Munis underperform UST rally, primary market takes focus

Municipals were firmer in secondary trading Wednesday as several large deals in the primary took focus and triple-A benchmarks underperformed a U.S. Treasury rally after data showed a decline in retail spending. Equities ended in the red.

Triple-A benchmarks were bumped four to 10 basis points, while UST yields fell 13 to 19 basis points.

The three-year muni-UST ratio was at 57%, the five-year at 61%, the 10-year at 65% and the 30-year at 89%, according to Refinitiv MMD’s 3 p.m. ET read. ICE Data Services had the three at 55%, the five at 58%, the 10 at 64% and the 30 at 88% at 4 p.m.

“Bond market performance is well in the green, consistent with our outlook for the opening weeks of 2023,” said Jeff Lipton, managing director of credit research at Oppenheimer Inc. “Yield levels seem to telegraph a hard conclusion to the Fed’s tightening cycle with an observable pivot to come, and of course the well-received employment report only added to the positive tone.”

Since the beginning of the year, the UST 10-year benchmark yield “has been migrating lower, albeit with a few detours along the way,” he said.

Munis have been “buoyed by a constructive technical backdrop with demand, including heavy reinvestment needs, outstripping available supply,” Lipton said, noting if “not for these technical conditions, the performance spread between UST and munis would likely be wider.”

Munis could outperform in the near-term, Lipton said, “should the weekly calendars remain manageable and demand holds in.”

Deals in the primary “are seeing good reception and are getting well-placed,” he said

Nevertheless, he “will be on the look out for growing supply and any cracks in the demand profile, which could alter the performance course for munis.”

Munis have continued their powerful January rally, with tax-exempt yields dropping another 35 to 46 basis points year-to-date, per MMD, the curve bull steepening with solid front end demand, said Matt Fabian, a partner at Municipal Market Analytics.

These gains are around twice those in USTs, “which have been benefitting from slowing inflation data and thus less hawkish Fed expectations this year,” he said.

Tax-exempts have begun “to contend with product scarcity via fund inflows, seen most prominently so far in the short-term and early maturity fixed-rate markets,” he said.

“The SIFMA 7-day index travelled in a 300bps round trip in the last month, rising from 2.21% to 3.80% between Dec. 7 and Dec. 21while the Fed raised its target rate by 50bps, but has since dropped back to 2.50% or 58% of the SOFR rate,” Fabian noted.

This, he said, reflects a lack of supply to engage “all $18.5 billion of the assets flowing into tax-exempt money funds in the last four weeks.” He said dealer balance sheets have contracted by more than half (to $9.8 billion from $20.6 billion) since Dec. 14, mostly via VRDOs.

Inflows returned with the Investment Company Institute reporting investors added $1.982 billion to mutual funds in the week ending Jan. 11, after $3.157 billion of outflows the previous week.

Exchange-traded funds saw inflows of $654 million after $864 million of inflows the week prior, per ICI data.

“While the beginning of an extended cycle of inflows may not have arrived yet, we do think that we have seen an end to the lengthy duration of negative flows and that at the very least, intermittent inflows can be expected,” Lipton said.

Should this come to fruition, he said, “it would likely be accompanied by less volatility, less selling pressure … and relatively less secondary trading volume compared to the experience of last year.”

Fabian noted the recent inflows “may well be just another one or two week break in what has been a persistent outflow cycle, but if not, tax-exempt prices are apt to push through even currently rich valuations,” Fabian said.

Since Sept. 1, “fund selling related to outflows has accounted for roughly one-third of weekly net supply (i.e., par needing a home with non-fund investors), so if fund inflows will now be resuming, net supply will fall by a third while fund demand rebounds: a formula for immediately higher prices, tighter spreads,” he noted.

Fabian also expects “that, not knowing the sustainability of current customer demand, the funds may over-allocate fresh cash to the more liquid front end, exaggerating bull steepening effects.”

In other words, “ratios and yields retain a bias toward richness right now pending more data on fund investor demand,” he said.

In the primary market Wednesday, Morgan Stanley priced for the California Community Choice Financing Authority (A1///) $837.860 million of Clean Energy Project revenue bonds. The first tranche, $8.850 million of 2023 Series B-1, had 5s of 2/2024 at 3.67%, 5s of 2/2038 at 3.78%, 5s of 8/2028 at 3.78% and 5s of 8/2029 at 3.86%, callable 5/1/2029.

The second tranche, $779.010 million of 2023 Series B-1, with 5s of 7/2053 with a mandatory put date of 8/1/2029 at 3.89%, callable 5/1/2029.

The third tranche, $50 million of 2023 Series B-2, saw 5s of 7/2053 with a mandatory put date of 8/1/2029 at 67% of SOFR +163 bp, callable 5/1/2029.

Citigroup Global Markets priced for Jobsohio Beverage System (Aa3/AA+//) $352.525 million of taxable statewide senior lien liquor profits revenue bonds, Series 2023A, with 4.433s of 1/2033 at par, make-whole call T+15 bps.

Morgan Stanley priced for the Orange County Health Facilities Authority, Florida, (A2/A+//) $300 million of Orlando Health Obligated Group hospital revenue bonds, Series 2023A, with 5s of 10/2027 at 2.58%, 5s of 2028 at 2.64%, 5s of 2033 at 2.99%, 5s of 2038 at 3.69%, 5s of 2042 at 3.88% and 5s of 2053 at 4.14%, callable 4/1/2033.

Raymond James & Associates priced for the Lafayette Parish School System, Louisiana, (/AA+//) $162.985 million of sales tax revenue bonds, Series 2023, with 5s of 4/2026 at 2.28%, 5s of 2028 at 2.26%, 5 of 2033 at 2.51%, 5s of 2038 at 3.21%, 4s of 2043 at 3.92%, 4s of 2048 at 4.05% and 4s of 2053 at 4.12%, callable 4/1/2033.

Goldman Sachs priced for the Louisiana Public Facilities Authority (A1/A+//) $162.390 million of Tulane University of Louisiana Project revenue and refunding bonds, Series 2023A, with 5s of 10/2025 at 2.35%, 5s of 2028 at 2.36%, 5s of 2033 at 2.69%, 5s of 2038 at 3.45%, 5s of 2043 at 3.73%, 5s of 2048 at 3.86% and 5s of 2052 at 3.94%, callable 10/15/2032.

Citigroup Global Markets priced for the Georgia Housing and Finance Authority (/AAA//) $100 million of non-AMT single-family mortgage bonds, 2023 Series A, with all bonds pricing at par: 2.45s of 12/2023, 2.95s of 6/2028, 2.95s of 12/2028, 3.6s of 6/2033, 3.65s of 12/2033, 4.15s of 12/2038, 4.35s of 12/2043, 4.55s of 12/2048 and 4.6s of 12/2053, callable 6/1/2032.

In the competitive market, the California Infrastructure and Economic Development Bank (Aaa/AAA/AAA) sold $545.320 million green Clean Water and Drinking Water state Revolving Fund revenue bonds, to Citigroup Global Markets, with 5s of 10/2024 at 2.15%, 5s of 2028 at 2.00%, 5s of 2033 at 2.18%, 4s of 2038 at 3.15%, 4s of 2043 at 3.50% and 4s of 2047 at 3.66%, callable 10/1/2032.

Washington (Aaa/AA+/AA+) sold 234.970 million of various purpose GOs, Series 2023B — Bid Group 2, to Wells Fargo Bank, with 5s of 2/2034 at 2.41%, 5s of 2038 at 2.92% and 5s of 2042 at 3.10%, callable 2/1/2033.

The state also sold $212.200 million of various purpose GOs, Series 2023B — Bid Group 3, to J.P. Morgan, with 5s of 2043 at 3.18% and 5s of 2048 at 3.37%, callable 2/1/2033.

Additionally, the state sold $158.870 million of various purpose GOs, Series 2023B — Bid Group 1, to BofA, with 5s of 2/2024 at 2.32%, 5s of 2028 at 2.08% and 5s of 2033 at 2.21%, noncall.

Secondary trading
Washington 5s of 2024 at 2.37%. NYC 5s of 2025 at 2.24%. California 5s of 2025 at 2.09% versus 2.17% Tuesday and 2.42% on 1/4.

Massachusetts 5s of 2029 at 2.15%-2.17%. NYC TFA 5s of 2029 at 2.14%-2.13%. California 5s of 2030 at 2.12% versus 2.54% on 1/3.

NYC 5s of 2033 at 2.36%-2.35%. NYC TFA 5s of 2035 at 2.62%-2.59%. King & Snohomish Counties SD #417, Washington, 5s of 2036 at 2.81%-2.76%.

Massachusetts 5s of 2049 at 3.47%-3.44% versus 3.52%-3.50% on 1/12 and 3.60% on 1/10. Charleston waters, South Carolina, 5s of 2052 at 3.38% versus 3.42% on 1/12 and 3.82%-3.83% on 1/3. San Antonio ISD, Texas, 5s of 2052 at 3.43%.

AAA scales
Refinitiv MMD’s scale was bumped eight to 10 basis points. The one-year was at 2.35% (-8) and 2.19% (-8) in two years. The five-year was at 2.10% (-8), the 10-year at 2.21% (-10) and the 30-year at 3.14% (-10) at 3 p.m.

The ICE AAA yield curve was bumped four to five basis points: at 2.36% (-4) in 2024 and 2.25% (-4) in 2025. The five-year was at 2.14% (-4), the 10-year was at 2.22% (-5) and the 30-year yield was at 3.21% (-4) at 4 p.m.

The IHS Markit municipal curve was bumped 10 basis points: 2.34% (-10) in 2024 and 2.17% (-10) in 2025. The five-year was at 2.10% (-10), the 10-year was at 2.22% (-10) and the 30-year yield was at 3.14% (-10) at a 4 p.m. read.

Bloomberg BVAL was bumped eight to 10 basis points: 2.34% (-8) in 2024 and 2.17% (-8) in 2025. The five-year at 2.12% (-8), the 10-year at 2.22% (-8) and the 30-year at 3.16% (-10).

Treasuries rallied hard.

The two-year UST was yielding 4.078% (-13), the three-year was at 3.723% (-15), the five-year at 3.434% (-19), the seven-year at 3.398% (-19), the 10-year at 3.373% (-18), the 20-year at 3.657% (-17) and the 30-year Treasury was yielding 3.538% (-13) at 4 p.m.

Economy: Is recession here?
Data released Wednesday has some economists concerned that a recession is starting.

“Coming on the back of the weakness in retail sales, the steep drop in industrial production and news of more job layoffs adds to fears the U.S. could already be in recession,” said ING Chief International Economist James Knightley. “This is the third consecutive month of contraction in industrial activity with output declines looking broadbased.”

December retail sales slumped 1.1%, more than the 0.8% drop predicted by economists polled by IFR Markets, while the producer price index dropped 0.5% in December, also larger than the 0.1% dip expected, while industrial production declined 0.7%, compared with expectations of a 0.1% slip.

“With industrial production having fallen in six of the past eight months, the largest of which being November and December, it is evident that the manufacturing sector is already in recession,” said Wells Fargo Securities Senior Economist Tim Quinlan and Economist Shannon Seery.

While these numbers don’t “bode well for overall economic growth,” they said, “the fact that manufacturers are more ‘wise to the game’ this cycle suggests they may be better positioned to weather an economic slowdown.”

With sales flat or down in all but two major retail sales categories, the weakness was broadbased, said Berenberg chief economist for Americas and Asia Mickey Levy, and economist Mahmoud Abu Ghzalah.

“The loss of spending momentum into year-end points to mounting consumer weakness and sets the stage for softer personal consumption in early 2023, particularly as labor market conditions begin to worsen,” they said.

Despite these numbers, Chris Iggo, chief investment officer at AXA Investment Managers, warns “there still might be room for upside surprises” in inflation, with the possibility that the annual figures will see stickiness, especially the core readings.

“Monetary policy must deal with the risks of inflation, but the causes need to be addressed by other policies — taxation, immigration, training, and investment,” he said. Wage inflation is a concern and “policy needs to address getting people back into the labor force.”

The Federal Reserve will stay “somewhat hawkish” through the first quarter, Iggo said, “and continue to push back against the idea that rates could be cut this year.”

Today’s “reports illustrate that the Fed is making progress in fighting inflation and while it’s unclear if it will cause the Fed to become more dovish, it at least implies that the central bank may not need to become more aggressive in raising rates and tightening liquidity,” said José Torres, senior economist at Interactive Brokers.

“Fed members understand that as soon as they lift their foot off the monetary policy brakes, the risk of another inflationary uptrend rises dramatically,” he added. “The Fed is no longer navigating an economy with plenty of disinflationary factors aiding its mission: it’s navigating the opposite, and the lessons of the 1970s and 1980s are calling on Powell to stay firm.”

Primary to come:
The Sales Tax Securitization Corporation, Illinois, is set to price $735.967 million of sales tax securitization bonds, consisting of $98.240 million of social bonds, Series A, serials 2026-2034 and 2041-2044 (/AA-/AA/AAA/); $131.995 million of second lien refunding bonds, Series A1, serials 2024, 2033-2034 and 2037 (/AA-/AA-/AA+/); $60.363 million of taxable social bonds, Series B, serials 2026-2034 and 2039-2041 (/AA-/AA/AAA/); $370.320 million of taxable refunding second lien bonds, Series B1, serials 2025-2033 (/AA-/AA-/AA+/); and $75 million of refunding bonds, Series C, serials 2031-2039 (/AA-/AA/AAA/). UBS Financial Services.

The Tennessee Energy Acquisition Corp. (A2///) is set to price $700 million of gas project revenue refunding bonds, consisting of Series 2023A-1 tax-exempts and Series 2023A-2 taxables. Goldman Sachs.

The Dallas Independent School District, Texas, (Aaa/AAA/AAA/) is set to price Thursday $542.5 million of PSF-insured unlimited tax school building and refunding bonds, Series 2023. Morgan Stanley.

The Connecticut Health and Educational Facilities Authority (Aaa/AAA//) is set to price Thursday $510.110 million of revenue bonds Yale University Issue, consisting of $250 million of Series 2014A and $260.110 million of Series 2017C-2. J.P. Morgan Securities.

The New Jersey Economic Development Authority (Baa1/BBB+//) is set to price Thursday $160 million of green taxable Offshore Wind Port Project state lease revenue bonds, 2023 Series A, serials 2024-2033. Loop Capital Markets.

Kansas City, Missouri, (Aa2/AA//) is set to price Thursday $103.795 million of sanitary sewer system improvement revenue bonds, Series 2023A. Morgan Stanley.

Competitive:
Fairfax County, Virginia, (Aaa/AAA/AAA) is set to sell $335.155 million of public improvement bonds, Series 2023A, at 10:30 a.m. eastern Thursday.

Primary on Tuesday:
Citigroup Global Markets priced for Main Street Natural Gas (A3///) $695.935 million of gas supply revenue bonds, Series 2023A, with 5s of 6/2024 at 3.90%, 5s of 2028 at 3.93%, 5s of 2030 at 4.10%, and 5s of 2053 with a mandatory tender date of 6/1/2030 at 4.15%, callable 3/1/2030.