3. Municipal bonds
Investments in the bonds of state and local governments typically won't make you rich, because returns are generally low. But muni bond interest payments are exempt from federal taxes. That protection may extend to state taxes if the munis are issued by the state in which the investor lives. Investors can pocket attractive returns even after taxes, because the tax hit can be sizeable for those in higher income brackets.
Muni bond funds have been on a terrific run, with average returns of nearly 15 percent over the last 12 months. But don't expect double-digit returns this year. Muni bond prices have rebounded from a market scare in late 2010, when the poor financial condition of many states and cities left investors nervous about a surge of defaults. Although many governments remain troubled, there has been no default surge and municipal bankruptcies declined last year, says Jim Colby, a muni bond analyst with Van Eck Associates.
A setback for the economic recovery could put more pressure on government budgets. But Colby says munis remain an attractive alternative to Treasurys. He's expecting muni returns to average 4 to 5 percent over the next few years.
"Munis give an investor opportunity," he says, "at a time when so many are saying, 'Boy, I'm having a hard time stomaching these low Treasury yields.'"
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