Municipal Bond Market Volatility
Municipal bond prices endured a considerable sell off during the month of November, before showing a rebound leading up to the Thanksgiving holiday. Four factors are key to understanding this volatility:
- Treasury weakness. Pronounced weakness in the Treasury market caused losses in all types of bonds.
- Massive supply. Massive municipal bond supply hit the market – approximately $14 billion of long-term new issuance during the week of November 15 alone. This does not include $10 billion of California revenue anticipation notes.
- Potential demand reduction. The Republican retaking of the House of Representatives on Election Day made it more likely that the Bush-era tax rates will be extended for all taxpayers. This should reduce the municipal bond demand from upper-income taxpayers that many were expecting.
- Build America Bonds uncertainty. The Republican retaking of the House has also added uncertainty to ongoing discussions around extending the Build America Bonds program – which is set to end Dec. 31. Republicans are generally not in favor of extension. Any extension will likely be for one year and at a subsidy rate no higher then 32 percent, down from the current rate of 35 percent.
Bond insurers’ increasing irrelevance
Ambac Assurance Corp., the second-biggest municipal bond insurer for decades before the credit crisis, was also in the news last month. Ambac Financial Group, Ambac Assurance’s parent company, filed for Chapter 11 petition on Nov. 8 – continuing the trend of bond issuers’ growing irrelevance and adding to market illiquidity.
The Office of the Commissioner of Insurance in Wisconsin is overseeing the bankruptcy, as Ambac Assurance is based there. The commissioner has submitted a rehabilitation plan to the Dane County Circuit Court for approval.
This event underscores our long-held belief that knowledge of municipal bond credit quality, deal purpose, and deal structure are critical when investing in today’s municipal market. Read our November President’s Letter, Credit Research Matters More Than Ever, for more on this important topic.
Principal and Sr. Vice President
Bernardi Securities, Inc.
December 2, 2010
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