This week we start with a look at some bizarre coincidences that have us wondering if it is Spring that is the cause. We next look at who is buying so much debt and to contemplate the implications for the muni market. We conclude with a look at Exports and a reminder that the world really is a small place.
This week we made our way to Alexandria, Virginia despite the prospect of a snow storm that threatened to shut down businesses, roads and … our government. Along the way, I encountered some strange coincidences. Let’s start with the fact that, despite every weather model predicting a major storm, it passed us by (coincidentally like the dire predictions around sequester). Thursday’s weather was nice with Friday bringing sunny skies and temperatures in the 50s. Perhaps a thaw with Spring in the air and Cherry Blossoms on the way. Coincidentally, bi-partisanship was seemingly beginning to bud in DC. President Obama hosted a dinner with a bunch of Republicans (although he still wouldn’t let them in the White House – I’m kidding) and Rand Paul and a band of merry politicians from both parties (that’s at least one from each) held an old-fashioned 13-plus hour filibuster. Coming from the long, dark political winter of the past few years, any sign of bi-partisanship is welcomed. With these happy thoughts in mind, who knows, maybe a budget deal will be reached, sequester hell will be amended to reflect sanity (before those dire predictions have a chance to materialize), the muni tax exemption will be preserved and the Mets will win the World Series! A guy can dream.
Who’s Buying All That Fixed Income Paper?
I recently happened upon an interesting piece entitled “Fifty Trades of Grey” by Michael Cembalest. Having not read the trilogy, but hearing so much about it, I was looking forward to this story. However, Michael posed a question, not directed at muniland, worth all of us considering. “What will happen when the Federal Reserve stops purchasing tens of billions of Treasury and Agency debt every month?” My question re-phrase: What will happen to the muni market when the Fed lets market forces dictate fixed income rates?
Some sobering data points reported by Mr. Cembalest:
- “For the last fifty months, the Fed has been buying Treasuries and Agencies, $2.5 trillion in all (measured in 10-year equivalents). As the Fed ravishes the riskless debt markets, its demand now accounts for [approximately] 55% of the entire net supply issued by Treasury, Ginnie Mae, Fannie Mae and Freddie Mac.”
- Net of Fed purchases, there will be almost no net debt new issuance in 2013… (includes munis in the sum total).
- Fed Governor Jeremy Stein expressed concerns about “over-heating credit markets, noting ‘reach for yield’ behavior and deterioration in terms of conditions. While high yield spreads don’t look tight in an historical context, yields tell a different story. “
Turning to the municipal market, consider the above points and the impact of the Fed discontinuing its monthly purchase of “riskless” securities and market participants seeking a yield consistent with the risk or, alternatively, spreads stay where they are but yields on the debt the Fed has been purchasing rises. While it is almost a certainty that the Fed will not simply discontinue these purchases, the mere indication of a slowdown in purchasing will surely be reflected in rates. Fortunately, municipalities have taken advantage of low rates to refinance, but future debt issuances will surely be more expensive. Perhaps the silver lining will be that pension plans will be able to support their current discount rates. Municipal issuers and bondholders have some things to think about – credit quality for the long run. Add to this the uncertainty around tax-exemption and we have some serious issues to ponder for a bit. We are interested in your thoughts or even an opinion that we can share with other readers.
It’s a Small World
This leads me to exploring some recent data and the reality that the world is a small place. This week we learned that our (US) Net Imports exceeded our Net Exports – in other words, the Trade Deficit went the wrong way. I don’t profess to know why but I can speculate it has something to do with Europe having a really rough time and China and other Asian countries warning of or experiencing a slowdown (you can also argue it has to do with our economy strengthening but the below data suggests otherwise). So, you ask, how will exports affect munis? Consider a States’ reliance on Exports relative to GDP of the State.
DIVER Analytics, Filter Module; US Census Bureau and Bureau of Labor Statistics
The table below identifies States that rely on Exports for greater than 10% of their GDP.
DIVER Analytics, Filter Module; US Census Bureau and Bureau of Labor Statistics.
As one considers the potential impact of Exports shrinking or not growing, focusing on Employment data, Wages and, of course, Tax Receipts is warranted.
Using DIVER Analytics’ tools to review the January 2013 data for Exports, we unearth some interesting points. First the good news – Exports were greater in 35 States when we looked at January 2013 compared to one year ago. However, when we looked at January 2013 compared to six and three months ago, we see the trend heading the wrong way – greater exports in only 29 States and 12 States, respectively. The next logical step here is matching the above referenced data points ( Exports as a percentage of GDP and States where Exports are growing or not). A look at the State data box – for those where your exposure is greatest – will identify the State’s top trading partners. The identity of the export partners matters very much as the world is, indeed, a very small place.
Finally, I would be remiss if I didn’t mention the positive Employment figures reported this past week – less Initial Jobless Claims, better Employment numbers and a lower Unemployment rate. We’ll take a closer look at the details in coming commentaries but, as always, we encourage our readers to look beyond the headlines. I did notice that the Labor Force continues to shrink (130,000 less) and the participation rate is at 63.5%.
As I look back at this week, the headline Employment numbers look good, the snow storm bypassed DC, the President had dinner with the “other guys” and there was a hint of Spring in DC. Let’s hope this is the start of a trend and not another false start. The details are what matters – be it the data, politics and certainly when it comes to how Congress treats tax exemption and the municipal market.
Later this week, we will be submitting a Comment Letter to the MSRB around Proposed Rule G-47. If you are interested in a copy, please let us know.
Gregg L. Bienstock
CEO& Co-Founder, Lumesis, Inc.