (STAX)

The Nomura Tax-Free USA Short Term ETF (STAX) invests in municipal bonds issued by US state and local governments with relatively short time to maturity. The interest payments are typically exempt from federal income tax, and often from state and local tax as well if you live in the state that issued the bonds. STAX trades on the NASDAQ like any other ETF, giving investors a liquid way to own a diversified pool of tax-free municipal bonds without buying individual bonds.

What are municipal bonds and why are they tax-free?

Bonds are loans. When you buy a municipal bond, you are lending money to a city, county, state, or local authority. They promise to pay you interest every six months and return the principal at maturity. Most bonds are taxable — the US Treasury, corporations, and foreign governments all issue bonds whose interest is subject to federal income tax.

Municipal bonds are different because the interest on them is usually exempt from federal income tax. The logic dates back over a century: Congress decided that the federal government should not tax the interest on bonds issued by state and local governments, because taxing them would effectively mean the federal government was taxing the states. Over time, this evolved into a broad tax exemption for most municipal bond interest. A bond issued by New York City or a Florida water authority’s interest escapes federal tax. If you also live in that state, the interest typically escapes state and local tax as well.

For high-income individuals — those in the top federal tax brackets — that tax exemption is enormously valuable. A municipal bond yielding 3.5 percent that is fully tax-free is worth more than a taxable bond yielding 4.5 percent if you are paying a 20 percent or higher effective tax rate. The trade-off is that municipal bond yields are lower than Treasury or corporate bond yields, because the tax exemption makes them so attractive.

How STAX works and what it holds

STAX holds a portfolio of roughly 500 to 1,000 municipal bonds, typically issued by state and local authorities across the United States. The bonds in the fund have relatively short maturities — usually between one and three years from purchase, with most clustered in the one- to two-year range. This short duration means the portfolio is less sensitive to interest-rate changes than longer-term bond funds. If interest rates rise 1 percentage point, a short-term municipal bond fund might fall 1 to 2 percent in price, while a long-term municipal bond fund might fall 5 to 10 percent.

The fund rebalances regularly to maintain its target duration, buying newly issued short-term bonds and selling those approaching maturity. The portfolio aims to be highly diversified across states, sectors (water systems, schools, transportation, housing authorities, and many others), and credit quality, spreading risk so that the failure of any single issuer would not meaningfully impact the fund.

STAX’s expense ratio is typically around 0.20 percent annually, which is very low for an actively managed bond fund and competitive with other municipal bond ETFs. The fund trades on the NASDAQ with reasonable daily volume, though less than equity ETFs, making it accessible to most investors for buys and sells.

What risks do municipal bonds carry?

The most obvious risk is credit risk — the issuer runs into financial trouble and cannot pay the promised interest or principal. This is rare among municipal bonds, but it has happened. When a city or county faces budget crises, it may delay bond payments or, in extremes, default. STAX diversifies across many issuers to reduce this risk, but it does not eliminate it. The fund’s holdings typically skew toward higher-quality, well-established issuers, which further lowers credit risk but narrows the yield you earn.

Interest-rate risk is the second major risk. If interest rates rise after you buy STAX, new municipal bonds will offer higher yields, making your existing bonds less valuable. If you need to sell before maturity, you will sell at a loss. Conversely, if interest rates fall, existing bonds become more valuable. Because STAX holds short-term bonds, this risk is smaller than in longer-term municipal bond funds, but it is still real. A 1 percent rise in interest rates might knock 1 to 2 percent off STAX’s price.

Inflation is a subtler risk. If inflation erodes purchasing power faster than the yield from STAX’s bonds can replace it, you lose real wealth over time. A 2.5 percent municipal bond yield may not outpace inflation if inflation rises to 3 or 4 percent. This risk is especially acute in a low-yield environment like the one that existed from 2010 to 2021.

There is also liquidity risk, both in the underlying bonds and in the ETF itself. Municipal bonds are less liquid than Treasuries or corporate bonds, meaning you might not be able to sell a specific bond quickly without accepting a lower price. For STAX as a whole, the ETF itself is reasonably liquid, but during periods of stress in the municipal bond market, even liquid ETFs can see wider bid-ask spreads.

Finally, there is tax-law risk. The tax exemption for municipal bonds is a creature of federal law and could theoretically be changed or narrowed by Congress. If the exemption were repealed or meaningfully limited, municipal bond values would plummet and the appeal of funds like STAX would evaporate. This risk is low in practice — Congress is unlikely to suddenly eliminate one of the oldest provisions in the tax code — but it exists.

Who STAX is designed for and when it makes sense

STAX is most attractive to higher-income investors in the top federal tax brackets who want a low-risk, tax-efficient source of income. If you are in the 35 or 37 percent federal tax bracket and live in a high-tax state like California or New York, the tax benefits of municipal bonds can be substantial. A 2.5 percent tax-free yield is worth more to you than to someone in a 12 percent tax bracket, where the effective after-tax yield of a taxable bond might not be much lower.

STAX is less attractive for lower-income investors, for whom the tax-free feature provides little benefit because they are in lower tax brackets anyway. It is also less attractive for investors in tax-deferred accounts like IRAs or 401(k)s, where the tax-free feature provides no advantage at all. A simple, lower-cost Treasury ETF would be better.

For those to whom it appeals, STAX offers simplicity and liquidity. You get diversified municipal bond exposure without buying individual bonds, and you can buy or sell shares instantly during market hours. The short-term focus keeps interest-rate risk manageable, making STAX suitable for conservative investors or those who expect to need the money within a few years.

How to evaluate STAX

Start by understanding your own tax situation. Calculate the effective tax rate you face on ordinary income, then compare the after-tax yield of a taxable bond to the yield of a municipal bond. If the municipal bond’s yield is meaningfully higher after accounting for taxes you would avoid, STAX may make sense.

Review STAX’s factsheet and prospectus, available on Nomura’s or the ETF’s provider website, to see the current yield, duration, and credit-quality breakdown. Check the top issuers and sectors in the fund — are they concentrated in one state or sector, or well-diversified? Understand what the current yield is relative to Treasury bonds of similar maturity, and whether you are comfortable with that yield in light of current inflation and interest-rate expectations. For holdings and returns, you can track STAX’s performance relative to a broader municipal bond index or a simple short-term Treasury ETF to see how it fares. Most importantly, confirm that STAX actually serves your purpose — if you are in a low tax bracket or investing through a tax-deferred account, a different fund would better suit your needs.