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Last week FT Alphaville noticed Citi’s claim to have “found” $775bn more municipal bonds in existence than had been previously assumed by most of the market.
The revised aggregate estimate ($3,700bn) came from an upgrade in the amount of holdings by retail and, to a lesser extent, foreign investors.
We said then that it wasn’t clear how Citi had come up with their estimate. So, for the sake of fairness and completeness, here’s the bank’s explanation, as detailed in Monday’s municipal bond research note:
How does one account for such a sudden and large discrepancy in size?
We analyzed the size of the municipal market from the issuer’s perspective, which has more than two million registered securities. In our view, the Fed has been underestimating the total dollar amount of bonds outstanding based on earlier inaccuracies in annual data, which has likely accreted over time. While the Fed takes a more flow-based approach to assess the size of the market, we estimate the size from the issuer’s perspective by aggregating the maturity face value of all bonds outstanding.
Which assuming it’s able to access data on all bonds outstanding, seems a sensible approach. It’s odd that the Fed hadn’t bothered to do so as well. As the Muniland blog points out, the Fed conducts the Survey of Consumer Finance every three years where it supposedly gets similar source level data to that which Citi seems to be using to construct its revised estimates.
Why does this matter? Partly because it’s nice to know the truth for truth’s sake.
But also because the muni market has seen an important change in the last 12 months (at least), with institutional investors increasing their holdings as headline risk frightened off individual investors. (Though this has abated somewhat recently.) The fact that these ‘fraidy cats had more holdings than assumed may help explain — at least partially — the extent of the change.
It also means more potential custom for muni traders, of course. Speaking of which, here’s Citi with the final word:
We would like to emphasize that the percentage of retail investors hasn’t actually increased. These investors were always present but since their holdings were understated, their influence was under-estimated as well. Households in particular are the more buy-and-hold kind of investors, i.e., they pursue a longer-term investment strategy versus leveraged players, such as hedge funds and institutional clients, and were a stabilizing force during the financial crisis of 2008. However, they are also more susceptible to headline risk which can lead to significantly increased volatility. Recent market patterns have only served to confirm our view, such as when the instability in the muni market in late 2010 was exacerbated by individual investors becoming overly concerned about the fiscal strength of state and local governments. Unsurprisingly, as credit fears abated, it resulted in lower volatility and a rally in the tax-exempt and taxable market.
Related links:
Found: $775bn of missing muni bonds – FT Alphaville
How does $775 billion of bonds go missing? – Muniland