In a heavy new-issue market, specialty states, HY see oversubscriptions

Amid an onslaught of outsized new issuance, many deals have been oversubscribed as buyers clamor for paper, particularly in the high-yield space and from specialty states.

“It’s been a bit of a fight for deals that come to the primary market,” said Jon Mondillo, global head of Fixed Income at abrdn.

Despite issuance up 35.2% through the end of September, investor appetite for tax-exempt debt remains “extremely healthy,” he said.

Several underwriters have brought deals to market recently offering some concessions given the sheer volume of issues being priced, but buyers have stepped in with zeal, leading the deals to be greatly oversubscribed and repriced to lower yields, market participants said.

Non-separately managed account, mutual fund and crossover buyers are “taking paper and planning to hold it” until after the upcoming presidential election and “likely ride some kind of rally into year-end,” said Kim Olsan, a senior fixed income portfolio manager at NewSquare Capital.

“There’s a fair amount of ‘buy it now at whatever yield and then sell it in a couple of months at whatever better price,’” Olsan said.

Specialty states, like California and New York, are seeing oversubscriptions because there is more demand for paper from states with higher taxes, said Jock Wright, an underwriter at Raymond James.

Last week, issuers in California and New York “commanded” some of the strongest demand for new issues, said James Pruskowski, chief investment officer at 16Rock Asset Management.

The California State Public Works Board’s $795.525 deal and the New York City Municipal Water Finance Authority’s upsized $877.865 million deal were oversubscribed by as much as 10 times in certain maturities, with price adjustments reaching up to 10 basis points from “initial talk,” he said.

“This surge is no coincidence — it’s the result of weeks of relentless inflows, further amplified by the Federal Reserve’s recent rate cut,” Pruskowski said.

“As economic powerhouses with diverse economies and some of the steepest tax rates in the country, California and New York consistently act as market bellwethers,” he said.

Furthermore, the need for New York and California to issue doesn’t disappear, Olsan said.

“There might be some large money managers or mutual fund companies making something of possibly higher individual rates” if the Tax Cuts and Jobs Act expires at the end of next year without renewel, she said.

Another factor is the cap on state and local tax deductions, which could stay in place despite the winner of the upcoming presidential election.

Former President Donald Trump last month signaled he would be open to remove the SALT cap, but many in Washington say it’s a costly provision to bring back. If SALT remains, as it is a big revenue driver for the federal government, exemptions will be even more crucial in specialty states, a buy-side source said.

High-yield, meanwhile, has outperformed investment-grades dramatically this year, with returns well over 7% compared to just over 2.2% for IG.

This has led new high-yield issues to be heavily oversubscribed by as much as 15 to 30 times, said Justin Horowitz, a senior portfolio manager at Birch Creek Capital. 

While high-grade deals are also oversubscribed, high-yield deals are seeing greater oversubscriptions, with Horowitz noting, “It’s not even close.”

Investment-grade deals may be anywhere “from three to five to maybe eight times oversubscribed because there’s been so much supply coming in the IG space,” but deals in the high-yield space are few and far between, he said.

Last week saw a $201.6 million deal from the Sierra Vista Industrial Development Authority, a non-rated charter school system, first priced at +180 to AAA scales, Birch Creek strategists said in a Sept. 27 report.

The 30-year term bonds, with around $57 million available, were 31 times oversubscribed and bumped 30 basis points to come around par, they said.

“On the break, a dealer bid up the 40-year bonds into the mid-4.80s, which we think is a clear indication of an overpriced market,” Birch Creek strategists noted.

“High-yield funds are sitting on a ton of cash searching for ways to deploy it,” Horowitz said. “And whenever a deal comes to market, everybody clamors for that paper, and the number of tickets and accounts participating is also very large.”

Oversubscribed deals “can be primarily attributed to outsized investor inflows into high-yield vehicles,” said Dan Close, head of municipals at Nuveen.

This can be seen within Nuveen’s funds, he said, and as an industry, with LSEG Lipper reporting more than $12.5 billion of inflows into high-yield muni mutual funds as of Sept. 26.

“A lot of the money has been gone into high yield, and as this soft landing narrative emerges, accounts are just less concerned about credit and are looking to take on additional spread or additional yield that high-yield bonds offer,” Horowitz said.

“The market is shifting,” Pruskowski said. “Municipal-Treasury valuations are attractive, and even with record issuance this year, there’s an excess of cash pursuing too few bonds. Investors are prioritizing long maturities and structure risk over credit risk to secure the best income.”