Munis can’t ignore UST selloff post hotter inflation report
7 min read
A hotter-than-anticipated inflation report spurred a selloff in U.S. Treasuries and equities, and municipals could not ignore the broader markets and closed weaker on the day.
Triple-A yields rose up to six basis points but largely outperformed UST losses that touched 17 to 20 basis points on the short end.
Expectations for a Fed rate cut in Q1 were further lowered by Tuesday’s hotter-than-expect CPI report, with consumer prices rising 0.3% in January month-over-month.
“CPI data came in stronger than the either Fed or the market wanted or expected,” said Greg Wilensky, head of U.S. Fixed Income at Janus Henderson Investors. “While the door for a March cut had already been effectively shut given the recent Fed commentary and the jobs reports, the Fed has now locked the door and lost the key.”
The two-year muni-to-Treasury ratio Tuesday was at 60%, the three-year at 59%, the five-year at 57%, the 10-year at 58% and the 30-year at 81%, according to Refinitiv Municipal Market Data’s 3 p.m. EST read. ICE Data Services had the two-year at 63%, the three-year at 62%, the five-year at 61%, the 10-year at 60% and the 30-year at 82% at 3:30 p.m.
The CPI report “adds a bit of a wrinkle” to market expectations of the Fed cutting in March, though rate cuts could still be on the table for May, said Pat Luby, a CreditSights strategist.
This is also a reminder for investors that if inflation is “sticky,” then they need to be mindful of earning a break-even real yield, he said.
Over the next three to six months, Luby said investors “are going to have to be walking a tightrope of how much duration are they comfortable with in a potentially rising inflationary environment.” .
Reinvestment demand falls in March and April and investors may want “to keep their powder dry” until they have a better idea of when the Fed will start cutting rates, Luby noted.
“We do not think a May cut is out of the question, but it makes sense that the odds of a May cut being priced into the market have been substantially reduced,” Wilensky said. “With this new data, a first cut in June seems like the most reasonable expectation unless we see a very quick, severe drop in labor market activity or a geopolitical shock.”
In the primary market Tuesday, Piper Sandler priced and repriced for the Prosper Independent School District, Texas, (Aaa//AAA/) $382.795 million of PSF-insured unlimited tax school building bonds, Series 2024, with bumps up to three basis points: 5s of 2/2025 at 3.07% (-2), 5s of 2029 at 2.62% (-3), 5s of 2034 at 2.68% (-2), 5s of 2039 at 3.16% (-3), 5s of 2044 at 3.57% (unch), 4s of 2054 at 4.29% (unch) and 4.25s of 2054 at 4.29% (unch), callable 2/15/2034.
In the competitive market, Guilford County, North Carolina, (Aaa/AAA/AAA/) sold $180 million of GO school bonds, Series 2024, to BofA, with 5s of 3/2027 at 2.62%, 5s of 2029 at 2.51%, 5s of 2034 at 2.57%, 5s of 2039 at 3.00% and 4s of 2044 at 3.84%, callable 3/1/2034.
Secondary trading
Washington 5s of 2025 at 2.96%-3.03%. NYC TFA 5s of 2025 at 2.87%. Virginia Public Building Authority 5s of 2026 at 2.80%-2.77%.
North Carolina 5s of 2028 at 2.57%. Wisconsin 5s of 2030 at 2.51% versus 2.47% Monday. Illinois Finance Authority 4s of 2030 at 3.75%.
Connecticut 5s of 2033 at 2.58%-2.63% versus 2.58%-2.57% Wednesday and 2.50% on 2/2. Houston Higher Education Finance Corp. 5s of 2034 at 2.66%-2.65% versus 2.60%-2.59% Monday and 2.64%-2.61% Friday. University of California 5s of 2035 at 2.41%-2.40% versus 2.42% Monday and 2.39% Wednesday.
NYC TFA 5s of 2049 at 3.87%-3.86% versus 3.88%-3.86% Friday and 3.89% original on Thursday. LA DWP 5s of 2053 at 3.58% versus 3.51% Monday and 3.44% on 2/2. Triborough Bridge and Tunnel Authority 5s of 2054 at 3.92% versus 3.95% Friday and 3.92% Thursday.
AAA scales
Refinitiv MMD’s scale was cut five basis points: The one-year was at 2.98% (+5) and 2.78% (+5) in two years. The five-year was at 2.46% (+5), the 10-year at 2.48% (+5) and the 30-year at 3.62% (+5) at 3 p.m.
The ICE AAA yield curve was cut two to six basis points: 3.00% (+2) in 2025 and 2.81% (+5) in 2026. The five-year was at 2.51% (+6), the 10-year was at 2.50% (+5) and the 30-year was at 3.58% (+5) at 3:30 p.m.
The S&P Global Market Intelligence municipal curve cut across the curve: The one-year was at 3.01 (+5) in 2025 and 2.81% (+5) in 2026. The five-year was at 2.49% (+5), the 10-year was at 2.50% (+5) and the 30-year yield was at 3.60% (+5), according to a 3 p.m. read.
Bloomberg BVAL was cut four to five basis points: 2.96% (+4) in 2025 and 2.81% (+4) in 2026. The five-year at 2.47% (+5), the 10-year at 2.54% (+5) and the 30-year at 3.65% (+5) at 3:30 p.m.
Treasuries sold off.
The two-year UST was yielding 4.644% (+17), the three-year was at 4.452% (+20), the five-year at 4.310% (+19), the 10-year at 4.311% (+15), the 20-year at 4.491% (+12) and the 30-year Treasury was yielding 4.463% (+10) at 3:45 p.m.
CPI report moves some to push cuts to July
The consumer price index surprised to the upside, leading analysts to push back the timetable for the first Federal Reserve rate cut.
The higher-than-expected read “will embolden the Fed to signal they are in no hurry to cut interest rates,” said ING Chief International Economist James Knightley. The market reacted by cutting back to “fully pricing three 25bp rate cuts this year [starting in June], the same as suggested by the Fed’s December dot plot,” he noted.
Still, Knightley noted, “things can move fast and nothing is set in stone — it was only a few weeks ago that the market was pricing seven 25bp moves starting in March.”
This report “really put a dent in the moderating inflation narrative that has taken hold in the markets and among some Fed officials,” said Scott Anderson, chief U.S. economist and managing director at BMO Economics.
The “super-bad” data and “resilient first-quarter U.S. economic growth, has got to be concerning for the Fed and calls into question market forecasts for aggressive and early rate cuts this year,” he said. BMO thinks the Fed will hold off on rate cut until July.
Morgan Stanley economists see “a bumpy path ahead. We think that sequential prints in 1Q24 will be overall higher than what we have seen in the last six months. This acceleration will be one factor delaying the decision to start cutting rates to June this year.”
The hotter-than-expected read “was the final nail in the coffin for the prospect of a March rate cut,” said Josh Jamner, investment strategy analyst at ClearBridge Investments. It will also restart the “debate around a ‘no landing’ or overheating scenario,” he said.
He cautioned, “The disinflation process is not a straight line, however, and one hot print on its own after an extended string of more favorable releases does not represent a new trend.”
A May rate cut remains on the table, Jamner said, “given the incrementally better read-through to core PCE as opposed to the less favorable headline CPI figures.”
The key takeaway, according to Morning Consult senior economist Kayla Bruun, is “persistent upside risks … continue to percolate in the U.S. economy, potentially challenging the Fed’s ability to achieve and maintain its 2.0% price growth target.”
At his press conference after the latest Federal Open Market Committee meeting, Fed Chair Jerome Powell “outlined two criteria for building the Fed’s confidence to begin cutting rates,” noted Alexandra Wilson-Elizondo, co-chief investment officer of the multi-asset solutions business in Goldman Sachs Asset Management.
Those were: “continuation of good data and a broadening of disinflation. In our view, today’s data met neither criterion with the dynamic between goods and services looking worse, not better,” she said.
As such, Goldman expects “the first rate cut to come around mid-year.”
With the economy growing strong enough, the Fed has no “sense of urgency on cutting rates,” said Bryce Doty, Senior VP and senior PM at Sit Investment Associates.
And while he isn’t “forecasting a recession, there are a number of warning signs that the consumer is stretched thin financially,” Doty said. “Not only are credit card balances at all-time highs, people are also increasingly choosing ‘buy now and pay later’ options.”
Complaints about food prices, despite some stabilization, “tells me that household finances are tight,” he added. Consumers will prioritize “necessities over luxury goods,” he said.
While economic growth will slow, Doty said, it will stay “strong enough to keep the Fed from cutting rates longer than they should. In the meantime, bond investors will get to enjoy higher yields a little while longer than many thought.”
But now is not time to panic, said Natixis portfolio strategists Jack Janasiewicz and
Recently released annual “revisions show a smoothing trend of inflation cooling, with the greater risk remaining that inflation cools faster than either the market or the Fed expects,” they said. “While Powell may have killed any prospect of the March cut, the data is likely to continue to support the case for it. We may not get a cut, but we will likely see yet another downward revision for core PCE in the March edition of the SEP.”
Negotiated calendar
The Gloucester County Improvement Authority, New Jersey, (/AA//) is set to price Thursday $167.240 million of BAM-insured Rowan University projects loan revenue bonds, Series 2024, serials 2034-2044, terms 2049, 2054. Stifel, Nicolaus & Co.
The Northern Indiana Commuter Transportation District (A1/A+//) is set to price Wednesday $143.430 million of limited obligation consolidated revenue bonds, Series 2024, serials 2024-2044, terms 2049, 2054. BofA Securities.
The New York State Housing Finance Agency (Aa2///) is set to price Wednesday $133.545 million of sustainability affordable housing revenue bonds, 2024 Series A, serial 2063. RBC Capital Markets.
The Missouri Housing Development Commission (/AA+//) is set to price Thursday $130 million of single family mortgage revenue bonds, consisting of $120 million of non-AMT first place homeownership loan program bonds, 2024 Series A, serials 2025-2036, terms 2039, 2044, 2049, 2054, 2055; and $10 million of taxable first place and next step homeownership loan program bonds, 2024 Series B, serials 2025-2034, terms 2039, 2044, 2049, 2054. Raymond James.
The St. Paul Independent School District No. 625, Minnesota, (Aa1///) is set to price Wednesday $101.600 million of Minnesota School District Enhancement Program-insured full-term certificates of participation, Series 2024A. Piper Sandler.
Competitive
Virginia is set to sell (Aaa/AAA/AAA/) $62.175 million of GOs, Series 2024A, and $118.675 million of GO refunding bonds, Series 2024B, at 10:30 a.m. Wednesday.
Glendale, California, is set to sell $153.850 million of electric revenue bonds, at 11 a.m. Thursday, and $53.765 million of electric revenue refunding bonds, at 11:30 a.m. Thursday.
The Cherokee County School System, Georgia, (Aa1/AA+//) is set to sell $100 million of GOs at 10:30 a.m. Thursday.
