New issuance of taxable bonds hit its highest level since June 2003 in April thanks to some of the market’s largest issuers selling billions of dollars of Build America Bonds created as part of the stimulus package in the American Recovery and Reinvestment Act of 2009.
A total of 66 taxable issues with a par value of $10.6 billion came to market in April, up 112.6% from the taxable volume that came to market in April last year, according to Thomson Reuters.
That marks the highest total for any month since June 2003, when Illinois issued $10 billion of pension obligation bonds, the largest municipal issue ever.
Overall new issuance fell 33.4% in April to $34.4 billion, largely because of a 77.5% drop in refundings. Last April, issuers rushed to refinance to get out of the collapsed auction-rate securities market.
Year-to-date issuance is off 12.6%, with 3,191 deals with a par value of $119.7 billion done in 2009.
Taxable Build America Bonds led the way in April, with the top three issues coming as taxable issues with at least a portion of BABs.
During the month, California issued $5.23 billion of the new debt, the New Jersey Turnpike Authority issued $1.375 billion, and New York’s Metropolitan Transportation Authority issued $750 million.
The BABs helped push tax-exempt yields by stoking fears of a reduction in tax-exempt supply on the longer end, which sustained a rally that took place through much of April. The yield on a 30-year, triple-A bond dropped to a monthly low of 4.35% on April 22 from 4.77% on April 1, although yields have crept upwards in recent days as some of those supply fears have subsided.
With taxable issuance making up nearly a third of April’s new-issue volume, tax-exempt volume fell 44.7% with 746 issues with a par value of $23.7 billion.
“April was potentially a transformational month,” said Richard Ciccarone, chief research officer and managing director at McDonnell Investment Management LLC.
“The fact is, not only did supply decline substantially during the month, which was responsible for prices going up, but prices went up even more so because one-third of that supply was taxable,” he said. “We expected a lot of that to occur, but it was every bit as bad if not exceeded our expectations for diminished [tax-exempt] supply.”
As market participants have digested the stimulus provisions, they are also beginning to make other financing decisions reflected in issuance totals, Ciccarone noted.
Bank-qualified issues are up 79.5% year-to-date at $9.56 billion, reflecting the increase of the smaller-issuer limit to $30 million from $10 million and changes to the de minimis rule under the stimulus package. The average size of bank-qualified issues has increased to $5.24 million in 2009 from $3.65 billion in 2008.
Beyond the BAB provisions, the stimulus money for infrastructure may also be reducing supply. Issuance by cities and towns was down 56.3% in April, districts were down 21.5%, and local authorities were down 67.2%.
“The stimulus money for infrastructure may be used in lieu of some traditional bonding programs,” Ciccarone said.
Like most investment banks, Wells Fargo & Co. is working with its clients to determine how and where it makes sense to take advantage of the stimulus package, according to Phil Smith, the bank’s head of government and institutional banking and municipal products.
On the bank-qualified side, Wells Fargo has a mandate to grow its balance sheet by lending to government and institutional clients, Smith said. It’s interested in both being the investor in deals and selling them to the market, depending on a client’s preferences.
Wells Fargo is also working with clients to determine when issuing Build America Bonds make sense. It has already led two deals that included BABs — $35 million of taxable GO for the University of Minnesota and $3.65 million of taxable GO promissory notes for Stevens Point, Wis., in a deal that was not publicly offered.
“Every client wants to talk about it,” Smith said. “They’re going to their bond counsel with their own interpretation of what they can and can’t do. And every investment bank out there is presenting ideas to try to not only solve immediate problems in their budget but also plans that were delayed because of the third-quarter disruption and the fourth-quarter impairment of the market.”
The taxable BABs have “tapped a different buyer base,” according to Ken Anderson, senior vice president and direct of research at Evergreen Investments.
Property and casualty insurers are looking at them as safe securities with enough yield to meet annuity contracts, while state and local government pension funds that may have been hurt by real estate or other alternative investments are also interested.
Many of the big BABs jumped in the secondary market almost immediately after being issued. The MTA bonds, the New Jersey Turnpike bonds, and University of Virginia bonds traded up as many as 40 basis points within a day, according to data from a presentation made by Public Resources Advisory Group’s Janet Lee at a Municipal Analysts Group of New York luncheon last week.
However, BABs may not make sense for all issuers, Smith said. Nontraditional muni investors feel more comfortable determining the relative value of large state credits, such as California, and highly rated issuers, such as the University of Virginia. A lower-rated credit may be a tough sell to an investor not typically in the municipal space.
In addition, potential BAB investors prefer corporate-like large sizes and structures, such as bullet maturities and make-whole call provisions. Some issuers also may not be eligible for BAB issuance.
With these factors in play, tax-exempt issuance will not be completely supplanted by taxable issuance, Smith said.
“The market is showing signs of recovery with this big BABs issuance, and I think as we go into the second half of the year we’re going to see decent flows in the tax-exempt sector just like we do in the taxable sector,” he said.
“There’s too many problems out there that need to be solved and issuers have to access the market both on a tax-exempt and a taxable basis.”
