The tax-exempt market continued to firm Wednesday morning as the lack of supply forced prices higher.

Traders noted that while supply is expected to increase in September and October, it may not be enough to overcome demand and cheapen the market.

"It's going to be a tough one heading into election time, potential QE III, and ECB action," a New York trader said. "I can't imagine we'll see a backup again until we erase the net negative supply number. The many layers of potential headline risk are too great right now to see consistent weakness set in."

The trader added that because there is negative net supply, the search for yield continues. "It's the same old story and more hunt for yield," he said, adding a Pennsylvania Higher Education deal for the University of Sciences, rated A3 by Moody's Investors Service and A-minus by Fitch Ratings, came in 13 times oversubscribed on the 2039 maturity and 10 times oversubscribed on the 2042 maturity. "We are talking a 10- to 15-basis-point bump."
In the primary market Wednesday, Wells Fargo Securities is expected to price $79.6 million of Florida Municipal Power Agency Stanton II project revenue bonds, rated A1 by Moody's Investors Service and A-plus by Fitch Ratings.

Bank of America Merrill Lynch is expected to sell $60 million of Florida Municipal Power Agency St. Lucie project revenue bonds.

On the competitive calendar, South Carolina Association of Government Organizations is expected to auction $109.2 million of short-term taxable and tax-exempts in two series, as well as a series of long-term bonds. The credit is rated Aa1 by Moody's.

The first series consists of $8.45 million of taxable debt, the second series is $88.67 million of tax-exempt bonds, and the third series consists of $12.06 million of tax-exempt debt.

On Tuesday, the 10-year Municipal Market Data yield fell one basis point to 1.75%. The 30-year finished steady at 2.90% while the two-year closed at 0.29% for the 24th consecutive session.

Since the most recent muni rally began on Aug. 21, the 10-year yield has plummeted 15 basis points while the 30-year yield has plunged 12 basis points, pushing yields down to levels not seen since early August.

The 10-year MMD yield is now trading 15 basis points above its record low of 1.60% set July 26 and the 30-year yield is hovering 11 basis points above the 2.79% record low set July 25.

Treasuries were weaker after firming Monday and Tuesday. The benchmark 10-year yield increased two basis points to 1.66% while the 30-year yield jumped three basis points to 2.78%. The two-year was steady at 0.28%.

In economic news, real gross domestic product increased at an annual rate of 1.7% in the second quarter. The increase is better than the 1.5% growth originally reported in the advance estimate last month, and came in at economist expectations.

"The economy was sluggish in the second quarter and the slight upward revision to GDP does nothing to change that picture," wrote economists at RDQ Economics. "Slow nominal GDP growth will be used by some as an argument in favor of expanding the Fed's balance sheet at the September FOMC meeting."

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