Tempting Tax-Exempts

Municipal bonds got caught in the credit crunch last year. Hedge funds and other leveraged players dumped muni bonds to raise cash and meet margin calls. And when you combine weak demand with heavy supply, you get falling prices.

Hit the hardest were bonds on the more speculative end of the muni market. If you are comfortable taking on a small bit of risk, the widening of high-yield muni spreads over their more conservative counterparts is an opportunity.

Risks aren't that great either. Junk munis defaulted at a 4.3% rate from 1970 to 2006, vs. 31.4% for corporate junk bonds.

NOTE: Before buying a low-rated municipal bond, find out whether the interest income is subject to the alternative minimum tax (AMT), which may be the case with "private purpose" bonds.

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