The tax-exempt market ended slightly stronger Monday for the second consecutive trading session as limited supply and firmer Treasuries pushed the market higher.
Municipal bonds were active and traded higher in the morning session, but slowed by early afternoon.
“It’s Monday so there isn’t anything to trade off of,” a Chicago trader said. “So everything is flat. It’s a typical Monday with no supply.”
He added, with a limited amount of supply, there is no selling pressure. “The market is very thin. There are no bonds around.”
While this week’s supply is still relatively small compared to what the market saw in the weeks at the end of 2012, there are a few large deals expected to come to market in the next few weeks. “There are a few larger deals in the works that are under the radar,” this trader said “And if I know of about one or two deals, there are probably 10.”
While the market ended mostly steady, it was stronger out of the chute in the morning trading session, following Treasuries.
“I would say it’s one or two basis points stronger,” a New York trader said. “It’s partially just following the rally in Treasuries. And supply this week is light so people feel like it’s affordable to hold onto bonds.”
He added 10-year bonds are one to two basis points better.
One market participant said supply this week is still manageable, although it is greater than last week’s supply. “This week will have more new issue paper [but] it is still manageable,” wrote Dan Toboja, vice president at Ziegler Capital Markets. “Even though ratios this morning are all inside or near 90%, the large inflows, the limited supply, and the morning rally in Treasuries all suggest we’re not likely to see a cheapening today.”
Supply this week is expected to come in around $5.63 billion, up from last week’s revised $3.05 billion. On the negotiated calendar, $4.77 billion is expected to be priced, up from last week’s revised $1.68 billion. On the competitive side, $852 million is expected to be auctioned, up from last week’s revised $1.36 billion.
In the primary market, Citi priced for retail $194 million of San Francisco Public Utilities Commission wastewater revenue refunding bonds, rated Aa3 by Moody’s Investors Service and AA-minus by Standard & Poor’s. Pricing details were not available by press time.
In the secondary market, trades compiled by data provider Markit showed firming.
Yields on Butler County, Ohio, Hospital Facilities 5.5s of 2040 dropped seven basis points to 3.87% while Golden State Tobacco Securitization Corp. 5.125s of 2047 fell five basis points to 6.10%.
Yields on Bexar County, Texas, 5s of 2039 dropped three basis points to 3.62% while Lower Colorado, Texas, River Authority 5s of 2030 fell one basis point to 2.94%.
On Monday the Municipal Market Data scale ended higher for the second trading session. The 10-year yield fell one basis point to 1.69% while the 30-year yield dropped three basis points to 2.74%. The two-year closed steady at 0.34% for the fourth trading session.
The 10-year yield still remains 22 basis points above its record low of 1.47% set Nov. 28. The 30-year yield trades 27 basis points above its record low of 2.47% set Nov. 28.
Treasuries pared most of the morning gains by the end of the trading session. The benchmark 10-year yield closed down one basis point to 1.86%. The two-year and 30-year yields finished flat at 0.26% and 3.05%.
So far this year, muni-to-Treasury ratios have fallen as munis outperformed their taxable counterparts and became relatively more expensive. The five-year muni yield to Treasury yield ratio plummeted to 97.4% from 110.5% on Jan. 2. The 10-year ratio also dropped to 90.9% on Monday from 96.7% on the first trading session of the year.
Similarly, the 30-year ratio fell to 90.1% from 93.8% at the beginning of the year.
And most market participants say munis now look rich compared to Treasuries. High-grade municipal yields fell 11 basis points last week, according to Peter DeGroot, municipal bond strategist at JPMorgan. Treasury yields fell only four basis points.
Year-to-date, municipal yields dropped three basis points while Treasury yields jumped 11 basis points, DeGroot added.
Looking several months out, munis could underperform Treasuries as Treasury yields fall further, and faster, than municipal yields.
“We expect Treasury yields will trend lower as we move closer to the mid-March deadline on the debt ceiling, remaining sequestration, and funding for the Federal Government through the continuing resolution,” he noted. “Over this period, municipal yields are expected to follow Treasuries lower, albeit at a slower pace, particularly to the deadline.”
Taking a shorter look to just this week, he notes munis could continue to outperform due to limited supply. “Municipals should perform well [this] week given the light calendar and sizable fund inflows, despite entering the week at richer valuations to Treasuries,” he said.
Despite a late December selloff, munis have rallied so far this year and the slope of the yield curve has flattened as investors continue to buy on the long end. The one- to 10-year slope of the curve flattened to 149 basis points on Monday from 156 basis points at the beginning of the year. The slope is still steeper than the three-month average of 145 basis points.
The one- to 30-year slope of the curve flattened to 254 basis points from 264 basis points on Jan. 2. The slope was only a few basis points steeper than its three-month average of 251 basis points.
Limited supply has also forced municipal bond buyers to move down the credit scale as credits spreads have compressed so far this year.
The five-year triple-A to single-A spread compressed to 52 basis points on Monday from 54 basis points at the beginning of the year. The 10-year spread has also compressed by two basis points to 70 basis points on Monday. The 30-year spread compressed only slightly to 66 basis points from 67 basis points at the beginning of the year.