A firmer tone for munis, UST as recession fears spook equities

Municipals were little changed to a basis point or two firmer in spots Tuesday, while U.S. Treasuries made gains and equities were rattled by comments from large bank CEOs warning of tough economic times ahead.

Munis were again better in the belly of the curve while UST made larger gains out long.

The three-year muni-UST ratio Wednesday was at 60%, the five-year at 67%, the 10-year at 73% and the 30-year at 99%, according to Refinitiv MMD’s 3 p.m. read. ICE Data Services had the three at 60%, the five at 64%, the 10 at 73% and the 30 at 96% at a 4 p.m. read. 

Despite the volatility in equities and Treasuries, the backdrop for munis is very positive, said Nuveen strategists Anders S. Persson and John V. Miller in a weekly report..

“Rates, in general, are substantially higher compared to the beginning of the year, attracting new investors to the asset class,” they said.

They noted “new-issue supply has been muted and demand should be strong for several weeks as billions of dollars return to the municipal market via coupons being paid” on Dec. 1 and Jan. 1, 2023. These funds will need to be reinvested.

Five consecutive weeks of rallies “have erased the five prior months of losses,” said Matt Fabian, a partner at Municipal Market Analytics, noting that triple-A yields five years and out are now below their May 2022 peaks. This was “boosted by the single best day for net buying on Thursday since April and heavy overall trading,” he said.

Fund flows remain highly negative, “with investors’ retreat from supply-starved, low-yielding 2a7 platforms,” Fabian said. Fund managers last week, he said, “had one of their worst weeks for aggregate net outflows since September.”

Another week of strong net exchanged-traded fund creations, coupled with the price and evaluation rally in municipal fund NAVs that has reversed around 30% of year-to-date losses on average, Fabian said.

Fabian said the rally in both floating and fixed rates has “incented some opportunistic leverage.Fabian said.

Tender option bond creations rose to $2.5 billion last month, “supplying welcome synthetic product to 2a7 funds,” according to Fabian. Tax-exempt money market funds saw their their third straight week of outflows last week, as $2.07 billion flowed out, dropping the total AuM to $109.72 billion in the latest reporting week ending Nov. 28.

The SIFMA Municipal Swap Index was at 1.85% as of Wednesday, down from 1.90% a week prior and from a high for the year of 2.46% on Sept. 28.

“That the SIFMA rate continues to rally despite the new TOBs highlights the disjuncture between investor demand (favoring short positions) and tax-exempt supply,” he said.

Fabian noted this may be an “extreme case” but is an example “for the kind of pressure overall thin tax-exempt supply may face once mutual fund outflows become inflows.”

“Latent tax-loss selling is keeping headline net fund flows negative,” Nuveen said. “But December reinvestment cash flows should boost demand to net positive and in turn strengthen crossover demand.”

Another key muni market concern in Congress is whether the National Defense Authorization Act of 2023 will retain a House-passed amendment called the Financial Disclosure Transparency Act, which mandates data disclosure standards for issuers. The text of the conference committee version of the NDAA was expected to be released last Friday, but it’s been held up by last minute negotiations over dozens of amendments attached to the “Christmas tree bill.”

If it becomes federal law in the next few weeks, Fabian said “normally strong December seasonals may (and probably should) strengthen on expectation of even worsening medium-term supply of public tax-exempt securities.”

Supply-demand imbalance
Demand in the municipal market is high as new-issue pricing remains sparse, according to one municipal expert. 

“There is strong demand for high-grade specialty state paper,” although mutual funds have had net outflows, Howard Mackey, managing director of underwriting and trading at NW Financial in Hoboken, N.J. said on Tuesday. 

At the same time, however, other investors have cash and are eager to buy.

Separately managed accounts have had inflows, “so demand has been heavy and as a result issues in the secondary have been trading at or through” triple-A yield curves, he said, pointing to a $100 million Monmouth, N.J. deal.

The deal, which came extremely tight to triple-A yield curves, was in high demand due to the value and scarcity of specialty state paper, such as New Jersey, New York and California.

“There will be no let up in demand through year end,” Mackey said. “I expect there will continue to be interest from people closing out through end of the year.” 

In the primary market Tuesday, Goldman Sachs & Co. priced for the California Community Choice Financing Authority (A2///) $442.085 million of green Clean Energy Project revenue bonds. The first tranche, $391.585 million of term rate bonds, Series 2023A-1, saw 5s of 12/2052 with an 8/1/2029 mandatory tender date at 4.25%, callable 5/1/2029.

Loop Capital Markets priced for Ohio (Aa1/AA+/AAA/) $377.290 million of GOs. The first tranche, $177.525 million of infrastructure improvement general obligation bonds, Series A, saw 4s of 3/2023 at 2.26%, 4s of 2027 at 2.50%, 5s of 2032 at 2.62%, 5s of 2037 at 3.18% and 5s of 2042 at 3.45%, callable 3/1/2033.

The second tranche, $54.830 million of infrastructure improvement general obligation refunding bonds, Series B, saw 4s of 3/2023 at 2.26%, 4s of 2027 at 2.50% and 5s of 2031 at 2.61%, noncall.

The third tranche, $57.460 million of infrastructure improvement general obligation refunding bonds, Series C, 4s of 9/2024 at 2.45%, 4s of 2027 at 2.51% and 5s of 2031 at 2.62%, noncall.

The fourth tranche, $25.135 million of conservation projects general obligation refunding bonds, Series A, saw 4s of 9/2024 at 2.45%, 4s of 2027 at 2.51% and 5s of 2030 at 2.60%, noncall.

The fifth tranche, $62.340 million of common schools general obligation refunding bonds, Series A, saw 4s of 6/2025 at 2.47%, 4s of 2027 at 2.50% and 5s of 2029 at 2.54%, noncall.

Goldman Sachs & Co. priced for the Illinois Finance Authority (/AA-/AA-/) $375 million of UChicago Medicine revenue bonds. The first tranche, $225 million of Series 2022A saw 5s of 8/2047 at 4.41% and 5s of 2052 at 4.53%, callable 8/15/2032.

The second tranche, $75 million of Series 2022B-1, saw 5s of 8/2052 with a mandatory put date of 8/15/2025 at 2.93%, callable 5/15/2025.

The third tranche, $75 million of Series 2022B-2, saw 5s of 8/2052 with a mandatory put date of 8/15/2027 at 3.05%, callable 5/15/2027.

In the competitive market, DeKalb County, Georgia, (//AA-/) sold $531.770 million of Second Resolution water and sewerage revenue bonds, Series 2022, to BofA Securities, with 5s of 10/2023 at 2.29%, 5s of 2027 at 2.51%, 5s of 2032 at 2.67%, 5s of 2037 at 3.34%, 5s of 2042 at 3.65%, 5s of 2047 at 3.81% and 5s of 2052 at 3.93%, callable 10/1/2032.