MUB’s Evaporating Discount Signals Slower Outflows: Muni Credit
The largest exchange-traded fund tracking the $3.7 trillion municipal market is selling at the smallest discount to the value of its assets since July, signaling a slowdown in the record stampede out of local debt.
The $3.1 billion iShares National AMT-Free Muni Bond ETF, known as MUB, sold at about 0.03 percent less than the value of its holdings as of Oct. 23, data compiled by Bloomberg show. That’s down from a record 2.86 percent gap in June.
The ETF ended at a three-month high of $105.13 per share yesterday. It’s been trading at a discount since May, mirroring a drop in demand for city and state bonds as investors yanked a historic amount of cash this year from muni mutual funds. The shift suggests that buyers will return to local debt in the next few months, said Bart Mosley, co-president of Trident Municipal Research in New York.
“At least it means that those outflows will subside,” Mosley said. “The narrowing or the elimination of a discount on ETF products reflects the renewed comfort of investors with fixed-income generally.”
Munis are benefiting with other fixed-income assets from bets that the partial U.S. government shutdown this month will slow the economy and lead the Federal Reserve to extend its monthly bond-buying. Investors pulled about $746 million from muni mutual funds this week, about 40 percent less than the prior period, Lipper US Fund Flows data show.
Before the government standoff, speculation was building that the Fed was set to curb its purchases of Treasuries and mortgage debt. That helped spur the withdrawal of a record $55 billion from muni mutual funds in the 21 weeks through Oct. 16, according to Lipper.
“As the expectation for rates becomes more stable, then you have less uncertainty about how much bonds are worth and that should help close the MUB discount,” said Matt Fabian, managing director of Concord, Massachusetts-based research firm Municipal Market Advisors.
MUB, created in 2007, is similar to mutual funds that track an index of equities, bonds or commodities. A difference is that ETFs can be bought and sold throughout the trading day and their prices may rise or fall more than the value of the assets they hold.
The MUB has rallied in the past week, with investors adding about $21 million on Oct. 23, the first inflow since May 14, Bloomberg data show. Even with that gain, investors have pulled $227 million from the fund this year, after adding $885 million in 2012, the biggest annual jump since the fund began.
Detroit’s historic bankruptcy filing in July and concern that Puerto Rico’s finances were deteriorating heightened investors’ perception of risk in state and local debt, said Matthew Tucker, head of iShares fixed-income strategy at BlackRock Inc. (BLK) in San Francisco.
The MUB “is sensitive to the broader sentiments within the retail market around municipal bonds,” Tucker said. “And when that sentiment turns negative, it impacts flows.”
The health of Puerto Rico’s finances has implications for the entire $3.7 trillion municipal market. Its debt is held by 77 percent of muni mutual funds, according to Morningstar Inc. (MORN)
The territory’s securities are tax-exempt nationwide. They have rallied every day since commonwealth officials on Oct. 15 said the island has enough funds to potentially delay selling as much as $1.2 billion of sales-tax bonds through June 30 if borrowing costs are too high.
“The market still has some long-term concerns about Puerto Rico, but there’s not a near-term event which might lead to some re-pricing of Puerto Rico debt,” Tucker said.
The municipal market is also benefiting from a rally in Treasuries, said Mikhail Foux, a muni analyst at Citigroup Inc. in New York.
Treasury 10-year yields traded at almost a three-month low on signs that global economic growth has lost some momentum. More Americans than forecast filed applications for jobless benefits last week.
Ten-year Treasury yields fell to 2.47 percent this week, the lowest since July 22. That’s helped the muni market, where 10-year yields dropped to 2.71 percent, the lowest since Sept. 30.
“You are seeing the shift back to the investor mindset where people are preferring income and stability,” said Trident’s Mosley.
Munis are trailing gains in Treasuries as issuers nationwide plan about $7.6 billion of borrowing this week, the most since July. City and state debt has gained 0.3 percent this month, compared with 0.7 percent for Treasuries, Bank of America Merill Lynch data show.
The ratio of local to federal yields, a measure of relative value, is about 108 percent, compared with an average of 94 percent since 2001. The higher the figure, the cheaper munis are compared with Treasuries.
Following is a pending sale:
Arkansas plans to sell $200 million of general obligations on Oct. 29 via competitive sale. Proceeds will finance work on interstate highways. Arkansas last month issued about $469 million to finance highway construction, the state’s biggest municipal offering since at least 1990.
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