Municipal bonds weakened Tuesday as handful of deals priced ahead of market-testing transactions from Chicago and Los Angeles that are scheduled for Wednesday.
“Today kind of came and went but tomorrow should be interesting,” said one New York trader. “All eyes will be on the two headliners and with the weight of issuance we should see tomorrow, it will be one of those measuring stick days.”
Siebert Cisneros Shank & Co. priced Los Angeles’ $360 million of wastewater system subordinate revenue green bonds and revenue refunding bonds. The deal is rated AA by S&P Global Ratings, Fitch Ratings and Kroll Bond Rating Agency.
Raymond James & Associates priced Ohio’s $170 million of capital facilities lease appropriation bonds and taxable parks and recreation improvement bonds on Tuesday. The deal is rated Aa2 by Moody’s Investors Service and AA by S&P and Fitch.
In the competitive arena, the Florida Department of Management sold $249.265 million of bonds. Wells Fargo Securities won the bidding, with a true interest cost of 2.71%.
Morgan Stanley priced San Matteo Community College District, California’s $294.345 million of 2018 GO election of 2014 bonds on Tuesday. The deal is rated triple-A by Moody’s and S&P.
Bank of America Merrill Lynch priced the city of Riverside, Calif.’s $153.125 million of refunding sewer revenue bonds on Tuesday. The deal is rated A1 by Moody’s and AA-minus by S&P.
On Wednesday,
JPM is also set to price the Department of Airports of the City of Los Angeles’ $714 million of subordinate revenue bonds, featuring both alternative minimum tax and non-AMT bonds. The deal is rated AA by S&P and Fitch.
Tuesday’s pricings
Secondary market
Municipal bonds were mostly weaker on Tuesday, according to a late read of the MBIS benchmark scale. Benchmark muni yields rose as much as one basis point in the two- to 18-year and 28- to 30-year maturities. The remaining 10 maturities were either unchanged or lowering by less than one basis point.
High-grade munis were mostly weaker, with yields calculated on MBIS' AAA scale increasing as much as a basis point in the six- to 18-year, and 26- to 30-year maturities. The remaining 12 maturities were weaker by less than one basis point or unchanged.
Munis were weaker on Municipal Market Data’s AAA benchmark scale, which showed yields on both the 10-year muni general obligation and 30-year muni rising by two basis points.
On Tuesday, the 10-year muni-to-Treasury ratio was calculated at 86.8% while the 30-year muni-to-Treasury ratio stood at 99.5%, according to MMD. The muni-to-Treasury ratio compares the yield of tax-exempt municipal bonds with the yield of taxable U.S. Treasury with comparable maturities. If the muni/Treasury ratio is above 100%, munis are yielding more than Treasury; if it is below 100%, munis are yielding less.
Recurring appeal for munis ahead
Demand for municipals should perk up before year end -- despite continued rising rates and expectations for 2018 ending with potentially negative returns, according to Jeffrey Lipton, managing director and head of municipal research and strategy and municipal capital markets at Oppenheimer & Co.
"We do think that bonds will witness a more recurring appeal given a host of geopolitical events — even as the Fed continues to elevate interest rates," he wrote in a weekly municipal report.
Support for municipals last week came at a good time, as October was on track to be one of the worst-performing months in recent memory, Lipton noted. Despite last week's muni rally, municipal bond mutual funds still posted their fifth consecutive week of outflows as investors pulled out about $495 million according to Lipper U.S. Fund Flows, he pointed out.
However, he noted that there has been a slight reallocation of available cash into longer dated tax-exempts,particularly given more compelling relative value ratios available on that part of the curve.
The easing of secondary market bid wanted lists provide some evidence of abated selling pressure, he said.
"While we continue to expect munis to outperform UST for the year, we are less optimistic that tax exempts will finish the year with positive returns," Lipton wrote. "Still, muni technicals may provide the necessary tailwind to push the asset class closer to positive territory."
Supply slump on the horizon
Volume in November may not appreciably advance, especially with the holiday season approaching, according to Lipton, who said issuers will feel "time-constrained." According to Bloomberg data, the total amount of redemptions and maturing securities over the next 30 days is estimated at $22.27 billion, while the total fixed-rate supply anticipated over the same time period is approximately $9.08 billion — a net supply of negative $13.19 billion.
Still, weekly volume may increase according to issuers' needs and as last-minute additions to the calendar appear, motivated by market conditions and Fed policy.
"Issuers are working through their bond authorizations and assessing their capital needs before year-end and so we can expect to see some elevated weekly volume numbers," Lipton said. The midterm elections will also have an impact on market climate and volume, he said.
"As much as the election of Donald Trump came as a surprise, we have to consider the possibility of a 'Red Wave' and the potential for a muni market sell-off on concerns that further tax cuts could erode demand for municipal investment," Lipton wrote. "For the muni market, a divided Congress may not be the worst scenario."
"If history is any guide, we expect at least 75% to 80% approval of November bond referendums with this favorable outcome providing a good base for new-money issuance in 2019," Lipton wrote. "Dovetailing off of the bond referendums, we will be looking for genuine infrastructure legislation in 2019 should we end up with a divided Congress."
Flows and demand
Rising yields continue to impact flows and demand in the municipal market, Stephen Winterstein, managing director of research and head of municipal strategy at Wilmington Trust, wrote in a weekly municipal fixed income report.
“The tax-exempt municipal bond market has spent most of the year a bit underwater, as the somewhat systematic and well-behaved rise in yields has produced slightly negative returns in the broad market index,” he wrote. “In our opinion, investors seem to be tolerating this sidelong environment quite nicely.”
However, appetite as measured by mutual fund flows has turned negative, “undoubtedly due to disappointing performance,” according to Winterstein.
On Oct. 24, the Investment Company Institute reported $1.415 billion of municipal bond fund net outflows for the mid-week period ending Oct. 17, he noted.
“Prolonged market weakness could spark a non-virtuous cycle where fund share redemptions beget forced selling by mutual fund managers, which, in turn, moves bond valuations lower and returns negative, thereby perpetuating outflows,” he continued.
Winterstein speculated that the most recent two-week interlude of slightly positive performance may be enough to curb net outflows temporarily.
“Despite net withdrawals over the past four reports, investors have reallocated a net total of $13.177 billion into municipal bond funds thus far in 2018,” he wrote.
Meanwhile, Winterstein believes there is a reasonably strong — albeit lagging — relationship between market performance and retail investors’ willingness to add or withdraw capital in light of changes in net asset values of open-end municipal bond funds.
He referred to the immediate supply-demand equilibrium as “delicate,” adding that a “seemingly inconsequential” event could spark a directional market move.
He cited Wilmington Trust’s chief economist Luke Tilley’s prediction that the curve may continue to flatten throughout this sequence, and the 10-year U.S.Treasury could crest at 3.50% to 3.750% over the next twelve to eighteen months.
“If a future upswing is in the neighborhood of his outlook and the 10-year UST reaches a 3.75% yield over the next 18 months, then it would give the impression most of the pain may be behind us — at least for this market cycle,” Winterstein wrote. “Nevertheless, we remain true to our duration-neutral discipline and are learning to live with the near-term annoyance of rising yields."
Data appearing in this article from Municipal Bond Information Services, including the MBIS municipal bond index, is available on The Bond Buyer Data Workstation. Click here for a brief tour of the Workstation, or contact Ziad Saba at 212-803-6079 for more information.
