Municipal bond prices were bolstered by extremely thin supply this week, sending yields on The Bond Buyer's indexes lower of the fourth straight week.
The firmer tone was tempered, however, by caution late in the week as the markets decided to wait for today's producer price index data.
The 20-bond and 11-bond indexes of general obligation yields both fell 13 basis points, to 5.96% and 5.87%, respectively, from 6.09% and 6.00% a week ago.
The revenue bond index dropped 18 basis points, to 6.20% from 6.38% last Thursday.
The GO indexes have not been lower since March 30, when the 20-bond index was 6.07% and the 11-bond was 5.99%. The last time the revenue bond index was lower was March 24, when it was 6.16%.
The average yield to maturity of the 40 bonds used in the daily Municipal Bond Index, which is comprised mainly of revenue bonds, dropped 19 basis points, to 6.16% yesterday from 6.35% a week ago.
The rally in municipal bonds outstripped the one in government securities. The yield on the Treasury's bellwether 30-year bond declined a more modest seven basis points, to 7.27% yesterday from 7.34% last Thursday.
"Barring any fundamental change, such as a currency or monetary policy move, the municipal market suffers from a lack of supply," a trader said. "That's going to keep prices higher, and is the key thing to watch."
Strength in tax-exempts reflects the "combination of a thin calendar and very aggressive underwriting on some creamy competitive deals," a municipal market analyst said.
Both primary and secondary supply have been meager since the middle of May. Yesterday The Bond Buyer's 30-day visible supply was $3.3 billion, marking the 19th consecutive day that the key measure of future supply has been under $5 billion. Over that period (May 13-June 9), the daily average was $3.67 billion, compared with $5.23 billion for the year up to May 13.
Since the week of May 15, weekly long-term new issue sales have averaged only $2.34 billion, according to figures compiled from Securities Data Co. In the previous 19 weeks of 1994, from Jan. 3 through May 13, average weekly sales totaled $3.58 billion.
The volume of bonds listed for sale in Standard & Poor's Corp.'s The Blue List was $1.41 billion yesterday. Since June 1, this measure of dealer inventory has dropped $322 million.
"We've also had some technical signals from last week that indicated this week's strong move to lower yields," the municipal market analyst said. "The dollar has strengthened, which brought foreign investors back into Treasuries. Also, we've had comments from Federal Reserve Board officials that inflation is under control. That in turn has pushed back estimates of when the next Fed tightening would be, from as early as July to the end f the summer."
Despite the positive news, market players had by yesterday morning adopted a decidedly more cautious demeanor.
"We've had a nice run and it's probably time to take some profits," said a trader with a major New York desk. "We may overshoot on the downside, but the bottom line is: It's pay up or die. There's no supply."
An arbitrage trader sounded a more ominous note. "We're setting ourselves up to get clocked," he said. "You have to get in and make your money and trade long in munis, but when the music stops, you don't want to be the guy without a bid. At some point here, we're going to see that happen."
"The price levels I've seen over the last week leave me cold," a portfolio manager lamented.
"We still consider municipals cheap to taxables in the long run," a fund manager said. "We wish money was coming into our funds faster. Investors and a lot of brokers are still pretty demoralized by the big price drop early in the year, although the obvious strength in municipals against Treasuries over the past few days should increase confidence."
The municipal market analyst acknowledged that funds had been heavy sellers all day yesterday. "With the June reinvestment, you would think the funds were flush with cash, but they entered this week with very thin cash reserves," he said.
"We made our run and now people are getting the impression we're at the top of the range ... it's time to stay out of trouble, book some profits and see what happens from here," a broker said. "The only monkey wrench I see would come from the funds. If they continue to sell hard, then we will have a problem on our hands."
The short end of the market showed even more strength than the long end, as The Bond Buyer's one-year note index dropped 26 basis points in yield, to 3.55% on Wednesday from 3.81% a week earlier. That was the index's lowest level since April 20, when it was 3.48%.