Muni market looks to a growing primary calendar with caution after Cal pricing
Municipal bond market participants are hoping some of the positive signs from last week will lead to an awakening of the primary market, which will help guide the secondary market and AAA benchmarks.
Triple-A benchmarks were largely unchanged Monday. Fund flows turning positive and a mostly successful billion-dollar sale from California are two clear positive takeaways.
“What started off as a pullback in flows a week ago has become an inflection point for the market to decide what direction it wants to take,” said Kim Olsan, senior vice president at FHN Financial. “Generic yields are much closer to resistance levels than support, and while the stressed cycle isn’t likely to return, there appears to be some concession the market is trying to force.”
She added that in the meantime, trade flows suggest a more cautious tone taking hold as one- to three-year maturities captured 20% of volume on Friday, up from 15% in mid-March and 18% a week ago.
“Secondary flows have seen constructive progress being made from when quarantines went into effect and business ground to a halt, assisting the re-engagement of new issue,” she said. “California’s state GO sale should benefit similar issuers with confidence in distribution (at the right level). However, a stratified credit differentiation can be expected to linger for the foreseeable future until revenue streams in sales-tax and other project-backed bonds are more fully restored. “
She noted that deciphering credit profiles and coming to reasonable conclusions isn’t just a ratings-at-face value process — specific sources of revenue and regional impacts to business activity need to be considered as part of the investment process.
The growing new-issue calendar has and should continue to get a warm response from the market — even as high-yield continues to suffer, sources said.
“The deals which have come in the past couple of weeks have gotten great response and been multiple times subscribed for — and that’s been with a dearth of issuance,” John Mousseau, president of Cumberland Advisors, said on April 17 of the overall plain-vanilla, investment grade market.
The $1.4 billion California general obligation sale last week was a true example of the strong demand, a Florida trader said.
“Cal slipped into the market pretty quickly and it was priced attractive to leave room for upsizing,” he said on Monday.
The secondary market, meanwhile, is starting to show some softness versus the primary market, he noted.
“The primary market is getting all the attention — and traders are getting restless and not moving their positions,” he said.
“The amount of the [new-issue] calendar and the shadow calendar is keeping them preoccupied,” the trader added of the deals coming off the day-to-day calendar and getting priced.
If the market feels stable enough and can accept more paper, investors may see more than the planned $4 billion this week, according to the trader.
But, he noted, the current supply is appropriate for the amount of demand in the pandemic climate.
“I think if some of the day-to-day calendar gets a signal that this week’s calendar is doing well and can accept more, underwriters will put deals in bits and pieces,” the Florida trader added.
The high-yield market, however, is still inflicted with pandemic pains, sources said.
“Certainly the Fed and the Treasury have had the back of the muni market, but not high-yield, of course,” Mousseau of Cumberland said.
For example, he said the iShares National Municipal Bond ETF was down 14% at the height of the pandemic with roughly a 5% discount from net asset value.
“That is now almost 80% of the way back and there is a slight premium to NAV,” Mousseau explained.
Meanwhile, a high-yield muni ETF, like VanEck Vectors High-Yield Municipal Index, was down about 35% with a 15% discount from NAV, Mousseau said.
“It is about half-way back, but still has a 5% discount from NAV,” he added. “That tells you high-yield is still banged up.”
The Florida trader noted that there needs to be more price stabilization and subsequent volume in the high-yield market for investors to make more informed decisions and see more activity in that sector.
He noted, however, that inflows have been inching up lately.
“There doesn’t seem to be any urgency to sell that paper yet and tax-loss swaps are starting to slow up on investment-grade, and that has taken pressure off high-yield,” he said.
Senior living facilities and corporate-backed airlines are two high-yield sectors that continue to see pressure via spread widening, whereas other credits haven’t been visible in the market lately, according to the Florida trader.
“The customers are looking for price transparency,” he said. “If we get some [high-yield] deals this week to price, we will see more willingness to sell more or buy more.”
“No one has a strong idea where clearing spreads are for these credits, so if they start to come to market and clear, that will give investors an idea of what they want to do with their portfolios,” he said.
For instance, the deals may price stronger or into a better market than they expected and they might want to buy, the trader said.
Meanwhile, analysts at Nuveen said there has been some recent recovery in the high-yield sector, but wider spreads are still part of the ongoing pains in the pandemic climate.
Current credit spreads stand at 365 basis points over triple-A municipal yields, which have stabilized amid improved fund flow trends and the expectation the Fed will soon begin purchasing municipal bonds, Bill Martin, chief investment officer and head of global fixed income, and John Miller, head of municipals, said in an April 20 report.
“The healing continues in the municipal market, both in high-grades and in some higher-yielding sectors hit hard by the selloff,” they wrote.
“Even with high-yield municipal liquidity improving, credit spreads have widened, mainly due to the continued dislocation of the municipal-to-Treasury yield ratio,” Martin and Miller pointed out.
Current credit spreads reflect not only increased fundamental credit risk but also technical issues, the analysts noted.
“Until markets and investors can accurately determine the value of tax-exempt yield, they will not be able to separate and accurately price in credit risk."
Raymond James is scheduled to price the County of Riverside, Calif.’s (A2/AA/ / ) $720.945 million of pension obligation refunding bonds on Tuesday.
Katy, Texas Independent School District has $177 million on tap for Tuesday in the competitive arena.
Secondary market data
Munis were slightly weaker on the MBIS benchmark scale Monday, with yields rising by less than a basis point in the 10-year maturity and by two basis points in the 30-year maturities. On the MBIS AAA scale, munis were stronger with yields decreasing by no more than one basis point in the 10-year maturity and by five basis points in the 30-year maturity.
On Refinitiv Municipal Market Data’s AAA benchmark scale, the yield on both the 10-year muni and 30-year were unchanged at 1.07% and 1.90%, respectively.
The MMD muni to taxable ratio was 171.7% on the 10-year and 154.6% on the 30-year.
On the ICE muni yield curve late in the day, the 10-year yield was up one basis point to 1.12% while the 30-year was also inched up to 1.91%.
The ICE muni to taxable ratio on the 10-year was 190% and the 30-year was 151%.
BVAL saw the 10-year was unchanged at 1.13% and the 30-year was also steady at 1.99%.
The IHS muni curve saw the 10-year rose to 1.16% and the 30-year increased to 1.91%.
Stocks were negative as Treasury yields were lower.
The Dow Jones Industrial Average fell 2.25%, the S&P 500 index decreased 1.62% and the Nasdaq was down 0.84%.
The three-month Treasury was yielding 0.092%, the Treasury two-year was yielding 0.210%, the five-year was yielding 0.352%, the 10-year was yielding 0.627% and the 30-year was yielding 1.232%.