Munis little changed, USTs extend sell-off

Municipals were little changed Tuesday, while U.S. Treasuries extended their sell-off and equities rallied.

The two-year muni-UST ratio was at 60%, the three-year at 60%, the five-year at 63%, the 10-year at 66% and the 30-year at 91%, according to Refinitiv MMD’s 3 p.m. ET read. ICE Data Services had the two at 64%, three at 64%, the five at 65%, the 10 at 70% and the 30 at 96% at 4 p.m.

After a tumultuous week, expect another ahead, said Matt Fabian, a partner at Municipal Market Analytics.

“Fixed rate bonds rallied strongly last week — the two-year U.S. Treasury yield fell 75 bps, the 10-year 27 bps, the 30-year 8 bps — as investors presumed the ongoing crisis of confidence in some (or many) regional banks leads the Fed to delay or cancel this week’s expected rate hike,” he said.

Tax-exempt munis, “afflicted in part by excess customer selling, lagged the UST rally, but the curve effects were the same,” Fabian said. Two-year AAA yields dropped 28 basis points, while “most of the rest of the curve rallied” by 18 basis points to 20 basis points.

“This flight to quality has mitigated, at least for now, serious concerns about near-term market fundamentals (i.e., supply vs demand) that could emerge from the banking struggles at hand,” he said.

First Republic Bank, “which, despite a $30 billion private cash infusion that offset nearly half of its recent depositor withdrawals, is still facing rating downgrades and equity price declines, had a $23.2 billion position in municipal bonds and loans as of 4Q22, while FDIC-closed Silicon Valley Bank carried $8.3 billion,” according to Fabian.

In fact, in 4Q22, First Republic “was the third largest bank holder of municipal bonds (ex-loans); SVB was the sixth largest holder of bonds,” he said.

“Federal steps to this point suggest that neither bank’s portfolio seems likely to be liquidated in a messy, financial crisis-type scenario, but material changes in the disposition of these two municipal bond buying programs (as will occur for SVB and could occur for FRB) would weigh on industry returns through yearend or longer, unwinding at least some of the 2023 sector outperformance expected to come from tax-exempt new issue scarcity,” Fabian said.

Whether or not this and Fed action “increases caution and buyer hesitation … could well drive industry weakness in the near term,” he said.

The two-day Federal Open Market Committee meeting began Tuesday.

Ann Ferentino, portfolio manager and senior investment analyst at Federated Hermes, said the disinflation narrative dominated in January, which saw the strongest returns on record for a month, she said.

The Fed then slowed its pace of tightening to 25 basis points in February.

“We saw the January information showing that the economy is proving to be more resilient, and inflation remaining more stubborn” and raised the possibility the Fed would need to be more hawkish, and raise rates 25 or 50 basis points, she said. However, this was before the Silicon Valley Bank collapse, and now the Fed is expected to either pause rate hikes or implement a 25-basis-point rate hike.

Ferentino said March has put investors in a holding pattern because there’s just not clarity in terms of what direction rates are going to go and the speed at which the gyrations occurs are extreme.

March usually brings a positive net supply, but she said, this might not be the case this year, given supply is down so much. Additionally, investors usually sell their munis to pay taxes, but she said, investors aren’t going to have high tax bills this year after last year’s down market.

“March is pretty predictable in terms of, you have more supply than you have demand, and you’d like to take advantage of that in terms getting invested,” she said. “I don’t know how much of a more of an opportunity that’s going to be.”

In the primary market, Tuesday, Birmingham Public Schools, Michigan (/AA+//) sold $128.695 million of school building and site and refunding bonds, Series 2023, with 5s of 5/2024 at 2.69%, 5s of 2028 at 2.60%, 5s of 2033 at 2.77%, 5s of 2038 at 3.48% and 5s of 2043 at 3.85%, callable 5/1/2033.

In the competitive, the Florida Department of Transportation (Aa2/AA/AA/) sold $174.685 million of turnpike revenue refunding bonds, Series 2023A, to Morgan Stanley, with 5s of 7/2024 at 2.50%, 5s of 2028 at 2.40%, 5s of 2033 at 2.50%, 5s of 2038 at 3.23% and 4s of 2043 at 4.03%, callable 7/1/2033.

Municipal healthcare is a strong performer
On the buyside, municipal healthcare is one of the best performers in the municipal bond market, year-to-date, and remains fit and healthy, according to two analysts from Sage Advisory Services.

“Municipal hospitals, which typically exhibit lower credit quality characteristics in the revenue sector, have held up quite well” since the start of 2023, Jeff Timlin, Sage managing partner and portfolio manager for tax-exempt fixed income strategies, said in a report last week.

Operating margins, which declined during the first half of 2022, have started to trend higher, and recent data shows labor costs appear to have stabilized because of a decreased reliance on contract labor, Timlin noted.

Separately, Timlin said, early projections indicate state rainy-day funds will eclipse $136 billion in fiscal 2023, more than four times higher than they were going into the global financial crisis.

“Illinois, New Jersey, and Connecticut, historically challenged, have materially improved their rainy-day funds, a trend that has driven a wave of ratings upgrades,” Timlin said.

“Municipal credits as a whole have generally remained on strong footing for quite some time,” agreed Brett J. Adelglass, an associate on the portfolio management team at Sage.

He credits federal stimulus during the COVID-19 pandemic with strengthening municipal balance sheets. 

“On the healthcare front, investors were largely caught off guard by the significant labor challenges that impacted hospital operating performance during the first half of 2022,” he explained.

The firm has identified some encouraging signs that lead it to be “cautiously optimistic” on the sector going forward, Adelglass said. 

“Labor costs appear to finally be leveling off after substantial increases over the last couple of years,” he said.

One such example is an overall decrease in the utilization of traveling nurses, Adelglass noted. 

“There was a point where some traveling nurses were earning up to $10,000 a week,” he said, calling that a “huge lift” for healthcare systems that rely on pre-negotiated reimbursement agreements from a revenue standpoint.

“Costs have since come down to $3,000 a week, which is still high but a lot more manageable than they have been,” Adelglass explained. 

“For health systems that are lucky enough to be at the end of their contract period with major insurers, we’ve been hearing that insurance companies are being more receptive to larger reimbursements, which will be a big lift to hospitals dealing with elevated labor costs and sticky inflation,” he added.  

Hospital spreads are at their widest levels in about six years, excluding a brief spike during the first part of 2020, according to Adelglass. 

Still, they have come in from their widest spreads earlier in the year. 

As a result, year-to-date, hospital returns are currently at about 2.66% — making it one of the cheapest and best performing sectors in the municipal index along with tobacco bonds, which are also returning 2.5%, Adelglass noted.

“On an absolute basis, hospital yields remain attractive at 3.95% currently, which is among the highest in the municipal bond index,” which average yields at 3.34%, Adelglass said.

Secondary trading
Maryland 5s of 2024 at 2.59%. Triborough Bridge and Tunnel Authority 5s of 2024 at 2.61% versus 2.60%-2.57% Thursday. Seattle water 5s of 2025 at 2.58%.

California 5s of 2027 at 2.40%-2.39%. Minnesota 5s of 2028 at 2.39%-2.36%. Maryland 5s of 2029 at 2.44%-2.39% versus 2.36%-2.35% Monday.

Wisconsin DOT 5s of 2032 at 2.43% versus 2.42% Friday and 2.57% original on 3/15. North Carolina 5s of 2033 at 2.52%-2.50%. Oregon 5s of 2033 at 2.47% versus 2.47% Monday and 2.60% original on Thursday.

Illinois Finance Authority 5s of 2047 at 4.35%-4.34% versus 4.30%-4.31% on 3/14. Massachusetts Transportation Fund 5s of 2052 at 3.87% versus 3.82% Thursday and 3.83% on 3/15.

AAA scales
Refinitiv MMD’s scale was cut two basis points at one-year. The one-year was at 2.53% (+2) and 2.51% (unch) in two years. The five-year was at 2.35% (unch), the 10-year at 2.38% (unch) and the 30-year at 3.42% (unch) at 3 p.m.

The ICE AAA yield curve was cut up two to three basis points: 2.57% (+3) in 2024 and 2.55% (+2) in 2025. The five-year was at 2.34% (flat), the 10-year was at 2.39% (flat) and the 30-year yield was at 3.47% (+2) at 4 p.m.

The IHS Markit municipal curve was unchanged: 2.53% in 2024 and 2.51% in 2025. The five-year was at 2.34%, the 10-year was at 2.38% and the 30-year yield was at 3.40% at a 4 p.m. read.

Bloomberg BVAL was cut up to one basis point: 2.54% (unch) in 2024 and 2.49% (unch) in 2025. The five-year at 2.33% (unch), the 10-year at 2.37% (unch) and the 30-year at 3.41% (+1).

Treasuries sold off.

The two-year UST was yielding 4.178% (+21), the three-year was at 3.981% (+19), the five-year at 3.737% (+15), the seven-year at 3.688% (+12), the 10-year at 3.598% (+11), the 20-year at 3.900% (+8) and the 30-year Treasury was yielding 3.724% (+5) at 4 p.m.

Primary to come:
The negotiated calendar is led by a $1.491 billion sale from the Louisiana Local Government Environmental Facilities and Community and Development Authority. The deal, which is rated triple-A by both Moody’s Investors Service and S&P Global Ratings, consists of system restoration bonds for the Louisiana Utilities Restoration Corp. Project/ELL. The Series 2023 taxable deal is being senior managed by J.P. Morgan Securities.

Energy Southeast, Alabama, will sell $846.880 million of energy supply revenue bonds in a two-pronged financing that is slated for pricing by Morgan Stanley & Co. Series 2023 A-1 fixed rate bonds totals $746.880 million, while Series 2023 A-2 Secured Overnight Financing Rate index bonds totals $100 million. Both series are rated A1 by Moody’s and A-plus by Fitch Ratings.

A $502.7 million sale of affordable housing revenue bonds is on tap on Tuesday from the New York State Housing Finance Agency. The Wells Fargo Bank-managed negotiated deal consists of four series of 2023 bonds rated Aa2 by Moody’s.

Series A-1 $111.200 million of climate bond certified/sustainability bonds, while Series B-1 consists of sustainability bonds totaling $34.874 million — both series maturing serially from 2024 to 2035 with terms in 2038, 2043, 2048, 2053, 2058. Series A-1 also has a 2063 term bond.

Series A-2 is $230.915 million of climate bond certified/sustainability bonds and Series B-2 consists of $125.725 million of sustainability bonds — both maturing in 2062. 

A $250 million sale of solid waste disposal and sewage facilities revenue bonds is being sold by Cascade County, Montana, on Tuesday. The bonds, which are rated B-minus by S&P, are green bonds for the Montana Renewables LLC project and are being senior managed by Citigroup Global Markets.

The refunding is rated AA-plus by S&P and will be structured as serial bonds maturing from 2024 to 2043. The bonds will be priced by bookrunner Stifel, Nicolaus & Co.