Munis sell off ahead of Fed rate hike

Bonds

Municipals sold off across the yield curve amid elevated selling pressure as the first day of the Federal Open Market Committee meeting began Tuesday, with the one-year muni well above 2.5% and the 10-year surpassing 3%. U.S. Treasuries were weaker and equities ended down.

Triple-A benchmark yields rose eight to 10 basis points, depending on the curve, while USTs saw yields rise another three to eight basis points.

Short triple-A yields have risen more than 30 basis points over the past eight sessions while the long bond has risen 19, per Refinitiv MMD data.

Since August 1, the one-year has risen 118 basis points, the five-year 95 basis points, the 10-year 81 and the 30-year 82.

Two- and three-year muni-UST ratios have climbed to around 66% to 68%. The five-year on Tuesday was at 73%, the 10-year at 84% and the 30-year at 103%, according to Refinitiv MMD’s 3 p.m. read. ICE Data Services had the five at 73%, the 10 at 89% and the 30 at 104% at a 4 p.m. read.

The market is preparing for another rate hike this week by the Federal Reserve, and more losses are a base case, said Matt Fabian, a partner at Municipal Market Analytics in a Monday report.

“The bond market has been sick this year,” said Andy Sparks, head of Portfolio Management Research at

Still, the one-year triple-A benchmark yield is “now approximating the Fed’s pre-raise 2.50% rate, suggesting better footing and, potentially, a softer tax-exempt yield hike once the Fed acts,” he noted.

“Chances for resilience to the Fed are best at the long end,” he said, where, after last week’s heavy trading — around $80 billion of par exchanged, the most since late-May — “post-Fed pricing is likely more proximate.”

“A large, but not overlarge, amount of that traded par was customer selling,” he said.

Bids wanteds have been elevated since the larger August consumer price index numbers were released, sparking the UST and muni selloffs. Monday’s bids wanteds hit $1.687 billion.

Fabian said that last week’s “repricing was not a paper-only movement, with average trade size suggesting it was institutions lightening up, less so retail.”

Additionally, data from the Municipal Securities Rulemaking Board showed an increase “in customer liquidations of long tax-exempt 3s, 28% of which we sold at a price below 85 cents,” he said. “Selling pressure of long 2s was steady, and 85% of those were below 85 cents: endemic de minimus,” Fabian added.

“Lots of loose 3s suggest the funds were paying for outflows with liquidations,” he said. Mutual funds saw outflows at $1.4 billion and are at $53.9 billion outflows year-to-date, according to Refinitiv Lipper.

“The effect on fund NAVs has been pervasively negative, amplifying outflows for this total-return-oriented sector,” he said.•

Municipal issuers, he said, “have cut this week’s primary market to just a few billion dollars in respect of the Fed.” He noted this will “help the market digest fund outflows that occur this week.”

Relative value ratios are mostly encouraging as well. Tax-exempt spot ratios are all within post-May ranges, even though the five- and 10-year are closer to the lower end of theirs.

“News of higher-than-expected inflation puts pressure on fixed income markets,” said Nuveen strategists Anders S. Persson and John V. Miller.

“Treasury curve is inverted, mainly because many investors believe the Fed will eventually conquer inflation — perhaps by early 2023 — so they want to lock in long-term yields,” they said.

“Weekly new issue supply was priced to sell and most deals cleared the market. Fund flows were negative for the sixth straight week,” Nuveen strategists said. “[But] light new issuance this week should be a welcome relief, helping to shore up the secondary market.”

“The bond market has been sick this year,” said Andy Sparks, head of Portfolio Management Research at MSCI. “The future path of inflation and Fed actions will be the primary factors determining when the bond market may begin to recover. Investors holding mixed portfolios of equities and bonds, such as 60/40 strategies, are wondering when performance will rebound in at least one of these areas. The bond market will get better — but how long will that take, and how much further pain must investors endure before it shows signs of recovery?”

This year is the first in half a century “that a significant decline in equities has coincided with a major selloff in bonds,” he said. “Portfolio diversification has been absent, raising fundamental questions about whether bonds still serve as an anchor in portfolios. The elevated volatility in both asset classes reflects underlying concern about the macro-economy and potential Fed actions.”

Secondary trading
Washington 5s of 2023 at 2.50%-2.48% versus 2.31%-2.30% in 9/9. Georgia 5s of 2023 at 2.56%-2.55%. California 5s of 2024 at 2.69%-2.67% versus 2.46% Friday and 2.48% Thursday.

NYC 5s of 2027 at 3.03% versus 2.67%-2.64% on 9/6. NY Dorm PIT 5s of 2028 at 2.99%. Austin, Texas, 5s of 2030 at 2.94% versus 2.87%-2.84% original on 9/14.

California 5s of 2037 at 3.65% versus 3.48% Thursday and 3.52% Wednesday. DC 5s of 2037 at 3.65%-3.63% versus 3.58% Friday and 3.42%-3.39% on 9/12,

Triborough Bridge and Tunnel Authority 5s of 2047 at 4.35%-4.36% versus 4.29%-4.28% Friday. Massachusetts 5s of 2051 at 4.13%.

AAA scales
Refinitiv MMD’s scale was cut eight to 10 basis points at 3 p.m. read: the one-year at 2.59% (+10) and 2.64% (+10) in two years. The five-year at 2.73% (+10), the 10-year at 3.00% (+10) and the 30-year at 3.69% (+8).

The ICE AAA yield curve was cut eight to 11 basis points: 2.60% (+11) in 2023 and 2.65% (+8) in 2024. The five-year at 2.72% (+9), the 10-year was at 3.07% (+8) and the 30-year yield was at 3.68% (+9) at a 4 p.m. read.

The IHS Markit municipal curve was cut 10 basis points: 2.56% (+10) in 2023 and 2.62% (+10) in 2024. The five-year was at 2.72% (+10), the 10-year was at 3.00% (+10) and the 30-year yield was at 3.71% (+10) at a 4 p.m. read.

Bloomberg BVAL was cut eight to 10 basis points: 2.61% (+10) in 2023 and 2.62% (+9) in 2024. The five-year at 2.66% (+9), the 10-year at 2.96% (+9) and the 30-year at 3.69% (+8) at 4 p.m.

Treasuries were weaker.

The two-year UST was yielding 3.958% (+2), the three-year was at 3.933% (+4), the five-year at 3.743 (+6), the seven-year 3.683% (+6), the 10-year yielding 3.560% (+7), the 20-year at 3.825% (+4) and the 30-year Treasury was yielding 3.569% (+5) at the close.

Competitive:
The Board of Water Works of the Louisville/Jefferson County Metro Government, Kentucky, is set to sell $128.660 million of water system revenue and refunding revenue bonds, Series 2022, at 10 a.m. eastern Thursday.

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