Bonds

Municipals were steady Tuesday largely ignoring a weaker U.S. Treasury market after the consumer price index print showed inflation cooling. Equities closed higher.

The consumer price index report showed headline inflation rose 0.1% year-over-year.

Ahead of this week’s policy meeting, Jeff Lipton, managing director of credit research at Oppenheimer Inc., said UST “bond yields have kept to a fairly narrow trading range, with price support visible immediately post-CPI, only to erode later in the day Tuesday.”

The UST yield curve is still heavily inverted, “showcasing the impact of restrictive monetary policy,” he said.

Munis “have been building potential energy for some time and last week saw some released,” said Matt Fabian, partner at Municipal Market Analytics.

Lipton agreed saying munis “have been well-grounded leading into FOMC with the tax-exempt curve largely unchanged over the past several trading sessions.”

That continued Tuesday. Relative value ratios “moved lower through much of last week with the muni asset class outperforming UST month-to-date, 53-basis points versus a loss of 39-basis points respectively,” Lipton said.

The two-year muni-Treasury ratio Tuesday was at 63%, the three-year at 66%, the five-year at 66%, the 10-year at 68% and the 30-year at 89%, according to Refinitiv MMD’s 3 p.m. read. ICE Data Services had the two-year at 65%, the three-year at 68%, the five-year at 67%, the 10-year at 70% and the 30-year at 92% at 4 p.m.

The overriding theme for munis, Lipton said, “is the supportive technical backdrop that is not expected to match new-issue supply with the heavy reinvestment needs over the next few months.”

Lipton said it’s unsurprising that this week’s $3.5 billion new-issue calendar has “dropped significantly from last week’s new-issue plate given the usual and expected issuer sidelining ahead of a Fed policy meeting.”

While “munis are set up for better performance, perhaps modest single-digit returns, the near-term outlook for fund flows will make for a challenging read,” he said.

Lipton said “more rate certainty needs to be introduced into the investment calculus before a more enduring commitment materializes.”

Therefore, he said “stronger muni performance, with relative outperformance, can come about even if we do not see a near-term return to a positive flow bias.”

Should the FOMC leave short rates unchanged, he said bonds could rally, “but a rate hike could catalyze a market sell-off, resulting in higher yields.”

Fabian agreed and added it will be especially true if mutual fund inflows continue.

This could lead tax-exempts to outperform UST amid a bond rally. There has not been much buying from muni buyers due to “the lack of clear momentum (or fund flow) one way or the other,” he noted.

But given favorable muni technicals, Lipton said “movement to cheaper ratios may not be pronounced, and any performance bias would likely favor munis.”

Fabian said “the short and intermediate segments of the tax-exempt curve are well situated for gains on a Fed pivot.

“Current levels suggest dealers continue to price the offered side cheaply to manage down new-issue underwriting risks,” he said.

The already rich very front of the curve “may have a bit less room to run,” according to Fabian, “with SIFMA in particular down below 60% of SOFR again.” 

The front end could be at risk were the Fed to raise rates, or even if the Fed holds at the current 5.25%, without indicating rate cuts later this year, Fabian said.

Fabian credits this precarity with the “outsize value in primary market price discovery at present, and the likelihood that underwriters/dealers will attempt to replicate last week’s success for as long as possible this week,” he said.

In the primary market Tuesday, Wells Fargo Bank priced for the Wisconsin Housing and Economic Development Authority (Aa3/AA+//) $121.035 million of non-AMT housing revenue bonds. The first tranche, $29.390 million of 2023 Series A, all bonds price at par: 3.3s of 11/2026, 3.45s of 2028, 3.95s of 2033, 4.375s of 2038, 4.625s of 2043, 4.8s of 2048, 4.9s of 2053 and 4.95s of 2057, callable 5/1/2032.

The second tranche, $91.645 million of 2023 Series B, saw 3.75s of 5/2054 with a mandatory tender date of 11/1/2026 price at par, callable 5/1/2025.

Secondary trading
North Carolina 5s of 2024 at 3.05% versus 3.20%-3.14% on 6/1 and 3.29%-3.24% on 5/31. Washington 5s of 2024 at 3.08% versus 3.10% Friday. Texas 5s of 2024 at 3.12%.

Maine 5s of 2028 at 2.73%-2.71%. Maryland 5s of 2029 at 2.70% versus 2.79% on 5/30. NYC TFA 5s of 2030 at 2.78%.

NYC 5s of 2032 at 2.86%-2.85% versus 2.93%-2.91% Thursday and 3.12% original on 6/2. Georgia 5s of 2033 at 2.67%. Iowa Finance Authority 5s of 2034 at 2.79% versus 2.85% original on 6/7.

NYC TFA 5s of 2045 at 3.77%-3.65%. Raleigh, North Carolina, 5s of 2048 at 3.65%-3.64% versus 3.59% on 6/6 and 3.63%-3.60% original on 6/2. Baltimore County, Maryland, 5s of 2053 at 3.70%.

AAA scales
Refinitiv MMD’s scale was unchanged: The one-year was at 3.07% and 2.95% in two years. The five-year was at 2.66%, the 10-year at 2.59% and the 30-year at 3.50% at 3 p.m.

The ICE AAA yield curve was bumped up to one basis point in spots: 3.09% (flat) in 2024 and 2.99% (flat) in 2025. The five-year was at 2.65% (flat), the 10-year was at 2.60% (-1) and the 30-year was at 3.56% (flat) at 4 p.m.

The IHS Markit municipal curve was unchanged: 3.06% in 2024 and 2.95% in 2025. The five-year was at 2.66%, the 10-year was at 2.58% and the 30-year yield was at 3.49%, according to a 4 p.m. read.

Bloomberg BVAL was unchanged: 3.03% in 2024 and 2.93% in 2025. The five-year at 2.63%, the 10-year at 2.57% and the 30-year at 3.54% at 4 p.m.

Treasuries sold off.

The two-year UST was yielding 4.678% (+10), the three-year was at 4.292% (+7), the five-year at 4.004% (+11), the 10-year at 3.830% (+9), the 20-year at 4.117% (+6) and the 30-year Treasury was yielding 3.936% (+5) at 4 p.m.

CPI print is met with mixed reactions
Inflation showed signs of cooling in May as consumer prices rose 0.1% month-over-month.

Tuesday’s CPI number “was a relief for the market, as the data met expectations, confirmed the disinflationary trend, and reaffirmed current market pricing of a Fed pause tomorrow,” said Alexandra Wilson-Elizondo, deputy CIO of Multi Asset Solutions at Goldman Sachs Asset Management.

Angelo Kourkafas, senior investment strategist at Edward Jones, said “inflation continues to head in the right direction.”

The CPI print for May “rose at a 4.0% annual rate, in line with expectations, and meaningfully below last month’s 4.9% reading,” he said. This, he noted, “was the smallest annual increase since March 2021 and the 11th straight month of improvement since inflation peaked in June of last year at 9.1%.”

However, some argued the headline inflation number did not tell the whole story.

“Don’t be fooled by the sharp fall in headline inflation which is nearly all explained by falls in gasoline prices,” said Fitch Ratings chief economist Brian Coulton.

These data, he said, shows “underlying inflationary pressures are still stubbornly high, with core inflation stuck at 0.4% per month.”

“Don’t get sidetracked by falling headline inflation,” added Morning Consult chief economist John Leer.

The real story from Tuesday’s CPI print, he said, “is that core inflation remains persistently elevated.”

And even though core CPI came in a slightly softer than expected — 0.4% month-over-month versus 0.5% — Jeffrey Cleveland, chief economist at Payden & Rygel, who will offer a complete analysis of the FOMC meeting on Thursday, said “core inflation has now printed 0.4% or higher month-to-month for six consecutive months.”

Despite this, market participants said there were some bright spots from the report.

Coulton described the Fed’s “super-core” measure — services excluding rents — which fell 4.2% year-over-year as “better news,” while Cleveland said the good news “is that used vehicles prices picked up in the May data, but we can expect some relief in coming months based on auctions data.”

However, some other categories, such as medical care services, “may continue to offset, keeping core inflation too hot for the Fed’s liking,” according to Cleveland.

“It’s probably too soon to get your hopes up that underlying inflation is definitively cooling off,” he said.

Mickey Levy and Mahmoud Abu Ghzalah of Berenberg Capital Markets, though, argued there is “a tangible sign of progress the Fed has made in cooling inflationary pressures” as “the recent steep declines in annual CPI inflation, which was running at 6.4% in January and 5% in March, are set to continue into June, with annual inflation likely to move below 3.5% for the first time since April 2021.”

“While inflation came in broadly in line with expectations, there are signs of softening in some key categories,” said James Knightley, ING chief international economist.

Even with “housing costs and vehicle prices continue to run hot,” he said the outlook has improved rapidly.

This, Knightley said, “should cement expectations for the Fed to keep rates unchanged [Wednesday] but the commentary around the decision is likely to remain hawkish.”

Wilson-Elizondo expects “the Fed to deliver a hawkish pause tomorrow and to highlight the possibility of following a similar path to the Reserve Bank of Australia and the Bank of Canada, who both hiked after a pause.”

“The continued moderation in consumer prices in May should allow the Fed to skip another rate hike at the conclusion of its meeting [Wednesday],” said Scott Anderson, chief economist at Bank of the West.

However, he said “the FOMC will remain data dependent and could still increase the fed funds rate at the conclusion of their July meeting if the economic and core inflation data continue to come in stronger than expected.”

“Slowing inflation and a more favorable composition of inflationary pressures amid heightened uncertainty over economic conditions and credit tightening will likely tilt the Fed toward a ‘skip’ at its June 13-14 meeting, although Fed members are likely to signal the need for further rate hikes through year-end via their updated dot-plot and Summary of Economic Projections,” said Berenberg Capital Markets strategists.

Leer said while the Fed may pause hiking rates Wednesday, “it will have to raise rates again if it hopes to tame inflation.”

“As the summer progresses, the Fed will grow increasingly uncomfortable that it hasn’t ‘done enough’ to stop inflation,” Cleveland noted.

The July FOMC meeting could see the final rate hike, Kourkafas said.

“But the weaker growth that we anticipate down the road will likely pave the way for the central bank to move to the sidelines through the remainder of the year,” he said. “While rate cuts are not coming anytime soon, the Fed is likely nearing the end of what has been a historic cycle of interest-rate increases over the past 15 months.”

Primary to come:
The Louisiana Stadium and Exposition District (A2//A/) will price $549.5 million of tax-exempt Series 2023A senior revenue bonds Thursday. Serials 2024-2053. BofA Securities.
The Florida Development Finance Corp. is set to price $120 million of solid waste disposal revenue bonds Thursday behalf of the Waste Pro USA Inc. project. Serials 2032. Citigroup Global Markets.

The Minnesota Housing Finance Agency (Aa1/AA+//) is set to price $150 million of non-AMT tax-exempt and taxable social bonds on Thursday. Serials 2024 to 2035, terms in 2038, 2043, 2048, 2053. RBC Capital Markets.

Competitive
Chesterfield County, Virginia, (Aaa/AAA//) is set to sell $104 million of GO debt Wednesday. 

The Richland County, S.C., School District #2 (Aa2/AA//) is set to sell $158.42 million of GO debt Wednesday.

Christina Baker contributed to this story.

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