As the market once again awaits the latest pronouncement from Chairman Ben Bernanke, this time through his testimony before Congress on Wednesday, the latest economic data continue to support the Fed’s base economic scenario. Although the June Consumer Price Index was up 0.5%, its worst showing since February, much of the increase was attributable to energy and seasonal factors. Core CPI was in right on top of Street estimates at a 0.2% gain, resulting in a 1.8% rise overall, still under the Fed’s 2% target. The economic recovery also remains on its steady, albeit lackluster, track: industrial production rose 0.3% in June after a flat May, while capacity utilization edged up to 77.8% from a revised 77.7% in May. The recent surge
The 10-year Treasury yield closed last night at 2.55%, well on its way to fully erasing the effect of the June payroll report. The 30-year yield dropped three basis points yesterday to 3.61%.
Although an eventual rise in interest rates had been expected for some time, the speed and severity of the recent yield spike shocked investors and provided them with the perfect excuse to rotate out of fixed income into equities. The benchmark Barclays US Aggregate Bond Index is on pace for its worst year ever, with a 2.71% year-to-date decline through July 12th.
Tax-exempt bonds continue to offer compelling relative value versus their taxable counterparts…
As we discussed in the previous column, if you still had to own some bonds, you might as well be in municipals. Tax-exempt bonds continue to offer compelling relative value versus their taxable counterparts: the ratio of AAA muni over Treasury yields has now reached a new high at 110% in the 30- year range. At this writing, the AAA 30 year scale from Municipal Market Data is holding around 4.0%, a significant level for retail participation.
New Issue Market
With temperatures rising across the nation, the municipal market too is heating up. This week’s muni new issue calendar is expected to top $9.65 billion of new volume, a sharp increase from the revised $5.38 billion that was priced last week, according to Thomson Reuters. Accounting for much of that supply is a $2.9 billion deal from the Grand Parkway Transportation Corp., scheduled for pricing on Wednesday.
Considered one of the largest infrastructure projects in the country, the Grand Parkway is a proposed 184 mile peripheral loop around the greater Houston metro area. The proceeds from this week’s issue will go toward the development and construction of five segments aggregating about 54.5 miles, located in Harris and southeast Montgomery counties.
Considered one of the largest infrastructure projects in the country, the Grand Parkway is a proposed 184 mile peripheral loop around the greater Houston metro area.
From a structural standpoint, there will be a little bit of everything for everybody. About $2.5 billion will be tax-exempt, the balance will come as taxables. From a security standpoint, the bulk of the issue ($2.7 billion) will be secured by a subordinate lien on toll revenues but effectively backed by an appropriation pledge from the State of Texas’ Department of Transportation (TxDOT) through the so-called Toll Equity Loan Agreement (TELA). Because of the State backing, the TELA-backed bonds will be rated AA by S&P and AA- by Fitch. The un-enhanced $200 MM First Tier Toll Revenue Bonds will carry a BBB rating from S&P and BBB+ from Fitch. In order to tap into every pocket of potential demand, deal manager Goldman Sachs has thrown in every coupon and maturity mix imaginable, from fixed coupon to variable rate tenders, from current interest bonds to capital appreciation bonds and even convertible capital appreciation bonds.
As of this writing, the price talk on the First Tier Toll Revenue Bonds (Series 2013A), the only “high yield” component of the deal, centered around 5 ¼% coupon to yield 5.35% for the 2043 maturity and 5 ½% to yield 5 5/8% for the 2053 maturity. The suggested spread of +135 off AAA in the 2043 maturity looks tight for a BBB credit and doesn’t seem to include any pricing concession for the massive size of the deal, in our opinion.
We see more compelling value in the taxable Subordinate Tier/TELA-supported Series 2013E: the suggested pricing of +160 off 30-year Treasuries for this index-eligible, AA-rated tranche looks attractive to us, subject of course to your own investment parameters.
From a credit standpoint, we draw your attention to a couple of interesting points. First, although this issue benefits from a “gross” revenue pledge at this time (i.e. debt service gets paid ahead of operating expenses), there is a provision to turn this into a “net’ revenue pledge down the line, presumably once any construction/ramp-up risk has been put behind. Secondly, the TELA pledge is subject to an aggregate dollar amount cap ($9.6 billion) as well an annual amount cap (based on a complex formula) , with no rollover of unused capacity. This pledge may also get diluted in the future, should TxDOT significantly expand its commitment to other obligations that are senior to the TELA. Needless to say, by its very nature, the TELA is always subject to annual appropriation risk (in Texas’ case, it’s actually a “biennial” appropriation risk).
Our comments should not be taken as a comprehensive credit analysis, of course: the Grand Parkway deal is a very complex transaction and a thorough review of all offering documents is recommended for all potential investors.
Disclaimer: The opinions and statements expressed in this column are solely those of the author and Axios Advisors, who are solely responsible for the accuracy and completeness of this column. This column does not reflect the position or views of RICIC, LLC or MuniNetGuide.
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