Revenue bond issuance in 2014: Why were the issuers market-shy?

Market Realist

Geopolitical risks and the municipal bond investment opportunities (Part 3 of 10)

(Continued from Part 2)

Revenue bond issuance

In the last section, we discussed key aspects of new issuance volumes in the general obligation (GO) muni bond market. In this section, we will cover revenue bond issuance in the first three months of the year.

Bond markets saw revenue bond (RVNU) issuance declining by more than 50% in Q1 2014 to $22.5 billion, compared to $45.5 billion in Q1 2013. The effect of the unusually severe winter weather in the first two months of the year has probably affected issuance in this category. Revenue bonds are issued to finance specific projects. Bad weather conditions have probably played havoc with project start schedules and issuance would have been postponed as a result. However, revenue bond issuance spiked in March 2014 to $12 billion from a combined total of ~$10.5 billion in January and February.

The weather factor is also reflected in overall issuance levels, which were just $34.9 billion in January and February 2014, compared to $51.6 billion in the first two months of 2013. Total issuance in March came in at $27.7 billion and this number was helped by two major issues, the record $3.5 billion Puerto Rico GO issue and the State of California’s $1.79 GO billion issue. Without these two bonds, March issuance levels would have been down by more than 31% on a year-on-year basis.

To learn more about revenue bonds, read Why municipal revenue bonds affect stocks like Vulcan Materials.

GO-Revenue issuance ratio spikes

The proportion of GO issuance volume to the total issuance increased to 60.6% in Q1 2014, compared to an average of 37.6% in 2013 and an average of 34% over the period 1996-2013. This is largely due to low revenue bond issuance in the primary market, which declined by more than 50% over the same period.

Popular ETFs that invest in revenue and GO bonds include the State Street SPDR Barclays Municipal Bond ETF (TFI) and the iShares National AMT-Free Muni Bond ETF (MUB). A recently launched ETF investing exclusively in revenue bonds is the db X-trackers Municipal Infrastructure Revenue Bond Fund (RVNU), which tracks the DBIQ Municipal Infrastructure Revenue Bond Index. The Index is composed of tax-exempt municipal securities issued by states, cities, counties, districts, their respective agencies, and other tax-exempt issuers. RVNU has an expense ratio of 0.3% and has returned 6.68% and 10.48% year-to-date and over the past six months respectively. However, since RVNU was launched in June, 2013, its track record isn’t very extensive.

The revenue bond multiplier effect

Revenue bond issuance indirectly impacts capital markets in another way as well. An increase in issuance would likely boost the revenues and earnings of companies involved in implementing the underlying projects for which the bonds are issued. Large cap companies included in the S&P 500 Index (IVV) like Caterpillar (CAT) which are in construction machinery business may also be indirectly impacted by the project’s supply chain.

To learn more about issuance volumes in the primary market, read Part 4 of this series.

Continue to Part 4

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