Muni short-end correction continues, yields climb double digits

Municipals experienced further pressure Thursday, with the triple-A benchmarks inside 10 years being hit the hardest. Short-term U.S. Treasury yields extended their selloff, and equities ended mixed.

Triple-A municipal yields were cut 10 to 15 basis points, depending on the scale, 10 years and in. UST yields rose three to 12 basis points.

Municipal to UST ratios rose as a result. The two-year muni-Treasury ratio Thursday was at 70%, the three-year at 71%, the five-year at 69%, the 10-year at 68% and the 30-year at 89%, according to Refinitiv MMD’s 3 p.m. ET read. ICE Data Services had the two-year at 72%, the three-year at 74%, the five-year at 71%, the 10-year at 70% and the 30-year at 90% at 4 p.m.

Outflows were seen again from municipal bond mutual funds this week as Refinitiv Lipper said $187.393 million was pulled as of Wednesday after $101.664 million of outflows the week prior. 

Investor appetite on the buy side is generally becoming more selective, according to Tom Kozlik, managing director at HilltopSecurities.

“Sector, issue specifics, and credit are becoming even more important than in recent weeks,” he said.

“Buyers, especially on the institutional side, are not jumping in with both feet,” Kozlik added. “They are carefully dipping a toe or two to figure out the temperature.”

Steep corrections occurring inside 10 years on the curve “reflect an ongoing process to reduce a deep inversion,” said Kim Olsan, a senior vice president of municipal bond trading.

Maturities between 2026 and 2033 “have been overbought and undersold for a few weeks, mainly due to sub-2.50% absolute yields (and generic [taxable equivalent yields] through 4%) failing to draw consistent general-market demand at nominal spreads to benchmarks,” she said.

There has been a “yield adjustment of nearly 15 basis points between 2024 and 2026 maturities” in May, and this is “subject to further moves in an effort to find a better distribution balance,” according to Olsan.

She said an increase in the size and number of deals is adding to pressures.

Wide spreads between A and AAA categories are happening due to “adjusted levels in recent new issues,” she said.

Names within the AAA space “that would normally trade in single-digit spreads to respective AAA spots are widening out five to 15 basis points and AA-rated bonds are trending to +25/AAA or wider,” she noted.

Follow-through selling in AAA-rated Loudoun County, Virginia, GOs “from a recent sale showed 2026-2028 maturities being sold down nearly 20 basis points from syndicate levels,” she said.

A competitive sale of Fort Worth, Texas (Aa1/AA+/), water/sewer bonds “drew a 10-year spread of +30/MMD, for a name that can trade five to 10 basis points tighter in more constructive markets,” she said.

Broadly, Olsan noted “the front half of the curve is influencing flows amidst noncallable and optioned structures, with the back half holding steady where most of the slope exists.”

Both 2024 and 2025 maturities “are responding to T-bill rates moves and finding a better equilibrium on relative value,” she said.

Several trades “are pointing to a new level being proving in high-grade 2025 maturities at 3.00% or higher — nearly 100 basis points above the 2023 low yield,” according to Olsan.

Dallas water/sewer (Aa2/AAA/) 5s due 2025 “traded at 3.03% for a spread of +30/MMD, as compared to an evaluated yield in mid-April of 2.35% (+7/MMD),” she said.

Last month, the 5s1s BVAL slope “was negative 30 basis points but has widened to negative 50 basis points,” she said.

Slightly longer, Olsan said “the 7s2s BVAL curve has moved to negative 44 basis points from 23 basis points in mid-April.”

Value in a barbell strategy is growing, she said, as “both 2024 and 15-year yields above 3% straddle an interesting area of the curve.”

“The 10s5s slope is currently slightly inverted at [six] basis points, offering no extension value, but the 20s10s curve is holding at +80 basis points,” Olsan said.

The large-scale Virginia College Building Authority “new issue offered 5s in 2040 at 3.37%, for a 77 basis point pickup to the 2033 maturity (and a near-100% ratio to the 10-year UST),” she said.

At the far end of the curve, 4s are becoming more active, she said.

“A sampling of AA- and AAA-rated block trades past 2040 shows a nearly identical number of trades in 4s as compared to 5s (5/17 session),” Olsan noted.

Trading in Texas (Aaa/AAA/) Water 4s due 2044 at 4.08% “was only seven basis points wider than a trade from late April,” she said.

“High-quality 4s in general-market names work out to TEYs in the mid-6% range and in specialty-state names the TEYs grow to the 7.5% range,” she said.

For the climate and conditions in the overall municipal market, there is an “overarching malaise” slowly creeping into the tone of the market, according to Kozlik.

It could be the result of other circumstances hanging over the muni market, such as concerns over the debt ceiling.

“I am surprised that the financial markets generally and the municipal market specifically are as optimistic as they appear to be as it relates to the ongoing debt ceiling issue,” he added.

Kozlik said he will join many other market experts in closely watching what does or does not materialize in Washington regarding the debt ceiling in the coming weeks. 

Stocks “are rising as the biggest risk on Wall Street’s table appears to be going away,” said Edward Moya, senior market analyst at The Americas OANDA.

A vote on the debt ceiling deal could happen as early as next week, according to House Speaker Kevin McCarthy.

“Traders are so fixated on the debt ceiling and regional banking fears that they are losing track of what could happen with inflation,” Moya said.

Stocks are heading higher, but he said they “could soften if we continue to get more rounds of data that suggest the economy is not breaking.”

Moya noted that “the end of tightening was supposed to be here, but as recession fears ease, inflation should prove to be sticky.”

The June Federal Open Market Committee meeting “might become a live meeting for markets if June inflation report proves to be hot when you factor out the lag with shelter prices,” according to Moya.

The latest Fed speak, he said, “has always suggested June was live and it is starting to look like if they get any hints inflation is stubborn and as long as a debt ceiling deal is reached, they could hike again.”

In the primary market Thursday, Barclays priced for the Development Authority of Burke County, Georgia, (Baa1/BBB+/BBB+/) $115 million of Georgia Power Co. Plant Vogtle Project pollution control revenue bonds. The first tranche, $10 million of Second Series 1994, saw 3.8s of 10/2032 with a mandatory put date of 5/21/2026 at par, noncall.

The second tranche, $55 million of Fourth Series 1994, saw 3.8s of 10/2032 with a mandatory put date of 5/21/2026 at par, noncall.

The third tranche, $20 million of Ninth Series 1994, saw 3.8s of 10/2032 with a mandatory put date of 5/21/2026 at par, noncall.

The fourth tranche, $30 million of Fourth Series 1995, saw 3.8s of 10/2032 with a mandatory put date of 5/21/2026 at par, noncall.

Secondary trading
Florida 5s of 2024 at 3.22% versus 3.11% original on Wednesday. Washington 5s of 2024 at 3.30% versus 3.08%-3.07% Tuesday. Maryland 5s of 2025 at 3.03% versus 2.81%-2.83% Tuesday.

North Carolina 5s of 2027 at 2.78% versus 2.73% Wednesday. Connecticut 5s of 2028 at 2.73% versus 2.77% Wednesday and 2.47% on 5/10. California 5s of 2029 at 2.59%-2.61% versus 2.32% on 5/10 and 2.30% on 5/9.

Texas 5s of 2031 at 2.69%. Maryland 5s of 2034 at 2.53% versus 2.40% on 5/10 and 2.39%-2.40% on 5/9. Delaware 5s of 2035 at 2.69% versus 2.48% Monday and 2.48% on 5/9.

Union County, North Carolina, 5s of 2043 at 3.16%-2.95% versus 3.19%-3.18% Wednesday and 3.16% on 5/4.

AAA scales
Refinitiv MMD’s scale was cut seven to 15 basis points: The one-year was at 3.21% (+10) and 3.00% (+15) in two years. The five-year was at 2.57% (+10), the 10-year at 2.47% (+10) and the 30-year at 3.47% (+7) at 3 p.m.

The ICE AAA yield curve was cut six to 13 basis points: 3.27% (+12) in 2024 and 2.99% (+12) in 2025. The five-year was at 2.57% (+11), the 10-year was at 2.47% (+10) and the 30-year was at 3.48% (+6) at 4 p.m.

The IHS Markit municipal curve was cut seven to 15 basis points: 3.20% (+10) in 2024 and 3.00% (+15) in 2025. The five-year was at 2.57% (+10), the 10-year was at 2.46% (+10) and the 30-year yield was at 3.47% (+7), according to a 4 p.m. read.

Bloomberg BVAL was cut seven to 11 basis points: 3.04% (+11) in 2024 and 2.91% (+11) in 2025. The five-year at 2.54% (+10), the 10-year at 2.46% (+8) and the 30-year at 3.51% (+7) at 4 p.m.

Treasuries were weaker.

The two-year UST was yielding 4.268% (+12), the three-year was at 3.928% (+12), the five-year at 3.694% (+11), the 10-year at 3.651% (+7), the 20-year at 4.036% (+6) and the 30-year Treasury was yielding 3.910% (+3) at 4 p.m.

Mutual fund details
Refinitiv Lipper reported $187.393 million of municipal bond mutual fund outflows for the week that ended Wednesday following $101.644 million of outflows the previous week.

Exchange-traded muni funds reported outflows of $115.279 million after inflows of $147.576 million in the previous week. Ex-ETFs muni funds saw outflows of $72.114 million after outflows of $249.240 million in the prior week.

Long-term muni bond funds had inflows of $94.697 million in the latest week after inflows of $341.009 million in the previous week. Intermediate-term funds had inflows of $1.469 million after outflows of $175.330 million in the prior week.

National funds had outflows of $164.422 million after inflows of $75.550 million the previous week while high-yield muni funds reported outflows of $73.128 million after inlows of $91.201 million the week prior.

Christine Albano contributed to this story.