It says something about how thin demand for municipal bonds is right now that even a light batch of top-quality paper in the midst of a supply drought gives the Street a minor hiccup.
State and local governments came into the week slated to sell just $3.5 billion of debt, the bulk of it high grade.
For all the talk of scarcity, some triple-A deals were left with unsold balances and market sources say the supply put a little pressure on the long end of the curve.
“There’s been a lot of higher-grade issuance, so people are pushing the scales a little bit,” said a trader in Memphis.
The two biggish triple-A deals that priced on Wednesday — Maryland’s $485 million general obligation sale and the Georgia Road and Tollway Authority’s $354.9 refunding deal — were all it took to nudge the yield curve a bit steeper.
“It might be some sticker-shock, if you will, on the triple-A names,” said Michael Pietronico, chief executive officer of Miller Tabak Asset Management.
The average weekly yield to maturity of The Bond Buyer 40-bond municipal bond index, which is based on 40 long-term bond prices, rose six basis points this week to 5.67%. None of this showed up in the Municipal Market Data scale, which closed Thursday yet again unchanged with the exception of some strengthening among short maturities.
The 10-year triple-A yield has closed at 3% and the 30-year yield at 4.78% every day this week.
A commonly espoused hypothesis lately is that the only reason the long end hasn’t cheapened is that there isn’t enough activity. Without substantial supply forcing dealers to move bonds, they’re sitting on inventory rather than selling into a market with little depth.
“There’s a bit of a standoff,” Pietronico said. “There’s nobody coming in to buy large amounts of it, and the dealers don’t want to cut the price.”
The theory that the yields reported by MMD would be higher if only there were more trading has been validated by no less a source than MMD itself. Thomson Reuters analyst Domenic Vonella acknowledged he saw a couple of trades suggesting a drift-up in yields earlier in the day, but couldn’t justify moving a scale for the entire market based on two trades.
Vonella noted some balances that remain unsold, and said the bid side will have to develop more depth in order for the market to absorb any heavier-than-expected supply.
One trader in New Jersey adamantly agreed with the “standoff” hypothesis. The municipal market, particularly the long end, wants to cheapen, this trader said. The lack of trades communicating this cheapness does not mean it isn’t there.
“If there was any kind of supply in this market, we’d be getting hit,” the trader said. “If they had to test this market with any kind of size, the long end is going to get whacked. … You’ve got this great fear that you’re not going to be able to find buyers of long-term paper out there.”
Without the supply to force the issue, the trader said yields are “begrudgingly grinding higher.”
The Half-Full Glass
If the glass is half full, it’s for two reasons.
One is that the latest mini-hump of supply is now behind the market. A solitary $9.2 million deal is scheduled to price Friday, and next week’s calendar is even smaller than this week’s. The Bond Buyer 30-day visible supply, which measures the stock of municipal debt slated for sale over the next 30 days, is less than $7.3 billion. One source we spoke with said the talk now is any supply wave might not come until late April.
Two is that, for what it’s worth, triple-A rated municipalities are able to find buyers for their debt.
The same may or may not be said for lower-rated governments. The truth is we don’t know, because lower-rated issuers have been mostly absent from the market this year.
According to the Bloomberg LP municipal database, which appears to exclude this year’s $3.7 billion taxable deal from Illinois, more than 88% of municipal bond issuance so far this year has been from governments rated Aa or better by Moody’s Investors Service. The 12% share of sub-double-A issuance compares with a nearly 30% share last year.
Pietronico believes fatter credit spreads are discouraging bond sales by lower-rated issuers. A Baa-rated municipality pays on average 170 basis points more than a triple-A rated issuer for 20-year borrowing, according to the MMD scale.
The disinclination among lower-rated issuers to borrow has kept supply light, which leaves open the question of just how hearty demand is for their debt.
“There’s definitely some concerns out there — if we really got a heavy calendar we might have digestion issues,” the Memphis trader said.
No test of lower-grade supply came on Thursday because once again the biggest deal — Portland, Ore. — was rated triple-A by Moody’s.
The $82.8 million first-lien water system revenue deal nevertheless provided an interesting study of the yield curve’s desire to steepen. About 30% of the issue’s par value matures in more than 20 years, a threatening area of the curve because of a paucity of demand for that kind of duration.
The 10-year maturity on the bonds was reoffered to the public at a yield of 3.08%, within eight basis points of the MMD triple-A scale.
Longer maturities did not fare as well. The 20-year maturity was reoffered at 4.55%, or 25 basis points in excess of the triple-A scale. The longest maturity, which was 25 years, was left unsold.
Wells Fargo Securities was the winning bidder in the competitive market.
The slight weakening in the municipal indexes this week came against the backdrop of strength in Treasuries. The yield on the Treasury’s 30-year bond dropped 12 basis points this week to 4.52%, which is the lowest it has been in eight weeks. The yield on the 10-year dropped 20 basis points to 3.37%, also the lowest in eight weeks.
The Bond Buyer’s 20-bond index of 20-year general obligation yields rose one basis point this week to 4.91%, while the 11-bond index of higher-grade 20-year GO yields jumped two basis points to 4.65%
The Bond Buyer revenue bond index, which measures 30-year revenue bond yields, fell four basis point this week to 5.52%. It is now at its lowest level since Jan. 6, when it was 5.44%.
The Bond Buyer’s one-year note index was unchanged for the second consecutive week, at 0.51%.