Driven by cheap prices Monday and Tuesday, municipal bond yields ended lower for the week after borrowers flooded the primary to take advantage of demand and buyers spurred secondary trading.
Following a three-day selloff that lasted through Monday, the market steadied Tuesday and rallied Wednesday and Thursday. Analysts attributed the dip to the Detroit’s debt restructuring plans, concern that the Federal Reserve will start to taper its bond buying program later this year and a spate of new issuance.
“To have a credit event like Detroit, aligned with the outflows, the rise in interest rates, and a supply uptick, you have conditions that make for a nasty storm,” said Richard Ciccarone, chief research officer at McDonnell Investment Management. “We are getting through it and seeing the calm after the storm.”
For the week through Thursday, the 10-year Municipal Market Data yield fell seven basis points to 2.56% and the 30-year yield dropped 13 basis points to 3.83%. The two-year yield rose seven basis points for the week through Thursday to 0.50%.
Similarly, the 10-year Municipal Market Advisors yield fell four basis points for the week through Thursday to 2.74% and the 30-year yield dropped 12 basis points to 3.96%. The two-year yield increased three basis points for the week to 0.53%.
“This week really reinforces the dynamic that when rates go up on a consistent basis you see outflows follow,” Ciccarone said. “We saw three straight weeks of strong outflows and that narrows the traditional demand base for long end of market with funds being the natural buyer in that marketplace.” This week, Lipper reported a record $4.53 billion in outflows from municipal bond funds that report weekly.
With outflows and significant selling pressure, spreads on longer maturities, and lower-rated credits in the triple-B space, suffered the most this week and spreads widened dramatically. Those same credits now look the most attractive when buyers come back into the market and have the potential to rebound just as quickly as they sold off.
Demand was driven primarily by sales in the primary market. Nearly all issuers that came to market Wednesday were able to lower yields in repricing.
One of the largest — and most successful of the week — was $1.3 billion Illinois general obligation bonds, priced by Wells Fargo. The bonds are rated A3 by Moody’s Investors Service and A-minus by Standard & Poor’s and Fitch Ratings.
Traders said the deal was six-and-a-half times oversubscribed. In repricing, yields were tightened as much as 14 basis points after yields had already been lowered 10 basis points on bonds maturing after 2019 from pre-marketing levels. The state received more than $9 billion in bids from 145 investors on the bonds which captured a true interest cost of 5.042%, according to statement issued by Illinois Gov. Pat Quinn’s administration.
Ciccarone said Illinois paid a price coming to market. “The low A-rated credit traded at number that looked like a triple-B-minus credit. The preliminary pricing was off as much as 200 basis points from the triple-A MMD scale. They ended up with 182 basis points off which is an extremely attractive situation and got a lot of non-traditional investors on the long end.”
Secondary trading activity also helped to push the market higher. Interactive Data reported an increase in the frequency of trading, trading volume, and increase in selling.
On Monday, there were 55,898 trades with a par value of $9.234 billion. Activity increased as the week progressed. By Tuesday, there were 65,757 trades of $11.668 billion. Wednesday, 61,267 trades occurred with a par value of $11.547 billion. Activity continued to climb Thursday with a par value of $15.134 billion traded in 60,199 transactions. Tuesday, Wednesday, and Thursday were the highest volume days since April 1.
The ratio of buy trades to sell trades rose as the week progressed. The buy-to-sell trade ratio was 1.1 on Monday, 1.2 on Tuesday, 1.6 on Wednesday, and 2.5 on Thursday – the highest since May 1.