Bonds

Investors swarm over junk-rated Detroit GO bonds

Investors looking for yield pounced on Detroit’s speculative grade paper Thursday, sending the city’s yield penalties to the lowest levels since it imposed losses on bondholders in Chapter 9 bankruptcy.

The junk-rated city’s $135 million stand-alone, tax-exempt general obligation tranche landed at yields of 1.91% to 2.51% and spreads of 100 bps to 128 bps to the Municipal Market Data’s AAA benchmark. It offered a mix of 4% and 5% coupons on maturities between 2030 and 2050.

Spreads were cut by more than half compared to Detroit’s October issue.

More than 60 institutional investors placed orders on the Proposition N bonds that were 20 times oversubscribed, many repeat investors from 2018 and 2020 deals, according to the city’s Chief Financial Officer Jay Rising. The true interest cost was 3.36%. The bonds were marketed with a “social” self-designation based on the use of proceeds.

BofA Securities and Siebert Williams Shank & Co. LLC led the deal.

After shaving 10-30 basis points off the initial wire, the deal’s 10-year settled at a 1.99% yield for a 125 bp spread with a 5% coupon and the long 2050 bond with a 5% coupon landed at a 100 bp spread.

The deal mostly benefitted from “ongoing inflows into high-yield funds” that were driving spread compression “in notable fashion,” Refinitiv-MMD said in its market close column.

The 10-year yield of 1.99% was not too far off Thursday’s 1.62% BBB benchmark on a 2031 bond.

The deal carried ratings of BB-minus with a stable outlook from S&P Global Ratings and Ba3 and a positive outlook from Moody’s Investors Service.

The spreads marked a stark improvement from the city’s $80 million issue in October in its second unenhanced GO issue since emerging from bankruptcy in late 2014.

The 10-year in that deal also offered a 5% coupon and saw a 281 bp spread; that means spreads narrowed by 156 bp in less than four months. The October sale’s long, 30-year bond offered a 5.50% coupon and saw a spread of 240 bps compared to the new deal’s 100 bp spread.

The city’s first post-bankruptcy GO sale without a state intercept or some enhancement — a $135 million issue in December 2018 — captured narrower spreads than the October sale, which was hurt by the pandemic’s uncertain economic impact.

The 10-year with a 5% coupon in the 2018 issue landed at a 202 bp spread and the long 20-year bond with a 5% coupon at a 198 bp spread.

The city exited Chapter 9 in late 2014 with limited tax bondholders recovering 34 cents on the dollar and unlimited tax holders 74 cents.

“Investors took notice of Detroit’s steady progress in building financial strength and swiftly responding to the pandemic-driven revenue shortfalls,” said Rising, who recently replaced Dave Massaron as CFO. Chief Deputy CFOs Tanya Stoudemire and John Naglick round out the finance team.

Market participants said the city’s management through the pandemic may have helped, but the market’s thirst for high yield paper and compressing spreads really set the tone. Triple-B spreads in 15 years have tightened 38 basis points since the beginning of November 2020.

“I think the response seen in the tax-exempt market” for the Detroit deal “was very much in keeping with what we have seen over the past several weeks with regards to A and BAA credits,” said Greg Saulnier, managing analyst for U.S. municipal bonds at MMD-Refinitiv.

Lipper has reported high-yield muni funds inflows of a “remarkable” $2.4 billion over the past three weeks not including the current week’s numbers “as investors continue to search for yield in this low rate environment that has driven 10yr and 30yr muni/treasury ratios to all-time lows,” Saulnier said Thursday. “I think this lends itself to why the Detroit deal was able to see bumps of 10-30 basis points from this morning’s preliminary levels.”

The $40 million taxable tranche in the new sale offered a mix of 4% and 5% coupons depending on the maturities between 2022 and 2034 and settled at yields between 1.84 % and 3.5% for spreads between 170 bps and 250 bps to comparable Treasuries. The 9-year in the deal saw a spread of 210 bps.

The Detroit pricing and ability to shave yields resembled the Chicago’s Board of Education’s junk-rated deal the previous week. Underwriters are not coming out with overly aggressive scales, but letting demand drive re-pricings.

CPS was able to shave seven bp off the pre-marketing levels and then 15 to 30 bp off in the final wire. The 10-year in the $560 million sale settled at a yield of 1.94%, a 117 bp spread.

Detroit marketed the bonds with the social designation based on its alignment with the core components of International Capital Market Association’s Social Bond Principles. The city said it believes the designation helped bring in orders from institutional buyers attracted to the self-designation who took the time to look deeper into the specifics of the neighborhood improvement project.

In November, more than 70% of voters authorized $250 million of GO borrowing to finance blight removal. Proceeds will help finance the city’s renovation of 8,000 vacant homes and demolish another 8,000. The city will tap the remaining authority next year.

S&P Global Ratings revised Detroit’s outlook to stable from negative in January. “Despite the extreme pressures of the pandemic, Detroit’s ability to meet obligations has not wavered, and we expect this will hold true over at least the next year,” said analyst John Sauter. The agency had cut its outlook to negative in April.

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