Municipal bond yields climbed Wednesday as the Federal Reserve said it would continue tapering its quantitative easing policy.
The Fed will reduce its monthly asset purchases by $10 billion in February, the Federal Open Market Committee said in a statement released Wednesday after the committee's two-day meeting. The group previously said a cut from $85 billion a month to $75 billion would be put in place.
Traders agreed that the Fed's announcement, while giving credence to the market consensus that interest rates will rise in the coming year, may not have an immediate impact on municipal bond prices.
"All the panic and everything leading up to these taper announcements caused 10 times more reaction," a trader in New Jersey said in an interview. "It's kind of like the boy who cried wolf. It's been years already and interest rates haven't gone up. I don't think the market is going to change until we actually see an increase."
Yields on municipal bonds rose across the curve Wednesday afternoon as supply remained limited.
"When the taper started, yields actually went down, which was the opposite of what people thought," the trader said. "Everything that's happened, with the market shaking up, was largely unjust in many ways. It was about the perception of rates changing, not actual hikes."
Market observers have attributed January's rally to a lack of new-issue bonds, which has pressured buyers to compete over a limited number of bonds. The market has stalled this week, with yields jumping again Wednesday by as much as three basis points in some areas on the curve, according to Municipal Market Data.
"We're feeling some softness and weakness in the market right now and there's not a lot of issuance," a New York-based trader said in an interview. "January has been good and there has been some cash but right now and we're kind of in a wait and see."
Volume this week could reach $4.89 billion, according to Bond Buyer and Ipreo data. Total bond sales last week came to $4.57 billion, according to Thomson Reuters.
In the negotiated market, Goldman, Sachs & Co. priced $378.7 million of Illinois State Toll Highway Authority bonds for institutions.
Yields on the bonds ranged from 1.73% with a 5% coupon maturing in 2019, to 2.77% with a 5% coupon in 2022. The refunding bonds, rated Aa3 by Moody's and AA-minus by Standard & Poor's and Fitch, were not offered with an optional call feature.
"The evident strong demand for shorter maturities may be symptomatic of duration lowering strategies," Janney Capital Market said about the deal. "Illinois plans to price $1 billion next week," Janney said. "After several years of legislative wrangling, Illinois enacted significant pension reforms in December, which are expected to reduce the state's $100 billion in unfunded pension liabilities by about 25%, but court tests are ahead with a coalition of public sector unions filing a lawsuit yesterday seeking to overturn the reforms on constitutional arguments."
"Market reception of the upcoming issue will be closely watched, but based on MMD data, 10-year spreads (Illinois vs AAA yields) have contracted from 173 basis points just before the reforms to 128 basis points in recent days," the report added.
Yields on municipal bonds maturing from 2022 to 2026 gained as much as three basis points Wednesday, according to MMD. Bonds maturing sooner than 2018 were steady, while most other areas along the curve gained one to two basis points in yield.
Yields on the Municipal Market Advisors scale Wednesday gained as much as two basis points on bonds maturing from 2022 to 2024.
Treasuries were mostly firmer Wednesday, with the 10-year yield down seven basis points to 2.68%. The 30-year yield declined four basis points to 3.63%, while the two-year rose one basis point at 0.37%.
Puerto Rico general obligations have outperformed AAA-rated GOs as municipal bonds have rallied this month.
Yield on 10-year Puerto Rico bonds has fallen 69 basis points since the beginning of the year, compared with a 30 basis point-drop on AAA bonds with the same maturity. Puerto Rico bonds maturing in 30 years have fallen 47 basis points, compared with 37 basis points on AAA bonds.
"It seems like it's firmed up a bit more," a trader in New York said in an interview. "I get interested in Puerto Rico when there's bad news. I wait until people start running and then I start buying."
The trader isn't alone - after softening 100 basis points in December, the commonwealth's bonds are now rallying more than other BBB-rated GOs, which have slid 37 basis points on the 10-year and 43 basis points on the 30-year, according to Municipal Market Data.
"It's trading like garbage right now anyway," the trader said.
Puerto Rico debt has a tendency to get oversold at the end of the year, and may be recovering from that, one Chicago-based analyst said. In December 2012, 10-year Puerto Rico bonds gained almost 50 basis points, and vacillated in January before ending 10 basis points higher. Bonds with 30-year maturities rallied that month.
"It tends to get a little oversold at year end due to fund window-dressing and tax loss harvesting," the analyst said. "The tax loss sellers usually need to buy it back in January."
Secondary market trading showed mostly weakening, according to data provider Markit.
New York Metropolitan transportation revenue bonds with a 5% coupon maturing in 2022 gained three basis points in yield to 3.04%, and University of California general revenue bonds with a 5% coupon maturing in 2048 ticked up one basis point to 2.73%.
Oregon general obligation state property bonds with a 5% coupon maturing in 2036 fell three basis points to 3.63%, while Port Authority of New York and New Jersey taxable GOs with a 5.31% coupon maturing in 2046 lost two basis points to 5.07%.
One odd-lot trader also said he saw demand for Atlantic City bonds from a December issue, A-rated general obligation 5s of 2025 with 4.27% yield priced at 4.16% to the call in 2023.
"That's some of the more attractive New Jersey paper I've seen," the trader said. "The New York Thruway Authority bonds have been trading well, too."
