Municipal Market Transparency Report: October 2011
November 7, 2011
The following points summarize the developments in the retail market for municipal bonds last month.
• The big muni news last month was that Harrisburg, the capital of Pennsylvania, filed for Chapter 9 bankruptcy protection. The city defaulted on bonds issued to finance an incinerator project that converts trash to energy.
• The incident didn’t have much impact on the retail markets. In fact, trading activity in October recovered somewhat from the ultra-low levels of August and September, though it was still a relatively quiet month.
• The average number of “investor buy” trades per day was 14,767, which is over 1,000 TPD greater than both August and September. Despite the improvement, during the past year only August and September had lighter buying volumes.
• Selling activity was also quite low in October. There were 5,258 “investor sell” trades per day, which is the third consecutive month it has fallen and the lowest total in the past two years.
• Mutual funds had a solid October, receiving $1.8B in net inflows (according to Investment Company Institute). This is a slight increase from September and a highwater mark for 2011, but it is well short of the peaks from 2009 which were routinely between $4B - $6B.
• As usual, in spite of reduced volumes retail investors remained strong net buyers. The October buy/sell ratio was 2.8, which is substantially increased from September’s 2.4 ratio.
• Median municipal spreads decreased in October, reversing a two-month trend that began in August.
• Median municipal yields, on the other hand, were mostly flat in October because Treasury yields increased at roughly the same pace as spreads fell.
• Comparably rated revenue bonds were generally yielding more than their general obligation counterparts, continuing a trend that began in August.
• As usual, the wealthiest states were the most actively traded issues in October. By itself California accounted for 20% of all GO purchases.
About the Market Transparency Report
The data and analysis contained in this monthly report are intended to provide transparency into the dynamics of the municipal bond market for retail investors. The report describes the important trends in the market, including trading volumes, most active issuers, yield/spread movements, and buy/sell ratios.
Retail trades are typically defined as odd-lot transactions under 100 bonds (i.e., less than $100,000 par value). The retail market is much smaller than the institutional market on a par value basis, but it accounts for roughly 75% of the trades that occur in the marketplace.
As you can see from the left-hand chart below, buying activity was reasonably steady in October (except for the Columbus Day holiday). The right-hand graph shows the average daily retail trades by month since January, 2009. You can see that the volumes in October were a sizable improvement over August and September, but still lower than all other months since September 2010.
Yields were essentially unchanged from last month, so it is hard to know what exactly accounted for the increased demand. One possible explanation is that last month’s strong equity market rally alleviated investor fears about the economy, creating a healthier appetite for municipal bonds – which have been maligned ever since Meredith Whitney was interviewed on “60 Minutes” last December.
As you can see from the left-hand chart below, investor selling activity was also smooth in October (again, except for Columbus Day).
The right-hand bar graph shows the average daily sell trades per month since January, 2009. You can see that the October selling volume was the lowest in nearly two years (since January, 2010). Again, given that yields were largely unchanged from last month, it is hard to know why selling volume decreased. Perhaps the optimism from the stock market rally prompted retail investors to hold onto their positions.
Yields and Spreads
As you can see from the left-hand graph, median municipal yields spiked briefly at the beginning of the month before stabilizing for the remainder of October.
You can see from the right-hand graph that this is one of the few instances in 2011 when yields increased and/or held steady. Yields peaked earlier this year following the infamous remarks by Meredith Whitney and have been falling ever since.
As you can see from the left-hand chart, municipal credit spreads decreased in October. The right-hand chart shows that this is the first month since July that spreads have fallen. Spreads came down in October for the same reasons that the equity market rallied – positive domestic economic news coupled with optimism about the European debt crisis. Municipal credit risk is largely a function of the macroeconomic environment, so big systemic changes (e.g., reduced unemployment, sovereign debt stability, etc.) make a difference even for municipal bonds that are funded by strictly local revenues.
In October, spreads for investment-grade, tax-exempt revenue bonds were consistently higher than their general obligation counterparts. This continued a trend that started in August. On the taxable side, AA GOs paid more than AA revenue bonds.
U.S. Treasury Curve
Treasury yields increased substantially during October as a result of the month-long equity rally. Investors sold off Treasuries in favor of risky assets (stocks, municipal bonds, etc.), dropping their price and increasing yields.
A second factor pushing up Treasury yields was Operation Twist, the Federal Reserve’s latest attempt to boost the economy. September 21 the Fed officially announced plans to sell $400B worth of existing medium-term Treasuries and use the proceeds to buy an equivalent amount of long-term bonds, thereby flattening the curve and reducing long-term yields.
The reason Operation Twist has had the opposite effect thus far is that the institutional investors who anticipated the program chose to sell as soon as the announcement was official. It was a classic case of “buy on the rumor, sell on the news.”
Before the details were announced, investors loaded up on large Treasury positions to take advantage of the inevitable pre-program rally. Once the details were official, those investors sold off their positions to lock in gains earned during the rally.
The left-hand chart below shows 10-year yields for the past month only. The right-hand chart shows the one year history of closing 10-year yields. Note that yields were indeed falling till late September, creating a selling environment that led to higher yields in October.
Appendix A: Yield Matrix
In this section we display the median yields for municipal bonds in each major agency rating grade and maturity bucket. We have created four different matrices – G.O. tax-exempt, revenue tax-exempt, G.O. taxable, and revenue taxable – because each sector has its own yield behavior. (Note that we post daily yield matrices on www.bonddeskgroup.com.)
About the BondDesk Yield Matrix
You can use these yield matrices to benchmark your own investment opportunities. Bonds that conform to the yields in this table are trading in line with prevailing market opinion. But bonds with a substantially different yield may be subject to differences in credit, liquidity, or other pricing characteristics. You need to research each individual bond to form your own opinion.
Appendix B: Sector Analysis
The pie chart below shows the share of investor buy trades for each of the four sectors defined above. As usual, tax-exempt revenue bonds dominate the trading activity, followed by tax-exempt GOs.
Appendix C: Most Actively Traded States: Investor Buys
The following table shows the states with the most actively purchased tax-exempt G.O. and revenue bonds last month. (NOTE: The data in this table is ranked by total number of tax-exempt municipal investor buy trades in that state.)
Appendix D: Highest Buy/Sell Ratios by State
The table below shows the buy/sell ratios for the top 20 most actively traded states. The higher the ratio, the more investors purchased these bonds and the less they sold. This is a useful statistic because it gives you a sense of momentum in the market.
(NOTE: The data in this table is ranked by total number of municipal transactions in that state - including buys, sells, taxable, and tax-exempt. That’s why CA is ranked #1 even though its buy/sell ratio is lower than NY’s.)
This report represents certain customer trades in municipal securities that have been reported by dealers to the Municipal Securities Rulemaking Board ("MSRB"). The report does not necessarily reflect all transactions that were effected on dates noted. There is the possibility of errors or delays in the trade submission process. Prices for transactions vary with market conditions and can be affected by trade size and other factors. The information provided has been obtained from sources deemed to be reliable, however BondDesk Group LLC does not guarantee the accuracy of the information contained in this report.
Fixed income securities are subject to increased loss of principal during periods of rising interest rates. Fixed-income investments are subject to various risks including changes in credit quality, market valuations, liquidity, prepayments, early redemption, corporate events, tax ramifications and other factors. Defaults on interest payments and/or principal may also occur. Projections, results and assumptions contained herein reflect past performance of the referenced securities and asset classes. Past performance is no guarantee of future results. The investment return and principal value of an investment will fluctuate such that an investment, if and when redeemed, may be worth more or less than its original cost.
This information is intended for general informational purposes only, and should not be used as the sole basis for any investment decisions. None of the information in the report constitutes an offer or solicitation to buy or sell any security or financial product, a recommendation concerning any security, financial product or asset class, or an offer to provide investment advice or any other service. Where advice is appropriate, please consult with a qualified financial or tax professional.
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