Bond Market Update. 112 th Annual Conference. John Hallacy. Michael Decker. Cindy Harris. Patrick Early. 10:30 12:10 May 7, 2018 Ferrara Theater

Transcription

1 10:30 12:10 May 7, 2018 Ferrara Theater 112 th Annual Conference May 6-9, 2018 St. Louis, Missouri Moderator/Speakers: John Hallacy Program Manager & Contributing Editor, The Bond Buyer Michael Decker Managing Director, SIFMA Cindy Harris Chief Financial Officer, Iowa Finance Authority Patrick Early Managing Director, Chief Municipal Analyst, Wells Fargo Advisors Bond Market Update #GFOA2018

2 Bond Market Update May 7, 2018 John Hallacy The Bond Buyer Presented by

3

4

5

6

7

8

9

10

11

12 Bond Market Update Government Finance Officers Association May 7, 2018 St. Louis

13 December Tax Reform 13

14 Preview 1. Iowa Finance Authority (IFA) Background State Revolving Fund (SRF) Housing 2. Recent Bond Issue: SFMB 2018 Series AB Overview of bond and swap structure Market takeaways Bond pricing 14

15 Primary Bond Financed Programs State Revolving Fund (SRF) Aaa/AAA/AAA $2.1 billion assets $1.2 billion bonds (fixed rate) Single Family Mortgage Bonds Aaa/AAA $479 million assets $329 million bonds $99 million VRDOs $67 million swapped 15

16 SFMB 2018 Series A & B Priced 4/2/18 Series A ($38.7 million fixed rate) Serials and Term Premium PAC Bond ($19.6 million) Series B ($20 million variable rate) SIFMA Floating Rate Note (FRN) 3 year mandatory soft put 5/3/21, 9% max penalty rate $15 million 70% LIBOR Amortizing Swap Effective 7/1/2018, 6.5 year par call option 16

17 Key Take Aways Favorable market dynamics for issuers Strong demand for tax-exempt munis (low supply) While overall rates are higher, spreads to MMD are generally tighter Market for publicly offered FRNs is very competitive Par swap terminations are relatively inexpensive and can provide future flexibility 17

18 Serial Bonds: $13.6 Million Par Coupons 2, x 2,000 Retail Institutional Offered Bonds 2.8x 2.6x 1, x 1, x

19 Term and PAC Bonds: Retail and Institutional Orders 120, , x 5.0x 80,000 60,000 40,000 20, x 0 7/1/2033 Term 7/1/2047 PAC 7/1/2047 FRN Retail Institutional Offered Bonds 19

20 Publicly Offered Soft Put Floating Rate Note Delivery Date 2.5Y 3Y Mandatory Optional Call Tender Final Maturity Initial Period Variable Rate: SIFMA % Soft Put: If unable to remarket bonds, then rate = 9% 20

21 Non-AMT Spreads to Municipal Market Data (MMD) A (4/3/17) 2017 C (8/22/17) 2018 A (4/2/18)

22 Swap with Par Termination Options Fixed Payer Swap (70% LIBOR) 1st Call Date Years from Effective Date (7/1/18) Fixed Rate No Call 1.959% Marginal Cost vs Non-call Swap 7/1/ % 0.67% 1/1/ %* 0.59% 1/1/ % 0.55% 1/1/ % 0.50% 7/1/ % 0.00% *Final swap rate = 2.49%, 6.5 year par termination option, Amortizing swap with 7/1/2047 final maturity 22

23 2018 Series A & B Selected Bond Structure Design and Impact All Fixed Rate with PAC Final 2018 AB Bonds Mortgage Yield 3.98% 3.98% Bond Yield 3.30% 2.79% Spread 0.68% 1.20% Considerations Basis Risk - bonds/swap Counterparty risk swap Unhedged interest rate risk (balance sheet hedge) 23

24 Post Tax Reform? Or 24

25 GFOA Best Practices / Advisories Debt Management Policy Use of Advisors Financing Instruments and Techniques Debt Issuance Disclosure Debt Management / Post Issue Compliance 25

26 Bond Market Update GFOA 2018 Michael Decker or

27 Fallout from tax reform 1 Demand effects Lower corporate tax rate Lower effective individual rates for some Property and casualty company proration 2 Gross-up provisions on outstanding bank transactions 3 Loss of advance refundings Revised structures o Shorter calls o Synthetic refundings o Taxable refundings HR 5003, legislation to reinstate advance refundings Alternative refunding transactions o Compensate Treasury for two bonds outstanding 4 Loss of tax credit bonds 27

28 Legislative Developments 1 S 2155, the Economic Growth, Regulatory Relief, and Consumer Protection Act High Quality Liquid Asset treatment for municipals under banks Liquidity Coverage Ratio rules Could be enacted in the next month Regulators rule proposals to follow What is liquid and readily marketable? 2 Tax technical corrections 3 Private activity bonds: Why did Congress eliminate advance refundings but keep PABs? 28

29 Infrastructure finance 1 The Trump administration proposed a comprehensive initiative to enhance infrastructure development $200 billion of new resources $100 billion for a competitive grant program that emphasizes state and local resource raising o 20% federal/80% state, local, private contribution $50 billion for rural infrastructure Expansion of PABs Extended change in use rules Extensive changes to the grant and environmental approval processes Likely would not generate $1.5 trillion of investment No proposed funding source No movement since February 29

30 Government Finance Officers Association Annual Conference Patrick Early Chief Municipal Analyst/Managing Director St. Louis, MO May 7, 2018

31 Municipal Bond Supply In December 2017, municipal issuance reached a record high $62.5 billion First quarter 2018 municipal bond volume declined approximately 31% year-over-year Refunding volume has declined approximately 67% YOY $70,000.0 Municipal Bond Issuance ($000s) $60,000.0 $50,000.0 $40,000.0 $30,000.0 $20, $10,000.0 $0.0 Source: Thomson Reuters

32 Municipal Demand Municipal bond demand has increased since TCJA took effect on Jan. 1 Net inflows totaled $3.8 billion during Q Net inflows totaled $1.2 billion during Q Net inflows totaled $1.4 billion during Q $2,000,000,000 Municipal Bond Fund Flows $1,500,000,000 $1,000,000,000 $500,000,000 $0 ($500,000,000) ($1,000,000,000) 1-Jan 1-Feb 1-Mar 1-Apr 1-May 1-Jun 1-Jul 1-Aug 1-Sep 1-Oct 1-Nov 1-Dec 1-Jan 1-Feb 1-Mar 1-Apr Source: Lipper FMI

33 Municipal Bond Holders Retail investors make up about 66% of municipal bond holders (combined Households and Funds) Approximately the same percent of retail buyers during Q Banks bought munis at a 2% higher rate than their overall market share during Q4 2017, ahead of Jan. 1 tax changes Insurance companies bought munis at 9% lower rate than their overall market share Source: Federal Reserve Funds (Mutual funds, CEFs, ETFs) 21% Money market funds Life 4% insurance companies 5% Property-casualty insurance companies 9% Property-casualty insurance companies 3% Nonfinancial corporate business 4% Rest of the world 3% Life insurance companies 2% U.S. Banks 17% U.S. Banks 15% Funds (Mutual funds, CEFs, ETFs) 19% Households 41% Nonfinancial corporate business 2% Households 47% Municipal Bond Holders Rest of the world 8% Households Nonfinancial corporate business U.S. Banks Property-casualty insurance companies Life insurance companies Money market funds Q Buyers Households Nonfinancial corporate business U.S. Banks Property-casualty insurance companies Life insurance companies Funds (Mutual funds, CEFs, ETFs)

34 Municipal Bond Performance Bloomberg Barclays Municipal Bond Index is down 1.6% percent year-todate (as of April 27) Munis have outperformed the Bloomberg Barclays US Treasury and Corporate Bond Indexes, which are each down 2.1% and 3.3%, respectively Outperformance has left munis expensive relative to taxable fixed income alternatives BVAL AAA Muni Yield % of Treasury 10 Year Description Current MTD % Change 3 Mth % Change YTD % Change 1 Yr % Change 2 Yr % Change 2 Year High Ratios BVAL AAA Muni Yield % of Treasury 2 Year BVAL AAA Muni Yield % of Treasury 5 Year BVAL AAA Muni Yield % of Treasury 10 Year BVAL AAA Muni Yield % of Treasury 30 Year Source: Bloomberg

35 High Yield Municipal Bonds HY muni issuance declined from 34 issues during Q to 12 issues during Q However, total volume increased from $888 million to $2.3 billion quarter-over-quarter HY munis have outperformed the broader muni market year-to-date. Bloomberg Barclays HY Muni Index has returned 0.9% YTD versus the Bloomberg Barclays Muni Bond Index which is down 1.6% (as of April 27). 40 High Yield Issuance $2, $2,000 No. Issues $1,500 $1,000 $500 Par Amount ($millions) 0 Q Q $0 Issues Par Amount ($millions) Source: Thomson Reuters

36 Bear Flattener Yield curve Source: Bloomberg 100 Basis points equals one percent. Short-term yields have risen over 80 bps yearto-date. Recently, the Bloomberg Municipal Benchmark two-year yield hit 1.87%, a 10- year high (as of April 26) representing almost 60% of the 30-year yield curve. Investors who are concerned about rising interest rates should defensively position portfolios by swapping into shorter duration bonds. Limits interest rate risk Also limits reinvestment risk by positioning investors to reinvest in a higher rate environment when bonds mature. Lower coupon bonds traded near or thru their de minimis limits during the first quarter Caution: Longer maturity lower coupon bonds may both underperform and provide less liquidity during rising rate cycles Favor premium coupon structure Often offer higher yields relative to duration and can provide an income cushion to help offset rising rates.

37 Bond Insurance Penetration Bond insurance penetration was down 30% during Q compared to Q Bond Insurance ($Par billions) 2.5 Par Amount ($billions) Assured Guaranty Municipal (AGM) Build America Mutual (BAM) Municipal Assurance Corp (MAC) National Public Finance Guarantee (NPFG) Source: Thomson Reuters

38 Wells Fargo Advisors is registered with the U.S. Securities Exchange Commission and the Financial Industry Regulatory Authority, but is not licensed or registered with any financial services regulatory authority outside of the U.S. Non-U.S. residents who maintain U.S.-based financial services account(s) with Wells Fargo Advisors may not be afforded certain protections conferred by legislation and regulations in their country of residence in respect of any investments, investment transactions or communications made with Wells Fargo Advisors. Wells Fargo Advisors is a trade name used by Wells Fargo Clearing Services, LLC and Wells Fargo Advisors Financial Network, LLC, Members SIPC, separate registered broker-dealers and non-bank affiliates of Wells Fargo & Company Wells Fargo Clearing Services, LLC. All rights reserved. CAR

39 112 th Annual Conference May 6-9, 2018 St. Louis, Missouri Questions: Speakers will take questions and comments. This session is being recorded, please utilize the microphone in the aisle to ask all questions. Provide Feedback: Please take a few minutes to provide your feedback at Discuss/Comment: Join the discussion at #GFOA2018 Contact GFOA: To contact GFOA about session topics please research@gfoa.org #GFOA2018