The market continues to see greater interest in the short and intermediate parts of the curve, driven by the explosive growth of separately managed accounts, as more investors move out of high-fee commingled products into low-fee, customizable ones.
As SMAs have garnered attention, they shifted demand further down the yield curve into one- to five- or one- to 10-year area, though SMAs will go out 15 or 20 years.
Many ladder strategies have come back into vogue a bit. Those are very rules-based strategies that don't have any flexibility in terms of duration curve, said Jeff Timlin, managing partner and head of municipal bond investing at Sage Advisory.
"Once a one-year bond ... rolls off, you reinvest that maturity and those cash flows into the next," he said.
If a buyside shop runs an SMA model and "you're generically creating new portfolios in a laddered format, if you get a call or maturity, you're going to add to that ladder," said Kim Olsan, senior fixed income portfolio manager at NewSquare Capital.
"What I'm doing now, building new accounts, well, where can I get the best yield without messing up duration too much, and where am I getting the best relative value? There is a little bit of a flexible approach to that right now," she said.
For new accounts, "you have to put that ladder in place; you're sort of locked in to those less advantageous years, but for money rolling off a call or maturity, and putting money back to work, definitely [lock] in eight to 12 years [rather] than five to 10 years," according to Olsan.
While a certain percent of the flow will always be dictated in that range, it becomes more "discretionary" if someone is running a duration approach, she said.
"Then that 3% higher relative value is going to put some of that distribution in flux. You're going to extend a little bit to get a little bit more yield," she noted.
This demand, in turn, has led to increased supply of paper 10 years and in, as issuers and underwriters work to meet the growing interest.
Issuers tend to have some flexibility overall in structuring and couponing, and tailoring issuance 10 years and in is an ongoing conversation between the sellside and buyside, said Ron Banaszek, co-head of public finance and lead underwriter at Blaylock Van.
Issuers "don't always have the flexibility to do a shorter structure or change around couponing to meet customer needs … but if you do, it can offer greater flexibility. It should theoretically translate into a better deal, meaning a lower all interest cost," he said.
"[Ten]-year-and-in supply has steadily risen as a proportion of total issuance over time, moving from roughly 40–50% of longer-dated issuance in the pre-crisis period to near parity in recent years," said Eric Kazatsky, client portfolio manager at MacKay Municipal Managers.
That ratio is approaching 1:1 year-to-date, representing one of the "most balanced issuance profiles between intermediate and longer maturities in over two decades," he said.
This shift reflects the "persistent demand base anchored in shorter-duration and passive investment mandates, which continues to draw issuers toward the front and intermediate portions of the curve," Kazatsky said.
While overall demand for shorter and intermediate maturities remains, market participants have observed in recent weeks that demand in that area of the curve has waned.
There will always be interest inside of 10 years, but the four- to eight-year or nine-year part of the curve has struggled a bit over the past couple of weeks, Banaszek said.
Before ratios started tightening a bit, there was more of a "move to get in there," he said.
Now, it's more of a "mixed bag," depending upon the credit state, Banaszek said.
"The market is telling issuers [it's] probably not a good time to really tap into the short end," Jock Wright, underwriter at Raymond James, said in an interview last week.
Some underwriters are not structuring current deals to meet the recent reduced interest on the shorter end of the curve, he added. Investors "don't seem to want" to buy the short end as they've moved further out the curve, Wright said.
However, many issuers don't have that flexibility. For example, sometimes the deals are refundings and issuers need to have maturities in those years and cannot pivot that quickly," Wright said.
This reduced demand comes at a time as supply remains robust. Issuance year-to-date is at $197.103 billion, up 4.3% year-over-year, according to LSEG.
Therefore, dealers are more than happy to take down short-term paper, but at some concession, Timlin said. People are full on that paper.
"You look at distribution of where selling has come from, 10 years and in, but no one's selling at throwaway levels. Everything is softer, but definitely orderly," Timlin said.
