Reversing a trend seen in the previous quarter, the average gross underwriting spread earned on long-term negotiated bond offerings slipped during the third quarter of 1992, while spreads on competitive offerings rose modestly, according to Securities Data Co.
Meanwhile, housing spreads continue to be volatile as fees for housing bond offerings plunged to $8.47 per bond from $12.16 in the second quarter.
In the third quarter, the average gross underwriting spread for a negotiated offering was $9.30 per $1,000 of par value, down from $9.74 during the second quarter. Spreads on competitive issues rose to $8.80, up from $8.68 in the previous quarter.
The gross underwriting spread is the income earned by a dealer based on the difference in the price paid to an issuer for a new issue of bonds and the price of the bond sold to the public. The gross spread usually has four sources of revenue: the management fee, the underwriting fee, expenses, and the average takedown, which is the largest component of the spread.
The average gross spread for all underwritings was $9.23 per $1,000 par value in the third quarter, down from $9.58 during the second quarter. For all of 1991, the average gross underwriting spread was $10.29 per bond.
"The rise in competitive spreads is a reflection of the market," said Eileen O'Connell Unitas, principal and manager of municipal underwriting at Alex, Brown & Sons Inc., in Baltimore.
"Since the second quarter, the market has deteriorated and the risk on competitive underwritings is increasing, and with increased risk spreads have to go up, if only modestly," Unitas said.
This year's record number of refundings helped to narrow the spread on negotiated underwritings, Unitas said, adding that dealers may have had to shrink spreads to ensure that refundings met issuers' cost savings targets.
New-issue volume for the first nine months of 1992 totaled $171.07 billion, up 43% from the same period one year ago, according to Securities Data. Refundings totaled $81.91 billion, or 48% of the issuance during the first nine months. That compares with $33.11 billion, or 28% of the total for the same period last year.
During the second quarter, underwriters attributed a $3.26 rise in housing spreads to unattractive call or redemption features. In addition, other dealers cited the widely publicized problems of some housing bond guarantors that soured some investors, especially institutions on housing issues. The guarantors' financial difficulties helped to boost housing spreads because as the investor base dwindled, it was necessary to hike spreads to give salesmen more incentive to sell the bonds.
However, the declining interest rates that spurred this year's record refunding bond issuance have sent yield-hungry investors scrambling after a limited supply of high-yielding housing issues. This has fostered the substantial narrowing of housing bond underwriting spreads from the previous quarter.
"You have a lot of buyers that will continue to chase yields in a declining interest-rate environment, and when you have more buyers chasing after the few deals that are out there," spreads narrow, the dealer said.
However, the recent rise in tax-exempt and taxable interest rates should stave off further contraction among housing bond spreads, the dealer speculated.
"The spreads have bottomed; you won't see them continue to narrow," he said. This is because as interest rates rise, the spread between housing bonds and other tax-exempt issues narrows, giving buyers other investment alternatives, the dealer added.