Q. Let's focus on that last one for a minute. Why is that "a big one"?

A. When you buy individual bonds, you know the maturity date and you canmatch that to your own needs, like education or retirement costs. You knowthat even though you are buying a medium- or long-term bond NOW, that bondwill become, and its price will act like, a short-term bond near thematurity date. Except for a few that are called "term trusts," bond FUNDSdo NOT mature -- they continue holding, for example, long-term bonds. Soin 20 years a long-municipal fund will THEN still be holding a portfolio of20-year bonds. The NAV of the fund could be volatile, and up or down!

Q. And, in this relatively safe area, why is professional management soimportant?

A. Well, things change. Individual bonds and local economic and taxsituations can be tricky. A person may not have the time or expertise tofollow all this themselves. We all heard a couple of weeks back about thequality downgrade of DIA bonds due to the UAL uncertainty, but suppose youowned El Paso county or city of Pueblo bonds. How do you keep on top ofthat? That watching is part of what you get for your 50-75 basis points ofmanagement fee.

Q. What are the yields available on muni bonds now?

A. THAT is one of the exciting news point, I think! The long-term AAAmuni (about 25 years) is currently trading to yield about 4.7%, while thecomparable-maturity U.S. Treasury is yielding about 4.8%. If you figure atypical muni buyer is probably in at least the 27% bracket, there is atremendous take-home yield advantage for muni bonds. Historically the munimarket usually trades at maybe 85-90% of the taxable yield, but presentlyit is at about 98%.

Q. Why do you suppose there now is such an unusually narrow difference inyields?

A. At least two major factors. First, most of the focus of Washingtonfinancial policy has been on actions that lower rates on FEDERAL bonds.The Fed has been cutting at the short end, and the Treasury has beenretiring the long end and not issuing any more. In contrast, the munimarket is currently somewhat concerned about the fiscal condition of thestates, counties, and local governments because sales- and income-taxrevenues are down. And I suppose having tax-cutting Republicans in officelowers the interest in munis since bracket rates are being lowered.

Q. When is that likely to change?

A. If the economy starts perking up a little now that the Iraq waruncertainty has passed, I would imagine employment and retail sales shouldget more solid, and that would help municipal finances. Also, you may wellsee Congress send some billions in federal aid to help stop the cuts inlocal services and public sector jobs. Any of this could be just a matterof months away. As to politics, I'll beg ignorance as a prognosticator!

Q. But investors are really concerned about low long-term rates and aboutpossible rekindling of inflation...

A. Right. If that is what an investor fears, they should stay at theshorter/intermediate part of the curve. And the yield advantage isavailable there as well, for muni bonds. At 7 years, the AAA muni yield is3.1% take home, while the US government note yields 3.25% before taxes, orin the low-mid 2%s after tax.

Q. Let's bring this back to funds now...

A. OK. There are almost 800 (789) municipal bond funds, not evencounting municipal MONEY funds. Assets are over $335 billion. That'stwice as much as people have in the popular S&P 500 index funds (!) andover 10 times what they have (left) in technology funds. Those totalsinclude national funds as well as single-state funds, and all maturitiesfrom short to long.

Q. How about COLORADO muni funds?

A. Again, leaving out any money funds, there are 14 funds specific toColorado, and five of those are managed by locally-headquartered advisors: Aristata, Colorado Bond, Invesco, Janus,and Westcore.

Q. Now, you mentioned NATIONAL funds. Don't they involve tax complexity?

A. Yes, a little bit. If you own a national muni fund, all of the incomeis federal-tax exempt (putting aside AMT considerations) but you will oweColorado income tax on the part of the income that comes from the otherstates. The fund sends you a notice after year-end telling you exactlywhat percentage that is, so it's not too complex.

Q. Do you get a better yield with the nationals?

A. Because they can own bonds from high-tax states like CA and NY and MA,you can get a higher overall yield. Also, the manager has a bigger pond inwhich to 'fish' for bargains.

Q. Any cautions about muni-bond funds?

A. Yes. I would shy away from the relatively few "high-yield muni" fundsbecause things can go bad there more easily than with quality bonds. And Iwould definitely want to have NOT all my money at the longer end in caseinflation revives and rates rise. And finally, for people subject to theAMT, I'd definitely say consult your tax advisor before buying a particularfund.

Q. What about CLOSED-END muni-bond funds, Don?

A. There are nearly 300 such, including ONE for Colorado bonds alone.MOST of these, about 85% or more, use leverage to get a higher yield. Thatbrings with it MORE RISK of loss in case interest rates rise. Many of themare yielding over 6%, but you are definitely making a bet on rates. Thisis a whole other subject, a bit complex, and probably best left for someother Thursday.

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Don Cassidy is a Senior Research Analyst at Lipper specializing in fund flows, exchange-traded funds, (ETFs), closed-end funds, equity fund performance, and author of Trading on Volume (McGraw-HIll).