Volatility and liquidity concerns are here for the foreseeable future. As inflation has turned from “transitory” to “persistent” and the consequences of Russia’s invasion of Ukraine continue, we can expect volatility and illiquidity to be relevant subjects for the municipal market.
As we have seen in the new-issue space and secondary trading activity, rates are on the rise. With the Fed’s first rate hike in the rear-view mirror and the Fed indicating six more hikes in 2022, we can look to the futures market to gauge sentiment regarding what the market sees in the coming months.
The combination of inflation (further exacerbated by the impact of global events) and higher interest rates create headwinds for fixed-income products. Moreover, higher interest rates are also expressed in higher financing costs for dealer inventories. Thus, if inventory hedges aren’t adequate, then forced sales can and will take place. Consequently, volatility ensues, and price dislocation follows.
Adding to these building blocks of volatility are outflows from major bond funds that we have seen since mid-January. Redemptions from mutual funds have been a primary driver of market technical weakness (more redemptions lead to more bids wanted for large blocks) with eight weeks of outflows as firms are trying to find liquidity. History teaches us that illiquidity in “eventful” times is very probable.
Another driving factor is new-issue supply (while not as robust as in recent years, it is nevertheless reasonably healthy), combined with a heavy secondary market, which can exacerbate price dislocation when there is continued selling of institutional-size blocks as new issues come to market. As we know, in volatile times, new issues are priced to “clear the market,” thereby repricing the secondary market as will the aforementioned outflows leading to more bonds for the bid which collectively impacts new-issue pricing.
With volatility and illiquidity realities for the foreseeable future, insights into new-issue and secondary pricing are critical. Some relevant questions to consider:
- How do similar deals look at the time of my proposed issuance? Is there established depth of demand for my paper?
- How does secondary volume and the forward calendar in my segment look relative to other points in time? Is there currently a relative lack of this kind of paper coming that could further support my pricing?
- How are these bonds (segment, state, obligor) trading and will the trends help my offering? Does the market want/need this much of this kind of paper?
- How are the redemptions for my issuer looking? Am I net adding/cutting their outstanding?
Having complete knowledge of all comparable new issues, the structures appealing to the market, where those deals have priced and where those comps are trading in the secondary are critically important. Moreover, having complete transparency into real-time secondary activity for an obligor or sector with like issues can be inherently important when pricing a deal.
Lumesis’ New Issue Pricing and Scales platform provides this level of information and depth to meet these needs. The tool looks at new-issue and secondary data real time and allows for market participants to refine key parameters as well as to easily assess recent issues side by side with all relevant transaction details. The Muni Ticker provides users complete configurability to track any and all secondary activity — by issuer, market segment and more — to stay fully informed as you are pricing a deal or as you are actively bidding in the secondary market.
Regardless of market conditions, opportunities exist but they have to be discovered and this is where new-issue and secondary market pricing tools and technology come into play. Efficiently being able to access, parse and analyze market data and having full transparency into all comparable issues and trades can be the difference maker to identify those opportunities.
