The U.S. municipal bond market has remained resilient to recent market volatility, with new supply continuing to flow through the pipes amid still-healthy demand.

Bond investors have generally retained their interest in munis, while ongoing and escalating trade-related risks between the U.S. and China have spurred a plunge in U.S. Treasury yields.

The yield on the 10-year U.S. Treasury note was bid at about 1.66% intraday Monday— a more than 50 basis point-wide inversion from the 3-month bill, which was trading at roughly 2.17%. 

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In the latest skirmish, China had retaliated last week against U.S. President Donald Trump’s recent threat to impose 10% tariffs on US$300bn worth of Chinese imports by lowering the value of its currency versus the U.S. dollar (below CNY7.00) and ceasing purchases of U.S. agricultural products.

The intensifying conflict between the world’s two largest economies has cast a large shadow over the capital markets – driving risk aversion higher – and government bond yields lower – across the globe.

The yield on the 10-year German Bund, for example, has fallen to a low of around -0.595%, while the Swiss, French, Dutch and Swedish 10-year bond yields are all below zero.

In fact, the entire yield curves of Germany, Switzerland, France, The Netherlands, and Sweden have all turned negative.

Since their recent 52-week peak on November 8, 2018, the yield on the 10-year U.S. Treasury note has plummeted by around 158 bps, which analysts at J.P. Morgan has attributed to a long list of factors, including “slower global growth, lower inflation expectations and a dovish Fed,” as well as escalating U.S.-China trade tensions, the end of Federal Reserve balance sheet reduction and “an increasingly growing share of negative-yielding global debt.”

J.P. Morgan placed the amount of negative-yielding bonds at about US$15tn, all of which they said can be found outside of the U.S. They added that this dynamic, “coupled with more favorable hedging costs for non-U.S. investors, has led foreign demand for U.S. Treasuries to increase, further compounding the decline in U.S. yields.”

Muni Yields Still Attractive

Meanwhile, yield-hungry bond investors have also generally been looking to the U.S. municipal bond market to put their cash to work.

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For the week ended August 7, Thomson Reuters/Lipper U.S. Fund Flows reported a net inflow of roughly US$2.07bn into municipal bond funds – not including ETFs such as the iShares National Muni Bond fund (NYSEARCA: MUB) and the Vanguard Tax-Exempt Bond fund (NYSEARCA: VTEB).

Moreover, while prices tick higher on U.S. government debt, investors have also been enjoying a fairly steady rise in MUB and VTEB. The ETFs have soared more than 9.9% and 8.1%, respectively, since their most recent 52-week lows in early November 2018. They were also each up around 0.25% intraday Monday to US$114.89 and US$53.93, respectively, according to the IBKR Trader Workstation.

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However, strategists at Barclays warned that while tax-exempts are “more attractive” to U.S. Treasuries at this point, at current yields, “some pushback from investors is likely, and ratios might remain somewhat elevated near-term.” They also noted other factors that could contribute to higher MMD/UST ratios include slower redemptions in the fall, slower fund inflows and robust supply.

Barclays highlighted that over the past several years, August has been a “surprisingly heavy supply month,” with average issuance at about US$35bn. They think this year will also likely follow this trend, with sales this past week at US$16bn one of the heaviest in recent history, and as 30-day visible supply remains “robust” at US$12bn.

Digging for Yield

Against this backdrop, Virginia’s Chesapeake Bay Bridge and Tunnel District aims to sell a little more than US$378m worth of first tier general resolution revenue bond anticipation notes (BANs), Series 2019, in large part to help finance its Parallel Thimble Shoal Tunnel Project, as well as pay capitalized interest on the issuance.

The Parallel Thimble Shoal Tunnel Project involves the construction of a new two-lane tunnel, spanning about one mile beneath the Thimble Shoals Channel in the Chesapeake Bay.

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The District’s Series 2019 BANs, issued as interim financing for that project, are expected to provide interest cost savings. They are secured and payable from loan disbursements by the Transportation Infrastructure Finance and Innovation Act (TIFIA) and the Virginia Transportation Infrastructure Bank (VTIB).

The District said it anticipates redeeming the 2019 BANs with these loans at maturity – November 1, 2023 – while final completion of the project’s construction is expected on June 29, 2023.

Moody’s Investors Service assigned a low-tier, ‘Baa2’ investment-grade rating on the notes, based largely on the “predictability of the cash flow available for debt service” given the current operational facilities, “not depending directly on the conclusion of the Parallel Thimble Shoal Tunnel Project.”

Moody’s analyst Cintia Nazima said the new BANs issuance “adds a refinancing risk to the project” as the Series 2019 BANs principal payment depends on the timely and full disbursements from both TIFIA and VTIB by the Series 2019 BANs’ principal maturity date, which are subject to a series of precedent conditions.

This refinancing risk is somewhat mitigated by the fact that the Series 2019 BANs’ final maturity date occurs around eight months after the currently expected substantial completion date of the project.

Nazima continued that it is “unlikely” TIFIA and VTIB will not decide to disburse the funds.

Moody’s added the District’s primary source of funding is toll revenue, used to fund construction of the original bridge-tunnel in 1964 and the parallel two-lane bridge structure in 1999 – all through toll revenue bonds.

Toll revenues in 2019 have amounted to nearly US$61m, a 5.6% increase year-on-year and a compound annual growth rate (CAGR) from 1990-2019 of 2.6%.

The deal, co-lead managed by Bank of America Merrill Lynch and Wells Fargo Securities, is expected to price Tuesday, August 13.

Among other muni sales in the pipeline, a hefty amount of airport-related bonds are also set to cross the wires, including US$1.2bn worth of revenue bonds from the San Francisco International Airport (SFO).