Puerto Rico Digested Signals Rally on Issuance Drop: Muni Credit

Investors who missed out on bond sales from Puerto Rico, California and Chicago this week will have even fewer chances to add new debt as issuance is poised for a record decline.

States and municipalities are scheduled to sell about $2.7 billion of debt next week, down from $12.8 billion this week, data compiled by Bloomberg show. The slowdown is the steepest since at least 2003 for a non-holiday week.

The $3.7 trillion municipal market has outpaced Treasuries and corporate securities in 2014 as issuance slumped. The drop in supply next week may extend the rally, defying the historical trend of March losses, said Mark Paris at Invesco Ltd. and James Dearborn at Columbia Management Investment Advisers. Munis have lost money every March since 2009, the longest streak for any month, Bank of America Merrill Lynch data show.

“There were concerns about how the market would react to supply this week, but the tone of the Puerto Rico deal helped the overall market,” said Dearborn, head of munis in Boston at Columbia, which oversees about $30 billion in local debt. “People are looking forward to next week and buying while the getting is good, because we may go back to the doldrums we had in January and February.”

Junk Record

State and local bonds are rebounding from their worst year since 2008, buoyed by resurgent demand and $14 billion of February sales, the skimpiest slate in at least a decade. In contrast to 2013, when individuals pulled money from muni mutual funds for an unprecedented 32 straight weeks, they’ve added assets for eight of 10 weeks this year, Lipper US Fund Flows data show.

Puerto Rico’s $3.5 billion bond sale on March 11 was the biggest for the market since Illinois offered $3.7 billion of taxable debt three years ago.

The U.S. commonwealth boosted its record junk deal by $500 million as it received about $16 billion of orders.

California, with the second-lowest credit grade among U.S. states, increased its offering by about $200 million to $1.81 billion after individual investors placed orders for 62 percent. Chicago, with a lower general-obligation rating from Moody’s Investors Service than any of the 90 most-populous U.S. cities, sold $883 million, up from a planned $405 million.

Deals Flow

California and Chicago lowered yields from initial levels and expedited their offerings, Bloomberg data show. Puerto Rico’s debt priced to yield about 8.73 percent, lower than earlier speculation of 10 percent or higher.

“People were worried about the calendar, and you come into this week and Puerto Rico is multiple times oversubscribed and California goes more than 50 percent to retail,” said Paris, who manages Invesco’s $6 billion high-yield muni fund from New York. “Now we go back to a situation where the same factors are still in place -- not a lot of supply, and positive flows.”

Municipalities typically boost bond sales in March, issuing about $31 billion on average, second only to June’s $32 billion. The supply surge has caused local debt to decline in March for five straight years, Bank of America data show.

Munis have lost 0.1 percent this month through March 12, trimming this year’s gain to about 3.5 percent. That would be the best quarterly start to the year since 2009.

Tax Time

Historically, the ramp-up in issuance is met with diminished demand as individuals, who own about 60 percent of the market either directly or through mutual funds, sell debt to pay tax bills, said Paris and Dearborn. That may not be the case this year, they said.

Top earners may instead retain their tax-free holdings and turn to taxable assets to raise funds as they face levies on bond interest payments that are up as much as 24 percent from 2012.

“Seasonality may get trumped by the fact that people are seeing their accountants and paying higher tax bills than they did last year,” Paris said. “If flows stay stable or positive, we may totally miss the seasonality that we normally see in late March to early April.”

The municipal market has already shown signs this week of reversing the losses from earlier this month. The debt jumped 0.2 percent on March 12, the biggest gain in nine days, S&P Dow Jones Indices data show.

The largest exchange-traded fund tracking the broad muni market, the $3.05 billion iShares National AMT-Free Muni Bond ETF, reached the highest price since March 4 yesterday.

“This year has just been different -- supply is below what everyone had anticipated,” Dearborn said. “This week, people saw the opportunity to get invested. There’s a perception that we’re going back to where we were in terms of low supply.”

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