Bonds

Munis weaker across the curve; UST sell-off on short end following CPI data

Municipals saw losses across the yield curve, outperforming a U.S. Treasury selloff on the front end of the curve but facing larger losses out long, while equities tumbled following a hotter-than-expected inflation report.

Two- and three-year muni-UST ratios are around 64% to 67%. The five-year was at 69%, the 10-year at 82% and the 30-year at 102%, according to Refinitiv MMD’s 3 p.m. read. ICE Data Services had the five at 71%, the 10 at 86% and the 30 at 100% at a 4 p.m. read.

Muni and UST yields surged Tuesday on expectations the Fed will have to aggressively raise interest rates to bring down inflation, said Scott Anderson, chief economist at Bank of the West.

Triple-A benchmarks were cut six to eight basis points, depending on the scale, while UST yields rose five to 18 basis points 10 years and in.

“This was last big piece of economic data on the way before the Fed meets next week to decide its next interest-rate move,” said Jan Szilagyi, CEO and co-founder of Toggle AI, said of August’s consumer price index report.

This has led many observers to believe the Fed will take a more hawkish stance on rate hikes.

“The July respite of decelerating price pressures appears to be short-lived and will place further pressure on the Fed to raise rates 75 bps in September, but also beyond,” said George Catrambone, head of Americas trading at DWS. “This could lead to terminal rate of interest higher (and for longer) than investors were expecting.”

There have been six consecutive weeks of rising tax-exempt yields, with triple-A benchmarks cheapening three to eight basis points last week and the curves “ending steeper despite another imminent Fed rate hike next week,” said Matt Fabian, a partner at Municipal Market Analytics.

“We have not seen such robust yields for more than a decade,” said Nuveen strategists Anders S. Persson and John V. Miller. 

Simultaneously, Fabian said, the U.S. Treasury yield curve continues to invert, the two-year at 3.751%, the 10-year at 3.422% and the 30-year at 3.498% following, he said.

The U.S. Treasury curve inversion, Persson and Miller suggests “progress in curbing inflation.”

“Many investors appear to want to lock in long yields, as they think yields will be lower in 2023,” they noted.

“That cautionary signal from USTs, along with upward pressure on short and intermediate yields following the Fed, is enough to worry municipal investors away from longer purchases despite endemic product scarcity, mostly oversold valuations, and nominal yields re-hitting classic entry points,” Fabian said.

Instead, he noted, “reinvestment and any other cash is sliding, as usual, into short-term/holding allocations.” The SIFMA seven-day index has rallied 44 basis points since the middle of August and $5.9 billion of dealer variable rate demand obligation inventories in late July have tapered to just $300 million.

Investors, though, do not appear to be using the muni exchange-traded funds as cash alternatives again, as they did throughout most of the pandemic, Fabian said.

“ETF net creations have been flat to negative since [Aug. 1],” he said. “This may mean a less noisy market if prices drop suddenly again.

Conversely, traditional fund flows “have not been a comfort, sawing back and forth between inflows and outflows since the start of 3Q and keeping underwriters and the primary market concessionary,” Fabian said.

But despite negative fund flows, Persson and Miller said, munis are seeing strong demand as ”individual investors are looking to lock in attractive tax-exempt yields on individual bonds.” They expect this trend to continue.

“The new-issue calendar should continue to be outsized and priced to sell,” they said. “Institutional investors should also continue to show strong demand for tax-exempt bonds as they rebalance portfolios back to stated mandates.”

Meanwhile, high-yield municipal yields increased roughly 17 basis points last week, with Nuveen strategists saying this was driven by a new burst of outflows.

Since “outflows now appear to be subsiding … the market ended the week with new found firmness,” they said. “High yield outperformed high grades, and credit spreads tightened,” they noted.

But muni-USTs ratios widened to more than 100%, impacting all muni valuations. The high-yield muni credit spread curve is inverted by more than 50 basis points. This week brings more supply after a light calendar last week.

In the primary, J.P. Morgan Securities priced for Colorado Springs, Colorado, (Aa2/AA+//) $291 million of revenue bonds. The first tranche, $127.444 million of utilities system refunding revenue bonds, Series 2022A, saw 5s of 11/2022 at 2.39%, 5s of 2027 at 2.60%, 5s of 2032 at 3.00%, 5s of 2037 at 3.62% and 4s of 2042 at 4.23%, callable 11/15/2032.

The second tranche, $163.560 million of utilities system improvement revenue bonds, Series 2022B, saw 5s of 11/2023 at 2.41%, 5s of 2027 at 2.60%, 5s of 2032 at 3.00%, 5s of 2037 at 3.62%, 5s of 2042 at 3.88%, 5s of 2047 at 4.01% and 5.25s of 2052 at 4.03%, callable 11/15/2032.

BofA Securities priced for the Pennsylvania Turnpike Commission (A1/AA-/AA-/) $255.015 million of turnpike revenue refunding bonds, Series A of 2022, with 5s of 12/2029 at 2.94%, 5s of 2032 at 3.28%, 5s of 2036 at 3.77% and 4.25s of 2041 at 4.35%, callable 12/1/2032.

BofA Securities priced for the Local Building Authority of Wasatch County School District, Utah, (Aa3///) $150 million of lease revenue bonds, Series 2022, with 5s of 12/2025 at 2.55%, 5s of 2027 at 2.69%, 5s of 2032 at 3.20%, 5.25s of 2037 at 3.79%, 5s of 2042 at 4.13%, 5.5s of 2047 at 4.21% and 5.5s of 2054 at 4.38%, callable 6/1/2032.

In the competitive market, the California Department of Water Resources (Aa1/AAA//) sold $264.325 million of Central Valley Project water system revenue bonds, Series BF, to Jefferies, with 5s of 12/2024 at 2.21%, 5s of 2027 at 2.31%, 5s of 2032 at 2.65% and 5s of 2035 at 3.04%, callable 12/1/2032.

Secondary trading
Los Angeles Community College District 5s of 2023 at 2.30%. District of Columbia 5s of 2024 at 2.42%-2.41%. Georgia 4s of 2024 at 2.32%-2.31%.

Maryland 5s of 2027 at 2.53%. Washington 5s of 2027 at 2.49%. New York City TFA 5s of 2031 at 3.15%-3.11%. California 5s of 2031 at 2.89%-2.90% versus 2.89% original on Friday.

NYC 5s of 2037 at 3.77%-3.74% versus 3.42%-3.47% on 8/19 and 3.41% original on 8/18. Minnesota 5s of 2038 at 3.37% versus 2.90% original on 8/19. California 5s of 2042 at 3.72% versus 3.74% Monday and 3.07%-3.02% original on Friday.

Triborough Bridge and Tunnel Authority 5s of 2047 at 4.09%-4.07%. LA DWP 5s of 2052 at 4.01%.

AAA scales
Refinitiv MMD’s scale was cut six to eight basis points at 3 p.m. read: the one-year at 2.34% (+6) and 2.39% (+8) in two years. The five-year at 2.48% (+8), the 10-year at 2.82% (+8) and the 30-year at 3.58% (+8).

The ICE AAA yield curve was cut six to eight basis points: 2.36% (+6) in 2023 and 2.40% (+8) in 2024. The five-year at 2.49% (+8), the 10-year was at 2.87% (+8) and the 30-year yield was at 3.54% (+6) at a 4 p.m. read.

The IHS Markit municipal curve was cut six to seven basis points: 2.32% (+6) in 2023 and 2.40% (+6) in 2024. The five-year was at 2.50% (+6), the 10-year was at 2.81% (+6) and the 30-year yield was at 3.55% (+7) at a 4 p.m. read.

Bloomberg BVAL was cut six to eight basis point: 2.40% (+6) in 2023 and 2.42% (+7) in 2024. The five-year at 2.45% (+7), the 10-year at 2.79% (+7) and the 30-year at 3.56% (+8) at 3:30 p.m.

Treasuries sold off on the front of the curve.

The two-year UST was yielding 3.751% (+18), the three-year was at 3.754% (+14), the five-year at 3.587% (+14), the seven-year 3.530% (+10), the 10-year yielding 3.422% (+6), the 20-year at 3.756% (+1) and the 30-year Treasury was yielding 3.498% (-1) just before the close.

CPI comes in hotter-than-expected once more
The consumer price index rose 8.3% year-over-year in August, a slight slowdown from 8.5% in July, but still well above the Federal Reserve’s 2% target, and higher than economists predicted.

The consumer price index increased 0.1% in August month-over-month, but the “modest gain for the headline index masked what was a disappointing report,” said Wells Fargo Securities Senior Economist Sarah House and Economist Michael Pugliese. “There remains considerable ground to cover before getting inflation back to a pace that resembles the Fed’s target,” they noted.

In the latest three reports, the core number grew at a 6.5% annualized pace, they said, “more than triple the 2% target,” a level that”remains even more distant at present.”

“The tight labor market has kept compensation, the largest cost for most businesses, advancing well above 2% (even after accounting for productivity growth), while consumer and business inflation expectations remain high relative to the range of recent decades,” they said.

August’s CPI report has reinforced market participants’ belief that the Fed will implement a 75 basis point hike at its September Federal Open Market Committee meeting, with some suggesting a full-point hike could be on the table.

“While some in the market may speculate about a 100 bps increase, I do not believe the Fed will choose to do that, preferring instead to emphasize that they won’t slow the pace of hikes until there is some moderation in inflation,” said Eric Winograd, senior economist at Alliance Bernstein. “Clearly that hasn’t happened yet, and that means that additional large increases (50 or 75 bps) remain likely in the months to come.”

“The report is unlikely to change much for the near-term Fed policy path as Fed communications last week clearly set the pace” for 75 basis points for this month’s FOMC meeting, said Morgan Stanley analysts. But the report may make it more difficult for the Fed to step down in the pace of tightening, they said, although they still see a 50 bp hike in November.

Bank of the West’s Andersonnoted the fed funds futures see a 100% chance of a 75-basis-point hike this month and a 58% chance for another 75 basis point hike at the November meeting.

All of this taken together means the Fed “needs to signal at least getting to 4% by the end of the year,” according to Marvin Loh, senior macro strategist at State Street Global Markets. “More hot CPI and labor prints in the coming months will push these expectations even higher. We expect that the Fed will signal a 4.25-4.5% terminal rate when it updates its dots next week.”

“Fixed income markets are pricing rates to reach almost 4% by the end of the year, up from the current target of 2.25% to 2.5%,” said Toggle AI’s Szilagyi. “This is substantially higher than even a month ago when they expected rates to rise to 3.5% by” yearend.

“The hotter than expected report means we will get continued pressure from Fed policy via rate hikes,” said Matt Peron, director of research at Janus Henderson Investors. “It also pushes back any ‘Fed pivot’ that the markets were hopeful for in the near term.”

Primary to come:
The Utility Debt Securitization Authority, New York, is set to price Thursday $876.200 million of restructuring bonds, consisting of $65.800 million of taxable, Series 2022T; $719.435 million of tax-exempts, Series 2022TE-1; and $90.885 million of green tax-exempts, Series 2022TE-2. Goldman Sachs & Co.

The North Texas Tollway Authority is set to price Wednesday $667.185 million of system revenue refunding bonds, consisting of $480.330 million of first tier bonds (A1/AA-//), Series 2022A, serials 2024-2026 and 2036-2040, and $186.855 million of second tier bonds (A2/A+//), Series 2022B, serials 2024-2029. Siebert Williams Shank & Co.

The Port Authority of New York and New Jersey is set to price Thursday $450 million of consolidated bonds, consisting of $250 million, Series 233, and $200 million, Series 234. Citigroup Global Markets.

The Los Angeles Community College District, California, (Aaa/AA+//) is set to price Wednesday $400 million of 2016 Election general obligation bonds, consisting of $300 million, Series C-1, serials 2023-2026, and $100 million, Series C-2, serial 2023. Citigroup Global Markets.

The issuer is also set to price Thursday $375 million of 2008 Election general obligation bonds, consisting of $200 million of tax-exempts, Series L-2, serials 2025-2037, and $175 million of taxable, Series L-2, serials 2023-2025. Ramirez & Co.

Bon Secours Mercy Health, Ohio, (A1/A+/AA-/) is set to price Thursday $211.565 million, Series 2022B, consisting of $106.740 million, Series B-1, and $104.825 million, Series B-2. J.P. Morgan Securities .

The healthcare system (A1/A+/AA-/) also is set to price Thursday $189.110 million, Series 2022A, consisting of $93.785 million, Series SC, and $95.325 million, Series VA. J.P. Morgan Securities.

The Texas Department of Housing and Community Affairs (Aaa/AA+//) is set to price Wednesday $150 million of social non-AMT residential mortgage revenue bonds, Series 2022 B. Jefferies.

Sarasota County, Florida, (/AA+/AA+/) is set to price Wednesday $132.720 million of utility system revenue bonds, Series 2022, serials 2028-2042, terms 2047 and 2052. Citigroup Global Markets.

The Mississippi Business Finance Corporation is set to price Friday $100 million of green Enviva Inc. Project exempt facilities revenue bonds, Series 2022. Citigroup Global Markets.

Competitive

Norwood, Massachusetts, is set to sell $100 million of unlimited tax general obligation school program, Chapter 70B bonds, at 11 a.m. Tuesday.

Los Angeles (Aa2/AA/AAA/) is set to sell $389.435 million of taxable social general obligation bonds, Series 2022-A, at noon eastern Thursday.

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