After tax bill, muni bond deals are 'like putting socks on a rooster'
The municipal bond market has had a rough start to 2018 and no one knows when things will get better, according to a panel of buy and sell side experts.
The industry professionals spoke about muni market conditions in a post-tax reform world at The Bond Buyer‘s Texas Public Finance Conference in Austin on Tuesday.
Right now, working in the primary market is equivalent to putting socks on a rooster, according to Devin Phillips, executive director at UBS.
“It is a struggle right now,” he said during the panel discussion. “Some deals that are coming in are way over subscribed and then some others are having a tough time getting done. My advice as we go through this discovery period would be to price the deal where you think you can sell it. Don’t try to be cute and don’t try to outsmart the market, just get it done.”
President Trump’s infrastructure plan may not help, said Tom Weyl, director of municipal research at Wasmer Schroeder.
“We are at the low end of volume forecast, mainly because we don’t see the infrastructure bill adding anything in terms of volume, at least not this year,” he said.
Stephen Winterstein, managing director of research at Wilmington Trust Investment Advisors, said that the loss of advance refundings is likely to lead to a restructuring in bond pricing.
“Although you have seen a few deals come in five-year calls, I think at about the 18- through 24-month range post-tax reform is when you will start to see shorter calls become the norm,” he said. “You are going to see couponing down. People are going to test things out, whether it is a three-year call or five-year call.”
He also said that duration is going to be tough to buy 10-years and out, if shorter calls do become normal.
Winterstein said munis need to adapt a corporate style of pricing.
“I think it will help the market, if it were to adapt more of a corporate type bond structure, with more bullet maturities and doing away with the serially maturing structure that we are so used to,” he said.
Pa. tobacco bonds "a nice Valentines gift"
The municipal bond market on Wednesday was taking stock of Pennsylvania’s successful sale of over $1.5 billion of tobacco bonds.
Jefferies priced the Commonwealth Financing Authority’s $1.52 billion of Series 2018 tobacco master settlement payment revenue bonds on Tuesday and was able to lower yields and raise amounts due to overwhelming investor demand.
A day after the tobacco sale, buyside participants said the deal answered many investors prayers - yet caused Pennsylvania to pay up to get the deal accomplished in a tough overall muni market and local state market with some credit issues.
“The offering provides compelling spreads to Pennsylvania GOs and presented a nice Valentines gift for those investors asking for a 4% handle,” said Jeffrey Lipton, managing director at Oppenheimer & Co.
The deal was completed despite investor concerns over rising rates and volatility that had kept them on the sidelines earlier this year.
“The Pennsylvania tobacco deal sold into a more investor-resistant market environment given the institutional concerns over tax reform as well as the general backdrop of market volatility,” Lipton said.
“Therefore, the natural inclination is to seek out appropriate compensation in the form of higher yields and so that was the price paid by Pennsylvania to market this rather large issue,” he explained.
“The well-telegraphed credit concerns of the state and the fact that this tobacco deal constitutes deficit-borrowing factored into the yield extraction,” Lipton continued. “The fairly unique structure of this financing would tend to draw in non-traditional buyers of tobacco securitization debt,” he said.
Bondholder security derives from continuing appropriation mechanisms for the Commonwealth's Article II revenues, comprised of sales tax and hotel occupancy tax receipts and a back-up General Fund appropriation, in addition to the pledged Master Settlement Agreement (MSA) revenue, Lipton said.
“The ratings on the tobacco bonds are therefore tied to the ratings assigned to the Commonwealth's General Obligation and Appropriation bonds and will likely move in tandem,” he said.
Some fund managers said the tobacco financing was a benchmark deal — one that could set new standards in a market thirsty for yield.
“It’s the highest yield on any recent major state bond issue,” David Tawil, president of Maglan Capital said on Wednesday afternoon.
Pennsylvania “is paying more than Illinois recently paid, despite being in better credit status. Therefore, over-subscription is not surprising,” he said.
Tawil said the deal raises the question of whether a “new” municipal market — one that is thriving for rising rates — has developed, or whether it’s an aberration.
“I bet that other municipalities and states are hoping that this deal does not set a new paradigm,” he said.
The tobacco deal is rated A1 by Moody’s Investors Service A by S&P Global Ratings and A-plus by Fitch Ratings except for the $427.54 million 2039 maturity which is insured by Assured Guaranty Municipal and rated AA by S&P.
Janney: Infrastructure plan prioritizes financing
President Trump’s newly released his infrastructure plan prioritizes financing over funding, according to a report released by Janney on Tuesday.
“The main tenets of the plan include generating at least $1.5 trillion over the next decade for infrastructure, investing in rural infrastructure projects, streamlining the regulatory review process, and expanding job-training opportunities,” wrote Erin Ortiz, managing director of municipal research at Janney. “The proposal offers $20 billion annually for 10 years, which will require significant investment from states and local governments, as well as cooperation from the private sector.”
Allocation of $200 billion is expected to spur the $1.5 trillion of infrastructure investment over the next decade. There are five main components of the plan: the incentives program; rural infrastructure grants; the transformative projects program; the infrastructure financing program; and a capital revolving fund.
The incentives program gives half of its $200 billion allocation to states and localities. Eligible projects include surface transportation and airports, passenger rail, ports and waterways, flood control, water supply, hydropower, water resources, drinking water facilities, wastewater facilities, storm water facilities, and Brownfield and Superfund sites.
The second largest allocation of $50 billion will go to rural infrastructure projects and will prioritize investment in freight movement, transportation options, and health and safety of residents and businesses. Projects can include transportation, broadband, water and waste, power and electric, and water resources.
The transformative projects would get $20 billion for “ambitious, exploratory, and ground-breaking” projects to benefit transportation, clean water, drinking water, energy, commercial space, and broadband.
The infrastructure financing program would receive $20 billion to increase the existing federal credit programs, including the Transportation Infrastructure Finance and Innovation Act; Railroad Rehabilitation and Improvement Financing; Water Infrastructure Finance and Innovation Act. It also recommends expanding the use of private activity bonds, which were on the chopping block during the tax reform negotiations just last year. The plan dedicates $6 billion to encourage increased private investment to benefit from tax-exempt bonds by broadening the categories and eliminating the volume cap.
The remaining $10 billion would go into a capital revolving fund, which would fund large real property purchases.
“Given the importance of infrastructure to the nation’s economic health and safety, and a consensus around the persistent underinvestment, there is broad, bipartisan support for an infrastructure bill,” Ortiz said. “As with prior administrations that proposed infrastructure bills, lack of consensus around how to fund the plan and its cost remain key obstacles.”
Previous session's activity
The Municipal Securities Rulemaking Board reported 44,556 trades on Tuesday on volume of $11.13 billion.
New York, California and Texas were the three states with the most trades, with the Empire State taking 13.057% of the market, the Golden State taking 12.639% and the Lone Star State taking 10.678%.
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 Vanessa Kim at 212-803-8474 for more information.