A spooked government market and hefty supply crushed municipals yesterday, sallowing the sale of $1.04 billion New York City bonds.
The government market plummeted as traders priced in a Clinton presidency.
And then supply pressure from relentless issuance sent municipal traders running, and bids evaporated.
By session's end, short-term municipal note yields rose nearly 30 basis points on average, while bond prices fell 3/4 to as much as 1 1/4 points.
As the day wore on, traders reported considerable uncertainty and nervousness about the outcome of the New York City offering in the down market.
The sale was one of the most complicated issues the city has ever sold. It included derivative products and plain vanilla tax-exempt and taxable general obligation bonds.
Market players worried that the street float from the city deal combined with a significant amount of bonds left over from $1.3 billion California bonds sold last week could spell more trouble for tax-exempts.
"If we don't get a price bounce, we've got a problem with all of this supply," a trader acknowledged. "The outcome of the city deal isn't clear yet and it seems like guys want it five basis points cheaper. The tone is very heavy and optimism is low."
New York City Deal
A 26-member syndicate led by Lehman Brothers priced and repricing $759 million tax-exempt general obligation bonds, the bulk of the city deal.
To entice wary investors, at the repricing, yields were raised by five basis points from 2000 to 2006 and from 2009 to 2018.
Stanley Ciemniecki, executive vice president and manager of Lehman's national underwriting desk, estimated street float at about 40% to 50%.
"We were chasing a down market and buyers were very cautious," he said. "We cheapened it up to get them in, but it's not going to be as tight as we would like.
"But, overall, you have to be pleased considering the market," Ciemniecki observed.
He added that the bulk of the loan remained in maturities from 1998 to 2003. He reported good business in 1996, 1997, 2004, 2006, the insured bonds in 2007 and 2008, as well as the Group B bonds.
The final offering included $759 million general obligation bonds priced to yield from 3.90% in 1994 to 7.15% in 2018.
Most of the GOs are rated Baal by Moody's Investors Service and A-minus by Standard & Poor's Corp. Maturities in 2007 and 2008 were insured by FSA and triple-A rated by both Moody's and Standard & Poor's.
Prudential Securities Inc. tentatively priced $70 million tax-exempt capital appreciation bonds under the city's "NYC BONDS" program.
The non-callable bonds, tailored for retail investors, were priced to yield from 5.60% in 1997 to 7.25% in 2012.
These bonds were also rated Baal by Moody's and A-minus by Standard & Poor's.
Prudential also tentatively priced $11 million non-callable taxable zero coupon "NYC BONDS".
The taxable bonds are aimed at investors who need to fund IRAs or other retirement accounts that are already tax-exempt.
These securities were priced to yield from 8.95% in 2008 to 9.10% in 2014.
The bonds were also rated Baal by Moody's and A-minus by Standard & Poor's.
To Swap or Not to Swap
On Monday night, city finance officials added yet another twist to one of the city's more difficult transactions: a $50 million Merrill Lynch & Co. derivative product known as short-rites, an indexed inverse floater.
These variable rate securities move inversely to market interest rates and are pegged to an index.
Because the product exposes the issuer to variable rate debt, indexed inverse floaters typically require an offsetting swap.
New York City does not have the state statutory ability to engage in interest rate swaps.
But Brown & Wood, bond counsel on the deal, has issued an opinion saying a swap in this instance is allowed.
"This is a swap, but it doesn't mean (the city) can do swaps in general," said Homer Schaaf, a partner at Brown & Wood. Schaaf said the city is expressly authorized to execute contracts that facilitate the issuance of variable-rate debt, and this swap contract falls into that category.
Other market participants involved in the deal were more hesitant even to call the transaction a swap, referring to it instead as a "bond issuance accommodation agreement."
Some market players questioned how the city could execute a swap without expressed legal authority.
Michael W. Geffrard, director of the city's Office of Public Finance, said, "Both the city's bond counsel and the city's corporation counsel said what we were doing complies with existing state law."
Geffrard said the city is legally able to complete the transaction under "its present variable-rate authority."
A press release the city issued yesterday said the structure saves New York 10 to 15 basis points, which translates into about $666,000 over the life of the bonds.
Although the city's bond deal got off to a shaky, city officials and underwriters said the all the various part of the issue have been or will be completed.
Early yesterday morning, market speculation swirled that First Boston Corp. had pulled its $39 million derivative product known as indexed fixed-rate bonds.
The securities are designed as a hedge for investors who own inverse floaters.
Richard A. Tilghman Jr., vice president in First Boston's public finance department, said the investment bank managed to find enough investors to purchase the offering, despite the falling market. He said the 24-year securities sold at a 6.6% interest rate, 55 basis points cheaper than city general obligations with the same maturity.
A Wall Street source, wished anonymity, said a $75 million taxable adjustable-rate offering, a Kidder Peabody & Co. proposal, is designed to mimic commercial paper. It is expected to be priced next Wednesday, a day before the GO sale is scheduled to close.
A Lehman Brothers proposal to sell $126 million in tax-exempt adjustable-rate bonds is also expected to be priced on Wednesday.
Nassau County
Leading competitive action, Nassau County, N.Y., which suffered a downgrade to Baa from A on Monday by Moody's, sold $86 million of GOs.
A Prudential Securities group won the unlimited tax general improvement bonds with a net interest cost of 5.879%.
The firm reported an unsold balance of $39.2 million.
Serial bonds were reoffered to investors at yields ranging from 3% in 1993 to 6.30% in 2011.
The issue was insured by the AMBAC Indemnity Corp. and triple-A rated by Moody's and Standard & Poor's.
Yesterday's Market
Municipal bond prices were quoted down 3/4 point to 1 1/4 point near the end of trading.
In the debt futures market, the December municipal contract settled, while the MOB spread narrowed to negative 247 from negative 257 Monday.
The credit markets began selling off last Thursday after the Fed failed to ease monetary policy as expected. Selling pressure increased early yesterday, eventually eradicating the bid-side of the market.
"Dealers are trying to duck at this point and that exacerbates the problem," said Peter Gordon, president of Peter J.D. Gordon Inc.
"There is a lot of supply in both the primary and secondary markets and you've also got funds that are selling to meet redemption costs," Gordon said. "It's a matter of time before supply lightens up or you get to levels where speculators are willing to come in."
Reflecting increased dealer holdings, The Blue List totaled $1.61 billion yesterday. The last time the total was that high was Aug. 27, when it was $1.74 billion. At that time, the markets was undergoing a painful correction from near record price highs reached in July.
Bid-wanted flow was steady throughout the session, traders said, with block of bonds in the $5 million to $10 million range commonplace. But as the market weakened, traders said bids vanished and much of the product failed to trade.
In secondary dollar bond trading, prices were quoted down 1/4 point to 1 1/4 points, traders said.
In late trading, California GO 6 1/4s of 2019 were quoted at 6.53% bid, 6.46% offered.
New York City Water and Sewer 6 3/8s of 2022 were quoted at 94 3/4-95 1/4, to yield 6.787% on the bidside and Washington Public Power Supply System 6 1/2s of 2015 were quoted at 97 1/4-5/8, to yield 6.737%.
Puerto Rico GO 6s of 2014 were quoted at 93 1/2-7/8, to yield 6.565% and Florida Board of Education 6s of 2025 were quoted at 93 1/4-3/4, to yield 6.50%.
In the short-term sector, yields rose 30 basis points as the market sold off sharply.
In late action, notes of Los Angeles, New Jersey, and Texas were quoted at 3.05% bid, 3% offered. Pennsylvania notes were quoted at 3.10% bid, 3.05% offered.
