From the Bond Buyer - Pittsburgh, PA (November 10, 1999)
by Jennifer Karchmer and David Hoffman
The first test of institutional investors' appetite for buying municipal bonds directly from their issuers - yesterday's $56.9 million Pittsburgh general obligation bond sale - produced mixed results.
Traditional broker-dealers provided more than three times as many bids than investors, and captured most of the maturities. However, the middle of the curve was the domain of the direct buyers. Three institutional investors bought the 2014 through 2017 maturities, with a single bidder buying both the 2013 and 2014 pieces. Meanwhile, the 2015 maturity received seven bids from investors and only six from broker-dealers.
Overall, the investors captured 28% of the volume in the deal, while five broker-dealers combined to buy the remaining 19 maturities. The city only accepted bids for individual maturities, rather than also soliciting offers for the entire deal. All the maturities were insured by the Financial Guaranty Insurance Co.
Only four maturities received no investor bids. Pittsburgh and MuniAuction Inc., which conducted the sale using a private-label Website it set up for the city, declined to identify any of the bidders, citing concerns that the institutional investors who bid would harm their relationships with broker-dealers.
The successful placement of some of the maturities directly with investors defuses for now the question of whether institutions were ready to compete with broker-dealers for a new issue.
Out of a total of 195 bids, broker-dealers submitted 155 and investors submitted 40, according to MuniAuction. The overall true interest cost for the deal was 5.8256%, with yields ranging from 4.399% in 2002 to 5.960% in 2020. The final maturity, in 2024, carried a 5.943% yield.
Most important, according to Harrington, was the breadth of the turnout - the average number of bids per maturity was 8.86.
"The fact that [institutional investors] are here is important," said MuniAuction President Myles Harrington.
But while Harrington claimed the sale had been a success, reaction from those in the municipal community was mixed. There were irregularities that appeared in the latter maturities, giving the deal's yield curve an erratic appearance that some said was inefficient and costly to the issuer.
Donald Currie, a vice president with PNC Capital Markets, was one of the broker-dealers who won a portion of the deal. Currie said PNC submitted the winning bid on the 2006 maturity.
While the yield curve was uneven, the results appeared better then previous maturity-by- maturity sales conducted by Pittsburgh, Currie said. The most glaring inconsistency, however, was a bid with a purchase yield of 5.17% originally submitted for the 2014 maturity. It looked as if someone paid too much for it, he said.
Harrington, however, said that bid had been submitted in error by a broker-dealer, and despite telling investors earlier that they would not be able to take their bids back, he allowed the firm to withdraw the bid, which allowed an institutional investor to win the maturity. "It was obvious it was a human error," Harrington said.
The ratio of successful investor bids to broker-dealer offers was expected by market participants.
"To me that says that [the sale] really didn't go that great," said B. Clark Stamper, of Stamper Capital & Investments Inc. "It must have come cheap enough for the brokers to buy it and think they could sell it for a profit. Whether [Pittsburgh] really saved that much money or not is debatable."
Jane Trust, a portfolio manager with Legg Mason Wood Walker Inc., said she was not surprised that the number of maturities won by broker-dealers outnumbered those won by institutional investors. While the number of institutional investors who actually submitted bids just edged out the number of broker-dealers, there were many on the institutional side who decided to go through a broker-dealer.
"I think for many people on the buy side there remains a real question about secondary market liquidity, and I think people are sort of still trying to sort all of that through," Trust said.
Another thing financial observers are watching is whether maturity-by-maturity bond sales actually save the issuer any money, or just drive up issuance costs. David Anderson, a managing director with Merrill Lynch & Co., said yesterday's sale proves that it just drives up the cost.
If an all-or-nothing bid had been allowed, a broker-dealer would have submitted a bid that would not show any irregularities in the yield curve, Anderson said. The broker- dealer would have eaten the cost of unwanted maturities that came yesterday with slightly higher yields, thus giving the issuer greater savings, he said.
Statistics did show that yesterday's sale of a $170 million insured Philadelphia School District deal came at lower yields than the Pittsburgh deal. A leading broker-dealer who didn't bid on the Pittsburgh deal said Pittsburgh usually would trade better than the Philadelphia deal, but the maturity-by-maturity bidding structure hurt the sale. The Philadelphia deal was underwritten by RRZ Capital Markets.
But Ellen McClean, Pittsburgh's finance director, said she was confident the competitiveness benefited the city, and observers watched the TIC drop during the half- hour auction.
"We have not had this level of bidding in a competitive environment to drive down the cost of borrowing," McClean said.