09 June 2020

Municipal Monitor—Fed Extends Its Reach

By Sam Weitzman, Robert E. Amodeo

Welcome to the inaugural edition of the weekly Western Asset Municipal Monitor. Given the recent market volatility and ever-changing market conditions, we hope this new publication will provide muni investors with relevant and useful content. Our goal is to highlight the most valuable and timely information available from the 50,000+ obligor and 50+ sector muni market, while also providing our unique insight. Please contact your Western Asset representative for any questions or feedback.

Last week the municipal market was spared the pain associated with the jump in Treasury rates, as it was supported by strong flows into municipal mutual funds and bolstered by the Fed extending its reach into smaller municipalities and revenue-backed liens. This alleviated liquidity concerns for many municipalities dealing with budgetary challenges related to the economic impact of COVID-19.

The Muni Market Was Relatively Unchanged Last Week, Underperforming Treasury Strength

During the week ended June 5, the Bloomberg Barclays Municipal Index was unchanged from the prior week, while the HY Muni Index returned 2.12%. AAA municipal yields moved modestly higher in intermediate and long maturities. Treasuries increased 16-26 bps and brought the Muni/Treasury ratio back to normal levels after rising to nearly 500% in some maturities in March, highlighting the volatility of this widely used metric at low levels of nominal Treasury rates.

Exhibit 1: Municipal Bond Yields
Explore Municipal Bond Yields.
Source: Muni Yields: Thomson Reuters MMD, Treasury Yields: Bloomberg. As of 05 June 20. Select the image to expand the view.

Muni Technicals Were Balanced, Considering Above-Average Supply and Fund Flows

Municipal mutual fund flows were supportive of valuations as funds reported $1.2 billion of inflows, a fourth consecutive week of inflows. Long-term funds recorded $349 million of inflows, HY funds recorded $195 million of inflows, and intermediate-term funds recorded $125 million of inflows. Year-to-date (YTD) municipal fund net outflows now total $16.6 billion.

From a supply perspective, the municipal market recorded $10.4 billion of new-issue volume last week, up 21% from the prior week. YTD municipal issuance of $162 billion is 24% above last year’s pace, primarily driven by taxable supply which is over 3x last year’s levels. We anticipate another ~$10 billion calendar next week, led by $3.5 billion of DASNY Revenue Anticipation Notes and an $800 million taxable University of Michigan transaction. We believe elevated supply conditions, paired with rate volatility, could offer attractive entry points, but will likely be met with seasonally high coupon and principal reinvestment.

The Fed Expands MLF, Opening the Door for Smaller Munis and Revenue Liens

On Wednesday, the Federal Reserve expanded the eligibility of its $500 billion Municipal Liquidity Facility (MLF) to municipalities of all populations and started carving a path for certain revenue-backed liens to access the facility.

The MLF initially had strict terms for both who can access it (counties with two million residents, and cities with one million residents) as well as pricing, which was well above market rates. The facility effectively provided a ceiling on short-term borrowing rates for the largest borrowers, and inspired confidence across the muni market. The Fed later relaxed the population standards to 500,000 and 250,000 residents for counties and cities, respectively.

The State of Illinois was the first municipality to tap the facility this week, receiving a $1.2 billion, 1-year term loan at approximately 100 bps lower than the new-issue market offered a couple weeks ago.

This loosening of MLF standards is significant and highlights the Fed’s willingness to ease borrowing pressures on state and local governments during this crisis, and should extend the ceiling on short-term borrowing rates to large revenue issuers. For stressed municipalities with cash needs, the MLF can provide funding relief and extend any near-term liquidity challenges to the medium term, but it is not a forgivable loan nor will it be a cure for structural challenges for some municipal entities.

Considering currently low nominal borrowing rates, debt service costs are less critical than direct aid needed to weather budgetary challenges associated with COVID-19. From a policy perspective, we are more focused on the HEROES Act to ascertain the degree of direct aid municipalities will receive and inform the level of austerity measures that will take place.

Exhibit 2: MLF Sample Purchase Rates as of Monday, June 1, 2020
Explore MLF Sample Purchase Rates as of Monday, June 1, 2020.
Source: Federal Reserve. As of 08 June 20. Select the image to expand the view.
Exhibit 3: Index Valuations and Returns
Explore Index Valuations and Returns.
Source: Bloomberg. As of 05 June 20. Select the image to expand the view.
© Western Asset Management Company Ltd 2020. 当資料の著作権は、ウエスタン・アセット・マネジメント株式会社およびその関連会社(以下「ウエスタン・アセット」という)に帰属するものであり、ウエスタン・アセットの顧客、その投資コンサルタント及びその他の当社が意図した受取人のみを対象として作成されたものです。第三者への提供はお断りいたします。当資料の内容は、秘密情報及び専有情報としてお取り扱い下さい。無断で当資料のコピーを作成することや転載することを禁じます。
ウエスタン・アセット・マネジメント・カンパニーDTVM(Distribuidora de Títulos e Valores Mobiliários)リミターダ(ブラジル、サンパウロ拠点)はブラジル証券取引委員会(CVM)とブラジル中央銀行(Bacen)により認可、規制を受けます。ウエスタン・アセット・マネジメント・カンパニー・ピーティーワイ・リミテッド (ABN 41 117 767 923) (オーストラリア、メルボルン拠点)はオーストラリアの金融サービスライセンス303160を保有。ウエスタン・アセット・マネジメント・カンパニー・ピーティーイー・リミテッド(シンガポール拠点)は、キャピタル・マーケット・サービス(CMS)ライセンス(Co. Reg. No. 200007692R) を保有し、シンガポール通貨監督庁に監督されています。ウエスタン・アセット・マネジメント株式会社(日本拠点)は金融商品取引業者として登録、日本のFSAの規制を受けます。ウエスタン・アセット・マネジメント・カンパニー・リミテッド(英国、ロンドン拠点)は英金融行動監視機構(FCA)により認可、規制を受けます。当資料は英国および欧州経済領域(EEA)加盟国においては、FCAまたはMiFID IIに定義された「プロフェッショナルな顧客」のみを対象とした宣伝目的に使用されるものです。
業務の種類: 金融商品取引業者(投資運用業、投資助言・代理業、第二種金融商品取引業)
登録番号: 関東財務局長(金商)第427号
加入協会: 一般社団法人日本投資顧問業協会(会員番号 011-01319)