Assessing the Appeal of Tax-Advantaged Municipal Bond ETFs: A Deep Dive into American Century California Municipal Bond ETF (CATF)

Tax-advantaged municipal bond ETFs have long been a cornerstone for investors seeking income while minimizing tax liabilities. Among these, the American Century California Municipal Bond ETF (CATF) stands out for its focus on California residents, offering income exempt from both federal and state taxes. However, recent performance metrics raise critical questions about whether its tax benefits outweigh its underperformance relative to peers.

Tax Advantages: A Double Shield for California Investors

CATF’s primary allure lies in its dual tax exemptions. For California residents, the fund’s distributions are free from both federal and state income taxes, making it particularly attractive for those in the state’s highest tax brackets. According to a report by American Century, the fund’s structure allows investors to “maintain more of their returns” by leveraging the tax efficiency inherent in ETFs, which minimize taxable events like capital gains distributions [2].

For context, a California resident in the 45% tax bracket would see CATF’s 3.12% yield translate to a taxable-equivalent yield of approximately 5.67% (calculated as 3.12% / (1 - 0.45)). This amplification of returns is a key selling point, especially as the One Big Beautiful Bill Act (OBBBA) has preserved higher tax brackets for 2025, ensuring that high-income earners remain incentivized to seek tax-exempt alternatives [3]. Additionally, CATF’s expense ratio of 0.28%—below the category average—further enhances its appeal by reducing drag on returns [2].

Performance: A Mixed Picture Amid Market Headwinds

Despite these advantages, CATF’s recent performance has been lackluster. As of July 2025, the ETF returned -0.4% for the quarter, underperforming its municipal bond category’s -0.1% average. Year-to-date, it has lost 1.3%, and over the past 12 months, it trails with a -0.5% return [3]. These figures place it among the lowest-performing funds in its peer group, earning it an “F” grade from AAIi for both quarterly and annual periods [3].

The underperformance may stem from broader market dynamics. Municipal bonds have faced pressure from rising interest rates and policy uncertainty, compounded by tariff escalations disrupting clean energy supply chains—a sector that has otherwise seen robust investment under the Inflation Reduction Act (IRA) [3]. While CATF’s focus on California municipal securities may limit exposure to some of these risks, its active management strategy—allowing investments in high-yield bonds—could also introduce volatility.

Balancing Tax Benefits and Performance

The critical question for investors is whether CATF’s tax advantages offset its underperformance. For high-tax-bracket California residents, the answer may still lean toward “yes.” The fund’s tax-equivalent yield, combined with its low expense ratio, creates a compelling case for inclusion in a diversified portfolio. However, for investors prioritizing absolute returns over tax efficiency, alternatives with stronger performance records may be preferable.

Moreover, the broader municipal bond market remains resilient. The IRS’s recent allocation of $6 billion in tax credits under the IRA’s § 48C program underscores continued government support for clean energy and industrial decarbonization—a trend that could indirectly benefit municipal bond markets by stabilizing state and local budgets [4].

Conclusion

American Century California Municipal Bond ETF (CATF) exemplifies the trade-offs inherent in tax-advantaged investing. While its underperformance in recent periods is concerning, its unique value proposition for California residents—particularly those in high tax brackets—remains intact. Investors should weigh their individual tax situations against the fund’s historical returns and consider it as a core holding if tax savings outweigh the drag from subpar performance.

Source:
[1] U.S. Department of the Treasury and IRS Announce $6 Billion in Tax Credits for Second Round of Inflation Reduction Act’s 48C Qualifying Advanced Energy Project Tax Credit [https://home.treasury.gov/news/press-releases/jy2779]
[2] American Century Launches California Municipal Bond ETF [https://www.americancentury.com/newsroom/2024-american-century-launches-california-municipal-bond-etf/]
[3] American Century California Muni Bd ETF (CATF) [https://www.aaii.com/etf/ticker/CATF]
[4] Energy tax credits: What's at stake [https://www.catf.us/2025/04/energy-tax-credits-whats-at-stake/]