After several days of dramatic rallies last week, the pace of the municipal market slowed yesterday. Traders said tax-exempts were unchanged to slightly firmer.
"We were firmer in the morning, right when we first got here, but that firmness has gone away a bit as the Treasury market has turned around," a trader in Los Angeles said. "We're probably still a bit better, though it's probably closer to one basis point, and it's unchanged in some spots."
The Treasury market, however, showed some losses yesterday. The yield on the benchmark 10-year Treasury note, which opened at 3.68%, was quoted near the end of the session at 3.73%. The yield on the two-year note was quoted near the end of the session at 1.59% after opening at 1.51%. And the yield on the 30-year bond, which opened at 4.07%, was quoted near the end of the session at 4.11%.
Investors will see an estimated slate of $4.47 billion of total new-issue supply in the primary market this week - more than double the revised figures from last week - as municipal volume continues to show signs of recovery from the month-long dry spell inflicted by the nation's financial and economic turmoil.
Last week the market welcomed $1.96 billion, according to Thomson Reuters, and the muni market rallied for the first time in over a month. Demand surged amid attractive long-term interest rates that peaked into the high 5% and low 6% range on high-quality new issues.
Buyers returned to the muni market in droves last Tuesday, pushing yields lower by at least five basis points, and as much as 10 in spots. However, that was just a harbinger of what was to come Wednesday, when municipals experienced a staggering rally that saw The Bond Buyer's 40-bond index post the largest gains since it began in 1984. Traders said tax-exempt yields plunged 15 to 20 basis points on average, with munis firming as much as 25 basis points on the long end, as demand for munis was enormous.
According to Municipal Market Data, the 30-year triple-A general obligation bond yield curve scale was 5.90% last Monday. As of Friday's close, the scale had declined to 5.17%, a staggering 73 basis point drop. Yesterday, the scale remained unchanged at 5.17%.
In a weekly report, George Friedlander, managing director and fixed-income strategist at Citi, wrote that he was "shocked by the magnitude of the rally."
"Certainly direct retail investors were adding to positions, with record average daily buying volume seen. It appears that retail investors quickly began to recognize that these patterns were the result of a supply/demand imbalance, not a credit event," Friedlander wrote. "And with the stock market in disarray and Treasury and CD yields falling, individuals found it easy and attractive to focus on the values in the muni market.
"However, it is clear that retail demand doesn't explain the scope of this rally, which was to a large extent also an institutional phenomenon," he wrote. "The open question was whether, with most capital markets essentially frozen, there would be a way for crossover buyers to jump in and take advantage of these yield distortions. It turns out there was, to a greater degree than most market observers and participants expected, given the 'locked' conditions in many taxable fixed-income markets."
Friedlander also wrote that "despite the sharp, rapid decline in yields, and the modest rebound on Friday, we believe that yields on better quality will continue to decline over time."
Among reasons he gives for this position are that "high-grade muni yields remain distended relative to taxable benchmarks," "a key source of selling pressure, hedge funds, are pretty much finished unwinding their older, unprofitable positions," and that "we expect bond fund outflows to dwindle, or even turn into inflows, now that the sharp spike in yields has ended."
Additionally, Friedlander wrote: "High-quality munis are likely to be a key investment alternative for a wide range of investors during this difficult and challenging period in most other capital markets. Thus, we expect demand to rebound."
This week, a handful of sizable deals from Pennsylvania, Michigan, and New Jersey will also help boost negotiated volume to an estimated $3.73 billion versus a revised $1.69 billion last week, according to Thomson. Negotiated volume is showing more pronounced growth than the competitive market, which is expected to rise to $743.7 million, up from $266.8 million last week.
The activity will kick off in Texas with a $423 million sale of public improvement refunding bonds to be sold by Houston. Goldman, Sachs & Co. said it will price the issue today. The bonds, which carry ratings of Aa3 from Moody's Investors Service and AA from Standard & Poor's, are structured to mature serially from 2010 to 2038. The deal is expected to include fixed-rate tax-exempt and taxable bonds, as well as revenue certificates of obligation.
In the new-issue market yesterday, Morgan Stanley priced for retail and institutional investors $350 million of GO tax anticipation notes for Rhode Island. The notes mature in June 2009, yielding 2.20% with a 3.5% coupon. The Tans are rated SP-1-plus by Standard & Poor's and F1-plus by Fitch Ratings.
In economic data released yesterday, new home sales came in at 464,000 in September, after a revised 452,000 the previous month. Economists polled by Thomson had predicted 450,000 new home sales.
