JeffCo Filing Shouldn’t Prompt Copy Cats

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NEW YORK - Even with the market closed for Veterans Day, the Jefferson County, Ala., bankruptcy filing still weighed on the minds of muni market participants as they examined its effects on the broader market.

A vast majority of muni analysts agreed the bankruptcy filing would have little to no impact, and would certainly not start a domino effect.

“The causes of this bankruptcy are specific to Jefferson County and are not symptomatic of a wider trend of defaults for municipal governments,” Howard Cure, director of municipal research at Evercore Wealth Management, wrote in a note. “On the whole, the vast majority of entities with relatively stable economies have the political will to address their financial problems and avoid defaults and bankruptcies.”

The filing should not be a surprise, either. “The municipal market has been expecting this for some time,” wrote John Mousseau, head of tax-free municipals at Cumberland Advisors. “For the past three years this situation has been deteriorating.”

He added there should be “little market impact on trading in Jefferson County bonds. Participants most affected are the letter-of-credit banks that hold the failed remarketed debt and bond insurers, not bondholders.”

Most agree the filing demonstrates a one-off situation and will not cause a ripple effect through the market.

“Municipal bankruptcies are running at about 30% of last year’s totals,” Mousseau wrote. “Problems such as Harrisburg, Pa., and Central Falls, R.I., have been known for a while; they represent specific mismanagement. Furthermore, the improvement in municipal credit this year has been very good.”

The closed market on Friday also offered an opportunity for traders to examine where the muni market has been the past month and what they expect in the coming weeks.

Munis have performed remarkably well year-to-date with the Barclays Capital Municipal Bond Index up almost 8.5%. “That is pretty robust give where we were the end of last year and the first part of January,” said Jim Colby, senior municipal strategist for Van Eck Global.

Part of the reason munis have done so well is that they have followed Treasuries to some degree over the past two or three months. “The frequent flight to quality occurring in Treasuries has somewhat been mirrored with the muni market to the extent that year-to-date returns have been positive,” Colby added.

Others agree. John Hallacy, municipal research strategist at Bank of America Merrill Lynch, noted in a report that munis outperformed other fixed-income asset classes both for pretax and after tax returns. “Revenue bonds, especially airport, industrial development revenue, and health care, outperformed general obligations on a year-to-date basis,” he wrote.

The after-tax total rates of return for the three sectors are over 8%, according to the firm’s global research. The secondary market also shows a glimpse of positive news for the municipal market.

Chris Shayne, senior market strategist at BondDesk Group, analyzed trades in the retail secondary for October and said the number of “buy” trades increased, while the number of “sell” trades decreased, a rare circumstance in the muni market when if “buy” trades increase, “sell” trades remain the same.

“October was interesting because Harrisburg declared bankruptcy,” Shayne said. “This is consistent with the pattern we saw with Jefferson County and earlier this summer with Central Falls. The market seems to get a sufficient amount of notice and so when the bad news becomes official, no one is surprised.”

The average number of investor “buys” was 14,767 trades per day, over 1,000 trades per day greater than in both August and September. And selling activity dropped. The average number of investor “sells” was 5,258 trades per day — the lowest total number of sell trades in the past two years. The buy-to-sell ratio increased to 2.8%, up from September’s 2.4%. Trading volume increased in October. Muni yields ended flat, but trading volume increased — which is unusual as trading volume generally increases when yields rise.

Looking forward, the municipal market is expecting its largest week of issuance this year, with $11.81 billion coming to market beginning Monday.

“We are a very attractive asset class and if you’re an investment advisor and here you are a month away from the end of the calendar year and you’re trying to advise your clients on what to do, you have to consider munis,” Colby said.

He added that the markets should expected continued volatility in the equity and Treasury markets due to uncertainties in Europe, and “munis would be a nice place to make a commitment in the near term knowing you’re having far less volatility.”

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