Muni Supply Picks Up; Impact Is Nominal

Federal Reserve data shows that in the second quarter of 2014 municipal bond issuance increased and, for the first time in 12 months, outpaced maturing bonds.  The municipal bond market total size increased by $600 million during the quarter, but is still $9.8 billion smaller year-to-date.  One hundred and ninety-one billion dollars in long-term fixed rate bonds have been issued this year, which, according to data compiled by Bloomberg, is a 13% drop versus the total at this time last year.  This is the 4th straight year that issuance has dropped and that the market’s total size has shrunk.  At the same time, individuals have poured over $8 billion into municipal bond mutual funds in 2014, and banks have remained active buyers despite municipal bonds being excluded from the HQLA list.  Banks have added a total of $4.7 billion in 2Q14, and doubled their holdings since 2009, accounting for 12% of the total market.  Issuance has slowed recently, but is expected to pick up again through the end of this quarter with an estimated $12 billion coming to market before the end of September.  The country’s infrastructure is aging, and there are estimates that hundreds of billions need to be spent on various projects, which indicates that at some point there will be a large resurgence in issuance.  Recently, the political climate has not favored additional borrowing, and many local government entities are still grappling with expensive pension obligations that are crowding out any potential for increases in debt service costs.  This intermediate term trend is supportive of the municipal market and is likely to continue to drive performance in both gross terms and relative to Treasuries and other taxable investment grade options.