System medians, similar to the stand-alone medians, demonstrated operating margin improvement in 2015, which when combined with softer non-operating income produced modest coverage gains in the higher rating categories, with slight declines in the lower rating categories.
Sep. 21, 2016
Similar to the overall medians for stand-alone hospitals and health care systems combined, we saw stronger operating margins for stand-alone hospitals in 2015 at each rating category, offset by consistently softer non-operating revenue compared to 2014.
Sep. 21, 2016
Investors are slashing bond holdings and questioning whether tax changes will dull muni demand
Money is pouring out of municipal bond funds at the fastest pace since the 2013 “taper tantrum” as investors slash bond holdings and wonder about potential changes to the tax code.
Investors pulled $3 billion from muni bond mutual and exchange-traded funds the week after the presidential election, the largest such withdrawal since June 2013, according to EPFR Global and Bank of America Merrill Lynch. The $7.3 billion iShares National AMT-Free Muni Bond ETF, ticker MUB, has fallen 3.4% this month and is on pace for its sharpest monthly drop since Sept. 2008.
Municipal bonds are considered nearly as safe as Treasurys, since the debts are backed by the revenues of states, cities or services. Investors also like munis since interest payments are typically free from federal taxes. But in a stark reversal from earlier this year, when muni fund assets hit an all-time record, what were viewed as perks have turned into reasons to sell.
Municipal bond investors have taken cues from U.S. government bonds, which have been hit by heavy post-election selling. The yield on benchmark 10-year Treasury note rose to 2.411% on Wednesday from 1.867% on Election Day.
Meanwhile, investors are considering whether a package of tax cuts eventually passed by Congress could diminish the after-tax yield advantaged that munis hold over comparable Treasury bonds.
“The municipal market appears to have already priced in a significant cut in federal tax rates,” wrote Guy Davidson, chairman of the tax-exempt fixed income investment policy group at AB, the investment firm known until recently as AllianceBernstein.
The idea is that lower marginal tax rates could prompt the highest-earning investors to put their money elsewhere. At the same time, institutional buyers of muni bonds — banks and insurance companies — could find them less advantageous should corporate tax rates fall.
“Given the recent spike in yields and the murky policy picture, tax-exempt municipals may face continued near-term volatility,” said David Hammer, head of municipal bond portfolio management at Pimco.
Such volatility is evident in muni-bond closed-end funds that own municipal debt. Unlike mutual funds and ETFs, closed-end funds have a fixed number of shares and sentiment changes can swing prices of the securities to premiums or discounts to the value of the fund’s holdings. The discount of the $2.7 billion Nuveen Quality Municipal Income Fund, ticker NAD, has widened to 8.8% from 6.6% in September, according to Morningstar and Nuveen.
Market watchers caution that, historically, changes to taxes have had little impact on the municipal bond market. Vikram Rai, who heads municipal strategy at Citigroup, said that changes to the top marginal tax rate for municipal bonds since 1980 has fluctuated with “no correlation” to retail demand.
Still, Mr. Rai recently warned that muni bonds are likely to be under pressure as long as Treasury yields are on the rise.
“Municipal yields have been unsustainably rich for an extended period of time due to large inflows into this asset class driven by a reach-for-yield,” Mr. Rai wrote. “We are quite pessimistic that municipal funds can endure the size of backup which seems to be taking root in Treasuries.”
THE WALL STREET JOURNAL
By CHRIS DIETERICH
Nov 23, 2016 12:03 pm ET
Funds controlled by Franklin Advisers, OppenheimerFunds request to be entered as defendants in suit brought by hedge funds holding defaulted GO bonds
Puerto Rico’s largest mutual-fund bondholders have broken their silence in an ongoing $30 billion creditor standoff, underscoring tensions between the commonwealth’s traditional municipal investor base and the hedge funds now involved in its financial restructuring.
Funds controlled by fixed-income giants Franklin Advisers and OppenheimerFunds asked a federal judge last week to enter them as defendants in a lawsuit brought by hedge funds holding general obligation, or GO, bonds that have been in default since July.
The lawsuit pits those creditors against investors holding $17 billion in competing bonds known as Cofinas for their Spanish acronym and backed by sales tax revenues. If successful, the lawsuit could compromise the Cofina bondholders’ liens and free up a fresh source of repayment for the GO bondholders, which are guaranteed under the Puerto Rican constitution.
The courts, on the other hand, could affirm the commonwealth’s longstanding position that the sales-tax revenues are off-limits to the GO bondholders. U.S. District Court Judge Francisco Besosa could also freeze the dispute in the hopes that the warring investor groups will negotiate a settlement, as the Cofina investors have urged.
Congress installed a federal oversight board over the summer to take over Puerto Rico’s financial decision-making, but it has yet to announce the hiring of legal and financial advisors with whom creditors will negotiate. The legal status of the Cofina revenues has never been tested in the courts, and resolving it now would take a major question on creditors’ rights out of the board’s hands. For now, it wants the dispute paused under the automatic stay provisions of the Puerto Rico Oversight, Management and Economic Stability Act, or PROMESA.
Franklin and Oppenheimer, along with Santander Asset Management, are cross-holders with a combined $3.6 billion in Cofina claims and $1.1 billion in GO claims, according to a filing in Puerto Rico federal court.
With $2.8 billion of their exposure in subordinated Cofina debt, the mutual funds said they have the “greatest possible interest” in protecting the sales taxes from being diverted. Junior Cofina bonds would suffer the most if the revenue stream were interrupted, although they have continued to be paid even with the territorial government in default on its constitutional debt.
Hedge funds exclusively holding senior Cofina bonds have already asked to be heard in the lawsuit. Those bondholders, including GoldenTree Asset Management, Merced Capital and Taconic Capital Advisors, hold zero-coupon bonds that don’t come due for decades, according to people familiar with the matter. Their group has taken the position that diverting the sales taxes would cause their claims to come due immediately, leapfrogging over those of junior creditors.
As holders of both types of bonds, the mutual funds said they aren’t conflicted and have reason to guard the interests of all creditors within the $17 billion Cofina debt stack. Puerto Rican lawmakers first segregated sales-tax revenues from its general fund a decade ago to create an alternate borrowing mechanism.
“The interests of Cofina, its bondholders generally and its current-pay subordinate bonds in particular are served by maintaining the statutory transfer,” lawyers for Franklin, Oppenheimer and Santander wrote in court papers. “It is likely that the senior Cofina bondholders want Cofina to default.”
A spokesman for the mutual funds declined to comment beyond the filing. Representatives for the GO bondholder group and for Cofina bond trustee Bank of New York Mellon didn’t immediately respond to requests for comment.
James Doak of Miller Buckfire & Co., an adviser to the senior Cofina bondholder group, called the mutual funds’ appearance “a positive for Puerto Rico, the oversight board and the incoming administration.”
“Major, long-standing investors holding both GO and Cofina bonds are stepping forward to defend PROMESA’s stay provision and reject more litigious GO bondholders’ attempts to seize [sales tax] revenue,” he said.
The benchmark 8%-coupon GO bonds due in 2035 traded Friday at 69.5 cents on the dollar, according to FactSet, having cooled off from a post-election rally that pushed prices to 73 cents. Puerto Rico recently elected Dr. Ricardo Rossello, a statehood supporter perceived by investors as friendlier to creditor interests, to replace Gov. Alejandro García Padilla. The new governor takes office in January.
THE WALL STREET JOURNAL
By ANDREW SCURRIA
Updated Nov. 23, 2016 7:57 p.m. ET
Washington, DC – Following the recent steep rise in municipal bond yields, the Municipal Securities Rulemaking Board (MSRB), the national regulator for the municipal market, today issued a statement today cautioning investors about the potential risks to bond positions and bond portfolios of rising interest rates.
“Yields in the municipal bond market reached a one-year high last week,” said MSRB Executive Director Lynnette Kelly. “Given this trend, it is important that investors review their municipal bond holdings with their financial professionals, monitor market developments and educate themselves about the risks of rising interest rates.”
The MSRB provides multiple free investor education resources related to interest rate risk including the Impact of Market Interest Rate Movement on Municipal Bond Prices and Yields, Evaluating a Municipal Bond’s Interest Rate Risk and The Importance of Monitoring Municipal Bonds.
“Municipal bond investors can use the MSRB’s resources to learn about the risks of interest rate changes and considerations to discuss with their financial professional,” Kelly said. The MSRB also makes available an online course aimed at financial professionals called Rules and Risks: Applying MSRB Rules in Relation to Municipal Market Risks.
Earlier this month, the MSRB identified changes in the ownership profile of municipal bonds in recent years as having increased the risk that a rise in interest rates could lead to market dislocation and reduced liquidity in the municipal market. In a letter to the Securities and Exchange Commission Investor Advocate, the MSRB cited greater mutual fund ownership and reduced dealer inventories as factors in the risk for investors.
Date: November 14, 2016
Contact: Jennifer A. Galloway, Chief Communications Officer
(202) 838-1500
jgalloway@msrb.org
A key member of Donald Trump’s transition team said the incoming administration is exploring ways to fund fixing bridges and roads including by establishing an “infrastructure bank,” a concept Hillary Clinton promoted and the Republican’s campaign had previously derided.
Steven Mnuchin, a member of the team’s executive committee who was recommended for the position of Treasury secretary, said in brief comments to reporters Wednesday morning that a “very big focus is regulatory changes, looking at the creation of an infrastructure bank to fund infrastructure investments.”
Trump’s campaign had criticized Clinton’s proposed infrastructure bank as being “controlled by politicians and bureaucrats in Washington” and funded by a “$275 billion tax increase on American businesses.”
The billionaire’s economic advisers previously said infrastructure spending can be unleashed without creating a government entity. They released a plan in October advocating the provision of as much as $140 billion in tax credits to support $1 trillion in infrastructure investment, which would offset the credits through tax revenue from the projects’ labor wages and business profits.
Mnuchin and spokespeople for Trump didn’t respond to requests to elaborate. Peter Navarro, a Trump campaign adviser and co-author of last month’s infrastructure plan, also didn’t respond to a request for comment.
According to Clinton’s campaign website, her five-year plan would have allocated $250 billion to direct public investment in infrastructure and $25 billion to an infrastructure bank. The new institution would leverage the funds to support as much as an additional $225 billion in loans, loan guarantees and other “forms of credit enhancement.”
Outgoing President Barack Obama has also proposed a U.S. infrastructure bank to lend at maturities as long as 35 years to fund transportation, water and energy projects. Such an entity would potentially emulate organizations from China, which led the establishment of the Asian Infrastructure Investment Bank in 2015, and Canada, where Prime Minister Justin Trudeau’s government is creating a bank to provide low-cost financing for infrastructure projects.
“The economic priorities are clearly taxes, regulatory, trade, and infrastructure,” Mnuchin said at Trump Tower in New York. “Right now we’re just all in the planning stages, you can see. We want to be in a position where in the first hundred days we can execute the economic plan.”
Private Investors
The president-elect’s transition website says the new administration seeks “to invest $550 billion to ensure we can export our goods and move our people faster and safer.” The details on the structure of the plan are still to come.
Whether Trump’s ultimate proposal involves an infrastructure bank or tax credits, the plan’s success, if enacted, may depend partly on the extent to which private companies and investors find sufficient incentives to put up their own money for individual projects.
The length of time it takes such wagers to come to fruition could discourage investment, and easing business concern will require more of a plan from Trump’s administration, according to Jim McCaughan, who oversees about $400 billion at Principal Global Investors.
“When it’s big-scale macroeconomics or politics that drives the infrastructure, the private sector has to be very careful,” McCaughan, who runs Principal Financial Group Inc.’s asset manager, said Wednesday in an interview at the insurer’s investor day in New York. “Giving the private sector the confidence to do it will actually be quite a challenge.”
One Democrat, Representative John Delaney of Maryland, called the comments from Mnuchin about an infrastructure bank “encouraging” and said a bipartisan coalition in Congress is ready to work on rebuilding America, according to a statement from his office.
Bloomberg Politics
by Scott Lanman and Sho Chandra
November 16, 2016 — 2:10 PM PST
Any set of ideas can be separated into known knowns, known unknowns, and unknown unknowns. Leaving the last set aside, one known known that appears virtually certain: that state and local governments are going to have to fight hard for their share of the “policy pie” under the new Trump Administration. Let’s now take a look at some of the key “known unknowns”—factors that are likely to affect valuations and creditworthiness and functioning in the state and local finance sector as the new Administration and Congress sort them out.
1) ARE INTEREST RATES INEVITABLY HEADED HIGHER?
That is the first structural response to the Trump win. But is the inflation that would trigger that trend an inevitable outcome?
Certainly, a much more fiscally stimulative Federal Budget would likely lead to that, but isn’t inevitable—see below. In the meantime, there are a number of potential patterns that could offset the potential for higher inflation or higher long-term rates. These include energy policy that would drive energy costs lower, and more restrictive trade policies that could dampen global demand, and a push toward more rapid increases in Fed short-term rates that could actually slow growth.
Of course, some potential policies could be inflationary – e.g., gutting trade deals and increasing tariffs, and an aggressive push toward more infrastructure spending – but the outcome is far from clear. To assume that any new set of trade policies is inflationary, one also has to assume that they aren’t substantially damaging to global economic activity. We’ll see.
By the way, just as we finished this, the muni market was getting beat up pretty badly on Monday. Is that a response to Trump’s victory, or merely a response to recent heavy supply combined with a down Treasury market and a limited aggregate risk appetite? We vote for the latter.
2) IS A DRAMATICALLY MORE STIMULATIVE FISCAL POLICY INEVITABLE?
Well, maybe, maybe not. It seems that many observers are assuming that a Republican-led House and Senate will automatically accede to Trump’s campaign promises of a combination of lower taxes and aggressive infrastructure spending, and thus a sharply higher Federal deficit.
Color us dubious. Are Republicans all of a sudden ready to enact a combination of significantly lower tax revenues and new spending that isn’t paid for? Are they going to tell their base that all of a sudden, fiscally responsible budgets no longer matter? The answers to this question are, we think, key, because they will strongly help determine the extent to which Trump can spend more (military, infrastructure) and tax less (corporate and individual).
3) WILL THE JOINT COMMITTEE ON TAXATION BE MOVING TO DYNAMIC SCORING?
This is another key in terms of what Trump promises are possible to keep. Under dynamic scoring, the purported economic benefits of a tax law change in terms of stronger economic activity are included in estimating the net cost of any change in the tax code. It is not a given that the Joint Committee on Taxation will move to dynamic scoring, but with Republicans in both houses of Congress functioning as their “bosses,” it’s at least possibility. In terms of a large portion of what Trump has promised and what many Republicans want, this is a very big deal.
4) IS THE TAX EXEMPTION AT RISK?
Some observers seem to be very concerned that the tax exemption is at risk under a Trump Administration. We aren’t so sure.
For any infrastructure expansion program to be successful, it needs to be additive to what already exists, and a move toward tax credits for incremental infrastructure spending will fail if it simply replaces the strongly successful program that already exists through the tax-exempt market.
That said, with Joint Tax staff and other key players likely to have something of a free rein to affect policy over coming months, supporters of the tax exemption will have to be extremely vigilant and involved.
5) WHAT WILL THE STRATEGIES FOR ADDITIONAL INFRASTRUCTURE SPENDING BE?
We already have some idea of what this might look like based upon work by Wilbur Ross and Raymond Navarro, who are apparently advising Trump. Their plan calls for heavy use of public/private partnerships with heavy private sector equity, with a large portion of the cost of that equity offset by tax credits that would sharply reduce the equity exposure and the cost of that exposure.
Theirs is a dynamic scoring framework, which assumes that a large proportion of the cost of the tax credits is offset by increased income taxes resulting from the new economic activity. (Important note: Under fair dynamic scoring, the cost of the tax exemption would be netted this way as well, as would decreased market values if the tax exemption were to be gutted.)
We also note that these two advisors include a heavy dose of energy exploration and development in their definition of new infrastructure.
What will be left out? Probably environmentally-related projects, among others. The selection process for projects that “make the cut” is an issue, as it was under the prior Administration’s plan. The muni market—and Build America Bonds—allowed governments to self-select. The mechanism here isn’t clear. There is much, much more to consider, of course.
6) HOW WOULD SHARPLY LOWER CORPORATE TAX RATES AFFECT THE VALUE OF EXISTING MUNIS?
The format of any such tax cuts matters a lot, but there is the potential for a substantial cut in value. We note that from 2005-2015, according to Fed data, household sector direct holdings of munis are about unchanged, fund holdings are up $263 billion, and bank holdings are up $333 billion (plus direct bank purchases).
Property and casualty insurers’ holdings are only up $17 billion over the period but they would become net sellers at current yield relationships. In our view, a very large cut in corporate tax rates would cause yields relative to taxable to move higher. This is a real risk, we think, because support for lower corporate taxes crosses party lines.
7) HOW WOULD CUTS IN INDIVIDUAL TAX RATES AFFECT THE VALUE OF EXISTING MUNIS?
We are less concerned here, if the top rate were to move to 33%. A large number of current individual owners of munis would still find them attractive at a 33% rate, and the 33% rate, as proposed, kicks in fairly low – ($112,500 for an individual, $225,000 for a couple.) A key variable here is that if the lower corporate rate were not well insulated from use by so-called pass-through corporations, then large numbers of wealthy individuals might get the big cuts in rates.
This will likely be “fixed,” though, because if it isn’t the drop in income tax revenues would explode.
8) HOW WILL HOSPITALS FARE IF THE ACA IS GUTTED?
This could be the biggest near-term question for the muni market, of course, because many hospitals—and the states and cities they reside in—would face vast cuts in revenues from insured individuals if some fraction of 20 million individuals were removed from the rolls.
Alternatively, what would “repeal and replace” look like? We haven’t a clue, but we know we need to watch.
9) WHAT REGULATORY CHANGES COULD ACTUALLY SUPPORT THE FUNCTIONING OF THE MUNI MARKET?
It is very early for this, but changes to regulation, especially including Dodd-Frank, bear close watch.
10) COULD FEDERAL SUPPORT FOR STATE AND LOCAL GOVERNMENT PROGRAMS BE HIT?
It’s certainly possible, given the revenue erosion that would result from tax cuts and potentially more spending on the military and (ironically) infrastructure.
11) WHAT KINDS OF POLICY “GLITCHES” WILL THERE BE AND COULD A FIRED-UP POPULACE INCENTED TOWARD MORE ACTIVISM GENERATE ECONOMIC DISRUPTIONS?
As a the new Administration, a fiscally conservative Republican majority in Congress, and a fired-up Democratic minority wielding the filibuster struggle to assert themselves, we believe there is that possibility.
Of course, the above is only a start, but we believe that we have laid out a number of the very important issues that market participants and policymakers will need to track as the new Administration takes hold. Comments welcome.
The Bond Buyer
By George Friedlander
November 15, 2016
George Friedlander is a municipal market strategist with over 41 years of experience following market trends, credit trends and policy issues in the municipal sector.
President-elect Donald Trump’s proposed policies could partially change the landscape of the municipal bond market for investors in two primary ways.
First, his election could put Build America Bonds (BABs) — or a program like it — back on the table for government issuers. BABs were introduced in 2009 and 2010 by the Obama administration as a way to stimulate the economy and create jobs. Republicans on Capitol Hill killed the program, but Trump has spoken favorably about it. He’s interested in stimulating more investment in infrastructure.
Unlike regular municipal bonds, BABs aren’t tax exempt, making them more appealing to investors such as international bondholders or institutional investors who aren’t eligible to claim an exemption. Thus, they broaden the municipal bond market.
Second, an analysis by the Court Street Group Research (CSGR) says Trump’s income tax plan could affect the municipal market because it would eliminate or reduce the tax exemption for municipal bondholders. “The CSGR approaches the reality of a Trump administration with some trepidation as it applies to municipal bonds,” the analysis said.
The Takeaway: Taking all these proposals into account, and given that many are now expecting federal tax reform to roll forward in some form in 2017, these policies could reshape to some extent who buys municipal bonds.
Research by Brandeis University’s Daniel Bergstresser and MIT’s Randolph Cohen has shown that municipal debt is being increasingly held by America’s wealthiest households. If the tax exemption on income earned from that investment is eliminated for the wealthy, it provides little motivation for these bondholders to buy more municipal debt.
Who will take their place? The BAB experiment would seem to suggest that having more taxable debt in the municipal bond market will attract different kinds of investors. Stay tuned.
GOVERNING.COM
BY LIZ FARMER | NOVEMBER 18, 2016
U.S. municipal debt investors putting fresh capital to work should look to short duration bonds while President-elect Donald Trump’s new administration works out new tax and fiscal policies, UBS Wealth Management said on Tuesday.
“To the extent that you’re … placing more capital into this market, you probably want to stay shorter on the curve until we have more clarity by the end of 2017 as to exactly what the tax environment is going to be like,” said Thomas McLoughlin, head of municipal research at UBS Wealth Management.
Muni bonds, whose yields are exempt from federal income taxes, have long been attractive to wealthy Americans who fall into higher tax brackets.
However, Trump’s proposed lowering of tax rates could reduce the appeal of tax-exempt bonds, a major vehicle for states and cities to finance infrastructure, hospitals and schools.
Speaking at the Reuters Global Investment Outlook Summit, McLoughlin said tax reform would be the story for 2017, given how Trump and the Republican party control the White House and held onto majorities in the Senate and House of Representatives.
“The absence of specificity is something that I think the market is struggling with right now,” McLoughlin said.
“The municipal market is certainly trying to adjust to determine how real the threat may be to tax exemption and whether or not that threat is overblown; whether or not that threat constitutes complete elimination; or the third option, which is a curtailment in the limitation as to the value of that exemption,” he said.
McLoughlin, however, believes the threat to the municipal market’s tax exemption status is lower than before as public interest groups have actively lobbied to show the importance of state and local governments in providing infrastructure.
During the election campaign, both Trump and his Democratic opponent Hillary Clinton advocated spending to rebuild U.S. infrastructure.
U.S. voters on Tuesday also approved 562 of 698 state, school and local government bond measures on ballots, clearing the way for the issuance of $60.23 billion of municipal debt, data company Ipreo reported. The amount requested on ballots, $70.1 billion, was the largest par, or face amount, since 2006.
In part, the requested borrowing for big projects was spurred by growing competition for money within municipalities.
“Pay-as-you-go infrastructure is going to be more difficult as pension liabilities rise and occupy a larger share of the budget, and in the case of states, Medicaid funding as well,” McLoughlin said.
Reuters
By Daniel Bases and Hilary Russ
Tue Nov 15, 2016 | 4:47pm EST
Follow Reuters Summits on Twitter @Reuters_Summits
(Reporting by Daniel Bases and Hilary Russ; Editing by Richard Chang)
We are well aware that charter schools open and close, sometimes for academic reasons, sometimes for financial reasons. Unfortunately, some of these schools are financed with municipal bonds, which makes them a risky endeavor. The story below is behind a pay wall. I subscribed to The Bond Buyer so I could read it in full. It shows why the NAACP and other organizations are calling for charter school accountability and transparency. It is not good for either municipal finance or for children to have schools that close in the middle of the year without warning.
Recently, the National Federation of Municipal Analysts urged charter schools “to provide detailed financial, academic, and staffing information in primary and secondary disclosure documents.” This is the first time that the NFMA has made disclosure recommendations for charter schools.
“The charter school sector has been very active in the last … four to five years [and] it traditionally has not had a lot of public rating coverage,” said Gilbert Southwell, vice president at Wells Capital Management and co-chair of the NFMA disclosure subcommittee that drafted the paper. “[The RBP] is both educational for our membership but also helps to establish our disclosure expectations when we’re looking at these deals.”
Dean Lewallen, vice president and senior analyst at AllianceBernstein L.P. and co-chair of the subcommittee with Southwell, said the RBP is the product of a year-long vetting process with a variety of market participants and thus reflects “an industry consensus.”
The document’s recommendations begin with key information that should be included in a primary offering statement (POS). According to the RBP, a charter school’s POS should disclose all material financial agreements, including the proposed indenture, loan agreement, capital leases, management agreements, and tax regulatory agreements. It should also include information from twelve other broader topics, like descriptions of facilities and their financing, pledged revenues, and projected cash flows. NFMA also wants descriptions of debt service, repair and replacement, operating and deficit, as well as insurance and property tax reserve funds.
The RBP lists disclosures in a successful charter school POS related to academic performance as well as school management and operations.
“A charter school’s academic performance has been identified as an especially important factor in charter school long-term stability and success,” NFMA said in its RBP. “Consequently, the POS should disclose all relevant aspects of the charter school academic performance.”
Such disclosures should include information covering regulatory authorities that have jurisdiction over the charter school, along with the school’s curriculum and education programs at varying grade levels and how those programs satisfy applicable educational standards, the RBP says. Information on how the school tests students to measure academic growth as well as how recent school data stacks up against historic measurements should be presented in an easily accessible way for investors, NFMA said.
In terms of school staff and management, an effective POS should provide detailed information in eight key areas, according to NFMA, including: charter board membership, compensation, and tenure; information available on the school’s website; management qualification, experience, and compensation; third-party manager control, compensation, and replacement; and charter school teaching faculty, classroom ratios, and teachers’ union affiliation. Additionally, the POS should have information regarding teacher and staff compensation, including retirement benefits, any complaints and claims the school is facing, as well as operating and funding information related to extracurricular activities.
Another important area for disclosure has to do with the school’s facilities, NFMA said. A POS should contain information about the size, capacity, and condition of facilities, including equipment, along with descriptions of future capital improvement needs, insurance support, and transportation and parking capabilities for students and staff, respectively.
On the financial side, charter schools should be taking seven areas of potential funding into account when creating their primary disclosures. Any POS should include discussion of audited financial statements and interim financials, current budgetary processes, financial covenant compliance and projections, and existing banking relationships, according to the RBP. State aid and other governmental support should also be listed along with information about planned future debt and reliance on endowments, fund drives, contributions, and gifts.
Disclosures that describe a school’s location, enrollment, potential competition from other schools in the area, and future projections on such topics are also important, NFMA said.
The organization included separate but related suggestions to consider credit risks and continuing disclosure.
“Credit risks involved in charter school acquisition financing are numerous and often the source of significant concerns,” the group said in the RBP.
Several credit risk areas the group recommended a school disclose in a POS are the: suitability and condition of a new facility and equipment; facility acquisition price; and facility construction costs.
NFMA said in its RBP that until fairly recently, most continuing disclosure agreements (CDAs) for charter school financings did not provide much more investor disclosure than a year-end audit.
“The NFMA believes that charter school continuing disclosure needs to be far more complete, robust, and timely to reflect credit characteristics and risks specific to the sector,” the group said….
NFMA also recommended what schools should disclose in its quarterly reports, which it said should be filed between 45 and 60 days after the end of each quarter. The group listed examples of special events and information that may not be produced on a routine schedule but should be made known “promptly” when available, such as mid-year cuts in state or local funding.
NFMA urges charter schools to hold at least one live conference call per year to discuss data and the school’s current status. It also lists a number of instances, like a charter non-renewal, that may not be considered material events under the Securities and Exchange Commission’s Rule 15c2-12 on disclosure, but should be promptly reported to the Municipal Securities Rulemaking Board’s EMMA system anyway.
The RBP makes five additional recommendations, such as that charter schools be aware that borrowers need to be educated on the importance of continuing disclosure and that all disclosure should be posted to EMMA.
Diane Ravitch
Nov 16, 2016
U.S. municipal high-yield bond fund outflows set a record during the week ending Nov. 16, with
investors dumping the tax-exempt sector as U.S. Treasuries plummeted after the stunning victory by President-elect Donald Trump on Nov. 8, data on Thursday showed.
Investors pulled $1.59 billion out of high-yield muni bond funds, the most ever in a single week since Thomson Reuters’ Lipper service began reporting such data in 1992.
Overall, investors took $3 billion out of all muni bond funds, the largest outflows since late June 2013, the data showed.
Trump’s win in the U.S. presidential election has spurred a rally in U.S. stocks and a rout in fixed-income markets on the expectation of more fiscal stimulus leading to rising inflation, which undermines bond market investment returns.
The junk muni bond sector had been riding high this year as investors seeking yields in what is an otherwise low interest rate environment sought fatter returns in new places, even moving down the credit quality scale to get it.
With the supply of new muni bonds low and demand high all year, prices rose and provided a sweet spot in the global financial markets.
But U.S. states, cities and other issuers returned to the market en masse in the back half of 2016. They sold a record level of debt in October, which widened spreads, dampened munis and prompted small outflows even before the Nov. 8 presidential election.
High-yield munis were first to feel the strain, with tobacco bonds, the most liquid in the speculative arena, losing ground in heavy trading before Trump won the election.
Then, after Nov. 8, Treasury yields rocketed higher. Muni yields followed, gaining 50 basis points in the week since then on 10-year benchmark tax-exempt debt, according to Municipal Market Data, a Thomson Reuters unit. Yields move inversely to prices.
“When rates move that far that quickly, it does unnerve investors,” said Jim Colby, manager of VanEck Vectors High-Yield Municipal Index ETF.
Columbia Threadneedle Investments portfolio manager Chad Farrington said the firm’s high yield muni fund started to see outflows over the last three weeks.
Most of the price weakening was because munis tracked Treasuries. But some may have been due to concerns about whether Trump’s proposed income tax cuts and other policies might dampen
appetite for muni bonds or limit their tax exemption, Farrington said.
High-yield outflows “are also driven by sticker shock over the [net asset values] of the high yield funds, which have declined precipitously since early November,” said Chris Mauro of RBC Capital Markets.
“The concern is that we’re seeing a familiar pattern develop in which the high yield outflows are starting to bleed into the long investment grade funds,” Mauro said.
Nuveen’s High Yield Municipal Bond Fund topped all outflows this week. Since the beginning of the month its net asset value has dropped about 4.4 percent.
The biggest fund in its peer group, Nuveen’s high-yield muni fund “on an absolute basis… would expect to have the largest outflows,” said Nuveen’s head of tax-exempt fixed income John Miller.
“We have been through selloffs that involve outflows numerous times in the past, so we are using this period to benefit fund shareholders, given the higher yields and wider credit spreads available in the marketplace,” he said.
“Fundamentals have trended favorably over the course of the year as a whole, and nothing in this period changes these fundamentals.”
Reuters
By Hilary Russ
Nov 17, 2016 | 7:41pm EST
(Reporting by Hilary Russ; Editing by Daniel Bases and Diane Craft)
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With the presidential election over, S&P Global Ratings offers a focus on the post-election landscape and what will be the key drivers related to credit across the broad and diverse U.S. municipal market.
Nov. 14, 2016
Robin Prunty discusses our November 14th commentary outline the post-Presidential election outlook across all municipal sectors and David Hitchcock outlines the credit drivers to our recent rating actions on the states of New Mexico and New Jersey.
Nov. 16, 2016
Public policy and the water industry work like a two-way street. Yes, the former helps improve quality, funding, and infrastructure. But often distressed conditions in the industry are needed to affect policy change, which was proven at a “Financing In The U.S. Water Industry” conference panel on Sept. 8, 2016, in New York.
Oct. 11, 2016
Although U.S. President-elect Donald Trump might alter the regulatory landscape governing power plant emissions that public power and electric cooperative utilities face, S&P Global Ratings does not see his administration affecting the ratings on public power and electric cooperative utilities.
Nov. 14, 2016
Municipalities that protect undocumented immigrants from deportation stand to lose billions in federal aid if President-elect Donald Trump fulfills promises to starve them financially.
More than 200 U.S. ‘sanctuary cities’ won’t turn over people to federal officers seeking to deport them nor share information about them, saying that would rend the social fabric and impede policing. Since Trump’s election last week, mayors including San Francisco’s Ed Lee, New York’s Bill de Blasio and Chicago’s Rahm Emanuel have vowed not to back down.
“This city and so many cities around the country will do all we can to protect our residents and to make sure that families are not torn apart,” de Blasio said Wednesday after meeting with Trump at Trump Tower.
Many cities have calculated that dwindling populations and labor shortages can be ameliorated by immigrants, undocumented or not. The mayors must calculate the point at which resistance harms the communities they’re fighting to protect. The evolving confrontation exposes states’ and cities’ vulnerability to losing some of the $650 billion in federal funds they receive for everything from police to sidewalks as they confront pension obligations and shrinking budgets.
“There’s an economic benefit from being a sanctuary city, but it doesn’t appear to warrant giving up 5 to 10 percent of the city’s funding,” said Dan White, senior economist at Moody’s Analytics, in West Chester, Pennsylvania.
Congressional Republicans have been trying for years to use federal dollars as leverage.
A bill this year by Senator Pat Toomey of Pennsylvania defines a “sanctuary jurisdiction” as any that restricts local officials from exchanging information about an individual’s immigration status or complying with Homeland Security requests. The measure would cut off funds including Economic Development Administration Grants, which totaled $238 million last year, and Community Development Block Grants, which amounted to $3 billion last year. Ten of the largest sanctuary jurisdictions were awarded a collective $700 million in block grants in 2016.
Chicago, the nation’s third-largest city after New York and Los Angeles, is particularly vulnerable. Public-employee retirement funds face a $34 billion shortfall, and Emanuel last month proposed a $9.3 billion budget for 2017 that would increase spending to hire and train more police. The spending plan anticipates $1.3 billion in federal grants this year.
“If Chicago were to lose all of its federal funding, that’s a game-changer,” White said.
Deep-Sixing Documents
In Los Angeles, the police chief said that he would continue a policy of not aiding federal deportation efforts, according to the Los Angeles Times. In New York, de Blasio said last week that he would consider destroying a database of undocumented immigrants with city identification cards before handing such records over to the Trump administration.
“We are not going to sacrifice a half-million people who live amongst us,” de Blasio said. “We will do everything we know how to do to resist that.”
New York City will receive $7.7 billion in federal grants in fiscal 2017, just under 10 percent of the city’s $82 billion budget.
In New Haven, Connecticut, the city of 130,000 that’s home to Yale University receives about a quarter of its $523 million budget from various federal grants, said Mayor Toni Harp.
“That would be really very difficult,” Harp said. “We would be willing to take that as far as it needed to go in our judicial system.”
Trump made attacks on sanctuary cities a campaign staple, often invoking the shooting death of Kathryn Steinle by an undocumented immigrant in San Francisco. The shooter had been released from a county jail even though federal officials had asked him to be held until they could deport him.
The incoming president has said he would deport more than 11 million people, beginning with gang members, drug dealers and other criminals. He’s also said he would create a special deportation task force within Immigration and Customs and Enforcement. If that’s the case, local jurisdictions might see even more requests for cooperation.
Many cities say that immigration is a federal responsibility and they should be left out of it. Others say that they simply don’t have the time or resources to address it.
Stretched Force
In New Orleans, which doesn’t consider itself a sanctuary city but whose officers don’t ask about immigration status, the specter of losing federal funds is daunting. Some money the city receives is enough to fund nine police officers, said Zach Butterworth, executive counsel for Mayor Mitch Landrieu and director of federal relations.
”The federal government’s support for local law enforcement has really been slashed significantly already,” Butterworth said. “For them to come down here and say you also need to be doing our job on immigration is a tough sell.”
Others say that singling out undocumented immigrants impedes law enforcement because large populations will shun any interaction with the authorities.
“Essentially, for the police, you’ve got a significant number of undocumented illegals in the country and they’re afraid of the police,” said Darrel Stephens, executive director of the Major Cities Chiefs Association.
Lena Graber, special projects attorney at the San Francisco-based Immigrant Legal Resource Center believes Trump will run into legal challenges if he threatens municipal funding.
“The federal government can’t force state and local law enforcement to use their resources to enforce federal regulatory programs like immigration law,” she said. “He can try to offer incentives, but the more that those incentives look like coercion, the more it won’t be legal.”
In Denver, which has a policy of refusing to hold detainees solely on a request by immigration officials, Mayor Michael Hancock said he won’t be cowed.
“This is all legal what we are doing here,” he said. “The president doesn’t have the authority to unilaterally decide how we move forward.”
In Oakland, California, Mayor Libby Schaaf says she is proud to run a sanctuary city, and is planning to recruit even more towns for the movement.
“The best defense is offense,” she said. “There is strength in numbers.”
Bloomberg Politics
by Lauren Etter and Tim Jones
November 16, 2016 — 2:00 AM PST Updated on November 16, 2016 — 12:30 PM PST
The global bond rout couldn’t have come at a worse time for the U.S. municipal market.
State and local government bonds dropped by the most in more than three years since the Nov. 8 election amid speculation that President-elect Donald Trump’s plan to slash taxes and unleash a new wave of spending will spur inflation and weaken demand for the tax-exempt securities. That’s coming just as municipalities are forecast to keep selling new debt at a swift pace after voters approved at least $55 billion of borrowing at the polls, threatening to put further pressure on prices.
“You have all these factors in play at a time when more supply is going to be trying to come to the market,” said Peter Hayes, who oversees $120 billion as BlackRock Inc.’s head of munis. “That typically is not very good,” he said. “I suspect demand next year is not going to be as strong.”
The election fallout is threatening to wipe out gains posted in the municipal market this year as the Federal Reserve held off on raising interest rates. Since last week’s election results, the securities have lost 2 percent, cutting this year’s return to 1.1 percent, according to Bloomberg Barclays municipal index. The yields on benchmark 10-year debt soared Monday by 0.2 percentage point to 2.13 percent, the highest since December, before steadying early Tuesday. It was the biggest one day jump since June 2013.
Trump’s tax plans pose a unique risk to the $3.8 trillion municipal market, which is dominated by investors seeking returns that are exempt from federal income taxes. That benefit makes the securities less valuable when levies are lowered.
With Congress also in Republican control, Trump has made reducing taxes one of his first priorities. He has backed cutting rates across the board, including on wealthy households that are key buyers of municipal bonds.
“Any or all of these tax policy changes, if implemented, would likely raise issuers’ borrowing costs and depress market prices of existing coupon munis as investors no longer seek out the exemptions offered by munis,” Peter Block, managing director for credit strategy at Ramirez & Co., wrote in a note last week.
Any sweeping overhaul could also result in the elimination — or reduction — of the tax-exemption on municipal bonds, if lawmakers close loopholes to offset cuts elsewhere. The leaders of President Barack Obama’s deficit-reduction commission recommended taxing the income on municipal bonds in 2010, though the proposal never made headway in Congress.
“It may find itself in jeopardy if and when loopholes start to close,” Vikram Rai, head of municipal strategy at Citigroup Inc., said in a note last week.
Besides, more bonds may be on the way if Trump follows through on proposals to pump as much as $1 trillion into crumbling roads and bridges. While the construction would give a boost to local economies, it’s not clear how much — if any — of that would come from borrowing by states and localities, as was done under part of Obama’s stimulus program.
“It remains to be seen if states primarily are going to have to pick up some of the tab for infrastructure, or it’s going to be a partnership or it’s going to be more private sector involvement,” said Block of Ramirez. “The details are too thin.”
Some of the pressure on the municipal market could be eased if rising interest rates cause local governments to put the brakes on borrowing. This week, for example, Chicago’s school district postponed a $426 million sale due to market conditions, with plans to potentially revive it next year.
The selloff in the bond market “could be a buying opportunity,” said Dawn Mangerson, a managing director at McDonnell Investment Management, which oversees about $7.6 billion of tax-exempt debt. “Even if they put through some type of reform, the attractiveness of munis is still going to be there.”
As the growing economy lifts their tax collections, localities have been moving forward with plans to improve their fraying infrastructure, with many rushing to borrow before the Fed raises interest rates as soon as next month.
Issuers have sold about $390 billion in bonds this year, marking the fastest pace since 2010. Citigroup forecasts that sales may reach $430 billion, while Ramirez projects about $450 billion.
“It looked like based on this year, next year was certainly setting up to be another big year of issuance,” said BlackRock’s Hayes. “The offset to that is when interest rates go up, you’ll actually see less issuance. Borrowers are more averse, they may wait.”
Bloomberg Markets
by Tatiana Darie
November 15, 2016 — 2:00 AM PST Updated on November 15, 2016 — 6:30 AM PST
Taylor Riggs, a contributor to Bloomberg Briefs, talks with Joe Mysak about this week’s municipal market news.
November 17, 2016
New York, November 18, 2016 — Unfunded pension liabilities now exceed debt used to fund campus facilities and other capital investment at Moody’s-rated public universities, the rating agency says in a new report. While annual pension expenses are currently manageable for universities at only 3% of operating expenses in FY 2015, they will rise as investment earnings lag discount rates and some states shift pension payment obligations to their universities.
“Based on investment results and discount rates used by state pension plans in fiscal 2015 and 2016, we project that aggregate Adjusted Net Pension Liabilities (ANPL) will increase about 40% between now and fiscal year end 2017,” Edie Behr, a Moody’s Vice President — Senior Credit Officer says in “Higher Education — US: Pension Liabilities Exceed Capital-Related Debt at US Public Universities.”
Across the public university sector, unfunded pension liabilities of more than $183 billion exceeds aggregate capital-related debt and will represent over 60% of total adjusted debt by fiscal year end 2017. Meanwhile, debt issuance for new capital–related projects will continue to be moderate.
Moody’s says while pension-related expenses are presently low for public universities, they are expected to increase as actual investment returns lag discount rates and net liabilities continue growing.
A few states currently make some or all of the employer contributions to pension plans on behalf of their public universities, but there is a growing risk that states will begin shifting this burden due to ongoing fiscal strain. Illinois (Baa2 negative) and New Jersey (A2 negative) have significant unfunded pension liabilities and budget imbalances, and Oklahoma (Aa2 negative) and West Virginia (Aa1 negative) are encountering budget pressure from low energy prices.
“Pension challenges are typically similar for public universities within the same state because they participate in the same state-sponsored, cost-sharing, pension plan,” Behr says.
The larger and higher-rated public universities also have more than enough liquidity and reserves to cushion short-term revenue disruptions. These reserves can be used for pension contributions and debt payments if needed.
The report is available to Moody’s subscribers at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBM_1038438.
Recent delays and cost overruns among some US public private partnerships are bringing to light the importance of having an experienced, insightful, and independent technical advisor be part of the process.
Voters authorize $55.7 billion in debt on Election Day, the most approved since 2008
President-elect Donald Trump is promising an infrastructure boom once he is sworn in. In some parts of the country, a burst of new construction spending by states and cities is already under way.
State and local governments around the U.S. have issued $149 billion in bonds for new infrastructure projects thus far this year, putting 2016 municipal borrowing on track to surpass each of the past five years, according to Thomson Reuters data.
Much of the new bond issuance happened in the second and third quarters, after a long stretch of low borrowing. Total bond issuance, including refinancing, has reached $388 billion, also a five-year record.
On Tuesday, voters across the country authorized state and local governments to borrow another $55.7 billion for similar projects, according to Ipreo. It was by far the most borrowing approved since 2008.
“I think there’s a lot of momentum, not only at the political level but also by the general public, to start spending more on infrastructure,” said Dan Heckman, senior fixed-income strategist at U.S. Bank Wealth Management.
Mr. Trump made a $1 trillion infrastructure investment over the next decade one of his first priorities as president, promising in his victory speech Wednesday to “rebuild our highways, bridges, tunnels, airports, schools, hospitals.” The proposal relies on private financing. Experts and industry officials say it is unlikely the nation’s aging infrastructure can be updated without public support.
In the short term, however, costs could go up for government borrowers. Municipal-bond prices have dropped along with Treasurys in days after the election, with interest rates for an A-rated 20-year general obligation bond at 3.2% on Thursday, compared with 2.94% on Monday, according to Thomson Reuters. Analysts cited concerns that inflation under a Trump administration could increase borrowing costs.
“In an era where the range has been pretty tight, that’s a pretty dramatic move in such a short period of time and he hasn’t even taken office yet,” said Howard Cure, director of municipal research at Evercore Wealth Management.
Florida bond finance director Ben Watkins is relieved to have refinanced more than $1 billion in mostly state general obligation bonds since June. His only regret, he said, is that he didn’t also push through a planned $250 million bond to improve Florida’s turnpike and another deal to refinance school construction borrowing.
“With this change in [municipal bond] rates, I wish I had been smart enough to go ahead and sell regardless of what the market felt like,” Mr. Watkins said.
Local infrastructure projects have languished for years as cities and states struggled to balance their budgets in the aftermath of the recession. Long-term borrowing for new projects by major U.S. cities hit a 24-year low in 2014, according to an analysis by The Pew Charitable Trusts.
But with expectations of a federal rate increase in December, local officials were eager to get in on historically low interest rates, many analysts said. Municipalities issued $108 billion in bonds in the third quarter of this year, compared with $86 billion in the third quarter of 2015, according to Thomson Reuters data. They also asked voters Tuesday to approve nearly 700 ballot measures seeking to issue bonds and won approval for more than 70% of them, according to Ipreo.
“The low interest rates are very attractive to us and the idea of waiting any longer means the cost will drive up,” said Alicia Trost, spokeswoman for San Francisco’s Bay Area Rapid Transit, or BART. The transportation system won voters’ approval Tuesday to issue $3.5 billion in bonds, its first referendum since 2004. The money will be used to replace 90 miles of rail and fix leaky tunnels and other infrastructure improvements.
Voters in Texas’ El Paso Independent School District approved $668.7 million in new borrowing in what was the school system’s first successful bond referendum since 2007, said spokeswoman Melissa Martinez. The money will pay for a consolidation of school campuses to accommodate declining enrollment, 81 new school buses and laptops for middle-school students in the 60,000-student district.
A citizens committee working on the referendum chose not to limit the borrowing to $500 million after learning that the additional money would add only $2.39 to the tax bill for a $100,000 home.
That type of deal will likely still be available to them. Despite the postelection volatility, “borrowing costs are still relatively and historically low,” U.S. Bank’s Mr. Heckman said.
THE WALL STREET JOURNAL
By HEATHER GILLERS
Nov. 12, 2016 7:00 a.m. ET
Write to Heather Gillers at heather.gillers@wsj.com
Norwalk, CT—November 16, 2016 — The accounting and financial reporting standard for state and local governments that addresses fund balance reporting and governmental fund type definitions achieves its purpose, according to a report issued today by the Financial Accounting Foundation (FAF). The Post-Implementation Review (PIR) Report on Governmental Accounting Standards Board (GASB) Statement No. 54, Fund Balance Reporting and Governmental Fund Type Definitions, addresses technical, operational, and cost-effectiveness aspects of the Statement.
GASB Statement 54 was issued in 2009 to improve the usefulness of information provided to financial report users about fund balance by providing clearer, more structured fund balance classifications, and by clarifying the definitions of existing governmental fund types.
“The PIR process has provided some important stakeholder feedback on the benefits and costs of Statement 54 in light of actual experience in using and preparing the information,” said GASB Chairman David A. Vaudt in the Board’s response to the PIR report. “On behalf of the GASB, I would like to thank the Foundation for undertaking this important process and all of the individuals and organizations who gave their time to share their insights and experiences with the PIR staff.”
The PIR team received broad-based input from GASB stakeholders including auditors, preparers, financial statement users, and academics. Based on its research, the review team concluded that:
The review of Statement 54 was undertaken by an independent team of the FAF, the parent organization of the GASB and the Financial Accounting Standards Board (FASB). The team’s formal report is available here. The GASB’s response letter to the report is available here.
The next PIR of a GASB standard will not be conducted for a few years, as the PIR team has completed all the reviews of significant GASB standards that have been effective for at least two years.
WASHINGTON – Standard & Poor’s is reassessing some of its existing ratings and deferring some new ones in certain sectors because of errors in credit scoring models.
The sectors include higher education, social housing (which is the rating agency’s name for public housing), and water and sewer.
S&P released notices on the sectors with the model errors between Sept. 29 through Oct. 28 and has assigned a few ratings “with developing implications,” resolving one of them since then.
However, some issuers in the higher education sector who wanted to remain anonymous recently reported having trouble getting ratings.
Credit scoring models are tools used by analysts to apply rating criteria, said Adom Rosengarten, lead analytical manager for S&P’s enterprise group.
“We’ve identified those three models that have errors,” he said in a interview. “We’re working to correct those errors … and to assess the rating impacts, if any, that may be related to the correction of the models’ errors.”
“We’re working with issuers as they come in and are discussing how we can rate deals on a transaction by transaction basis,” he added.
The errors were discovered by analysts, according to Rosengarten. He declined to specify them beyond the disclosures made by S&P in the recent notices.
“On the water and sewer side, what it led to was a single CreditWatch that we’ve already resolved,” he said. “On the social housing side, it led to two CreditWatch development ratings total.”
In the higher education sector “we continue to assess if there will be any rating changes,” he added.
The most recent S&P notices, on higher education, were released on Oct. 28 and Oct 21. The earlier one said that S&P had found errors in its credit scoring model for higher education.
“We do not know the likelihood at this time of rating changes following the correction of this error although it is possible that such changes will be required,” S&P said. “We will continue working to correct the error and provide additional information as appropriate.”
In the Oct. 28 notice, S&P said, “We have discovered additional errors in the higher education credit scoring model. We do not know the likelihood at this time of rating changes following the correction of the errors although it is possible that such changes will be required.”
In an Oct. 18 notice, S&P said an error had been found in the social housing provider credit scoring model.
The credit rating agency later issued a notice on Oct. 27 that said it has placed its A-minus ratings on Fall River Housing Authority in Massachusetts and the authority’s 2012 general obligation lease revenue bonds on CreditWatch “with developing implications.”
S&P announced at the same time that it has issued an A-plus rating on Credit Watch “with developing implications” for the Wisconsin Housing Preservation Corp.
“The CreditWatch Developing status reflects our view that we could raise, affirm, or lower our ratings following correction of the model error,” the rating agency said, adding, “At the same time, we will review the … transactions based on the latest audited financials, which we anticipate completing within the next 90 days.”
In a Sept. 30 notice, S&P said it found an error in its water/sewer credit rating model. “We do not know the likelihood at this time of rating changes following the correction of this error with the exception of Clackamas County Service District No. 1, Ore., whose ratings have been place on CreditWatch.”
The day before, S&P placed its double-A rating on the Clackamas County issuer on CreditWatch “with positive implications.”
“This action reflects the recent discovery of an error in the water/sewer credit scoring model as it relates to our assessment of the enterprise profile, specifically the economic fundamentals assessment,” S&P said. It added, “We believe that there is at least a one-in-two likelihood the rating will be raised following the completion of our review.”
After the rating agency corrected the credit scoring model, it issued a notice on Oct. 21 raising Clackamas County issuer’s long-term and underlying rating for its sewer revenue and refunding bonds to double A-plus from double A and removed the rating from CreditWatch. It said the outlook is stable for the bonds.
The rating contained a lengthy rationale for the rating, detailing the enterprise risk profile and financial risk profile for the bonds.
The Bond Buyer
By Lynn Hume
November 7, 2016
U.S. voters on Tuesday favored a surge in borrowing for public projects, approving some of the biggest bond measures on ballots, while support for new taxes was mixed, according to election results on Wednesday.
Final voting tallies were not immediately available for all of the 682 state, school and local government bond measures, according to data company Ipreo.
At $70.3 billion, the amount of bond issuance requested to fund the building and repairing schools, mass transit, roads, and other projects was the largest in a decade. To view the historical amount of bond ballot measures, click on tmsnrt.rs/2e9Z5bb.
Some of the largest bond requests won approval, including the biggest bond proposal in Tuesday’s election: $9 billion of California general obligation debt in the state’s so-called Proposition 51. This will finance new construction and modernization for K-12 and charter schools and community colleges, according to semi-official election results on the California Secretary of State’s website.
“Passage of Proposition 51 is credit positive for school districts with approved, but unfunded capital projects under the state School Facility Program, which is depleted,” Lori Trevino, an analyst at Moody’s Investors Service, wrote in a research note on Wednesday.
With 195 bond measures totaling $41.7 billion, California issuers accounted for nearly 60 percent of the total par amount of debt on ballots nationwide.
California’s voters rejected Proposition 53, a proposal to rein in debt by requiring statewide voter approval for revenue bonds exceeding $2 billion for projects financed, owned or managed by the state.
The rejection removes a hurdle standing in the way of projects such as the $14.9 billion California Water Fix project for upgrading its water infrastructure.
“It assures that the state’s water policymakers will have the tools necessary to implement the California Water Fix, although they still face an uphill battle to secure the full approval and financial backing necessary to implement the plan,” Shannon Groff, Fitch Ratings director of U.S. Public Finance, said in a statement.
As for tax measures, California voters passed a 12-year extension of a temporary state personal income tax increase on earnings of $250,000 or more and a cigarette tax hike.
Voters in 35 states weighed 154 state-wide measures, including bonds and taxes, according to the National Conference of State Legislatures, which posted results on its website.
Montana voters said no to creating a biomedical research authority funded by $200 million of bonds over 10 years.
PUBLIC HEALTHCARE INSURANCE OPTION FAILS
In Colorado, voters turned down a proposed constitutional amendment calling for a public option universal healthcare payment system, funded by a new 10 percent state payroll tax. They also rejected a cigarette tax hike.
Arkansas voters agreed to lift a cap on state bond issuance for economic development projects. Illinois will have to earmark money generated from transportation-related fees and taxes exclusively for transportation uses, under a new constitutional amendment approved by voters.
New Jersey voters approved the use of gasoline taxes solely to fund road, bridge and mass transit projects, and to allow $12 billion of transportation borrowing over eight years. Governor Chris Christie signed a 23-cent gas tax hike into law in October.
In Missouri, voters amended the state constitution to prohibit any new tax on services or transactions. Oklahoma voters turned down a sales tax hike for public education. A corporate tax hike to fund education in Oregon also failed.
Washington state voters rejected the nation’s first tax on carbon emissions.
At the local level, San Diego voters rejected a measure to raise hotel taxes and direct hundreds of millions of public dollars toward building a new National Football League stadium in downtown San Diego for the Chargers team.
Reuters
Wed Nov 9, 2016 | 7:20pm EST
(Reporting By Karen Pierog and Dave McKinney in Chicago, Robin Respaut in San Francisco, and Hilary Russ in New York; Editing by Daniel Bases and Richard Chang)
As stocks rose after Trump’s election victory, bonds tumbled. But the worst may soon be over.
While the stock market held an election celebration last week, the bond market threw a Trump tantrum. Yields rose sharply, especially those on long-term Treasuries. The 30-year bond climbed 0.3 percentage point to 2.94%, resulting in a 6.3% decline in price. (Bond prices move inversely to yields.) The 10-year Treasury yield climbed almost as much, to 2.15%, the first time since January it has topped the 2% mark.
It wasn’t just Treasuries. Municipal bonds, corporate bonds, and preferred securities all fell. Bloomberg estimates $1 trillion in the value of bonds evaporated last week after the election. Stocks bought for yield, like utilities and real estate investment trusts, suffered too.
The main reason for the rate surge is the expectation that inflation will rise. Thanks to the Republican sweep, investors are betting Donald J. Trump will be able to implement tax cuts, increase infrastructure spending, and ease regulations, stimulating economic growth. Trade restrictions, a key pillar of the Trump platform, would also spur inflation, even while impeding growth.
Rate strategists believe yields could rise further when markets reopen Monday after the Veterans Day holiday Friday. But there are reasons to expect the spike to end fairly soon. Yields may rise another 0.2 to 0.3 percentage point this year, says Raman Srivastava, deputy chief investment officer at Standish Mellon. But he doesn’t expect anything like the spike in yields in 2013 that took the 10-year Treasury to 3%.
For starters, the Federal Reserve remains likely to raise short-term rates in mid-December, which should act to dampen inflation expectations. Even if all goes as planned for Trump, the economic growth the market is forecasting will take time to materialize. For example, it will take at least until the end of next year before growth from infrastructure spending could emerge, says Srivastava. Longer term, demographic and global macroeconomic trends are going to restrain inflation. “Structurally, I don’t see a shift,” he says.
And the president-elect may face more hurdles implementing his policies than many expect. “Investors shouldn’t take this past week too much to heart,” says Dan Heckman, fixed-income strategist at U.S. Bank Wealth Management. “There has been a lot of anticipation of certain things happening, but the reality is that we don’t know if they are going to come to fruition or not.”
A FEW TRUMP MISSTEPS, and the stock market could get less optimistic. “I expect volatility in the markets over the next few months going into the first 100 days,” says Michael Arone, chief investment strategist at State Street Global Advisors.
Owning bonds as a buffer against that volatility makes sense, but investors need to “pivot” for a rising-rate environment, he says. Stay in government bonds, but shorten maturities and add some Treasury Inflation-Protected Securities, Arone suggests. He is overweighting corporate credit—both high-yield and investment-grade—and adding some floating-rate securities, like senior loans.
Consider a barbell approach, balancing longer-term, higher-yielding bonds with short-term debt that can be reinvested at higher yields as rates rise, suggests Heckman. Srivastava encourages diversifying—including globally—as some bond markets may have overshot to the downside.
Munis may already be an opportunity, argues John Miller, head of Nuveen’s municipal-bond group. Yields jumped 0.25 percentage point last week. “If one can get over the shock of how fast that move was, I would say this does look like a good opportunity to put money to work for the long run,” he says.
To be sure, it’s still early to buy more bonds; no one wants to catch a falling knife. But selling off high-quality issues in your portfolio now doesn’t seem like the right move either.
BARRON’S
By AMEY STONE
November 12, 2016
Mutual funds and exchange-traded funds benchmarked to the Bloomberg Barclays Aggregate U.S. Bond Index lost about $17.7 billion in value this week, according to a MarketWatch analysis of data provided by Morningstar.
As of last Friday, the roughly 1,700 exchange-traded and mutual funds benchmarked to the index collectively managed about $1.2 trillion. By the close of trading on Thursday, the Bloomberg index registered a total return of minus 1.487 percentage points. Funds benchmarked to an index are supposed to reflect its holdings as accurately as possible, but occasionally there are slight discrepancies.
Because many mutual funds report their holdings only once a month, the total AUM figure used as the basis for these calc£ulations doesn’t reflect changes in valuation due to market movements between Oct. 31 and Nov. 4. It also doesn’t reflect changes due to investor withdrawals between Oct. 31 and Thursday.
The index, which is weighted by market capitalization, comprises a broad range of U.S. dollar-denominated bonds, including Treasurys, asset-backed securities and corporate debt. Only fully taxable bond issues are eligible, which excludes most municipal bonds and inflation-linked government bonds.
Republican President-elect Donald Trump’s unexpected victory over Democrat Hillary Clinton in Tuesday’s election triggered an explosive bond-market selloff—the biggest since the “taper tantrum,” which occurred in the summer of 2013.
Former Federal Reserve Chairman Ben Bernanke unwittingly sparked the taper tantrum when he told Congress that the Fed would “gradually reduce the flow of [bond] purchases” as the U.S. economic outlook improves. The comment led to a prolonged selloff that saw the 10-year yield rise from about 1.6% to nearly 3% between late May and early September 2013.
Many, including a team of macro strategists at Bank of America Merrill Lynch led by David Woo, expect bonds to continue falling as Trump and the Republican-controlled Congress cut taxes and fund infrastructure projects. That will increase the budget deficit and increase the supply of Treasurys as government borrowing rises.
“We believe the outcome of a Republican clean sweep means fiscal loosening is now a foregone conclusion. We believe this will lead to both higher rates and a higher [dollar],” Woo said, in a note.
On Wednesday alone, the yield on the 10-year Treasury note TMUBMUSD10Y, +5.22% rose 20.3 basis points on Wednesday, its largest-one day gain since July 5, 2013. Bond yields move inversely to prices.
Treasury yields have risen steadily in recent months, after plunging to historic lows following the U.K.’s late-June vote to leave the European Union. Treasurys represent a plurality of the index’s holdings.
MarketWatch
by Joseph Adinolfi
Published: Nov 12, 2016 11:59 a.m. ET
* Tax rate reductions make muni bond tax-exemption less attractive unless yields rise
* Medicaid funding plan could squeeze state budgets
* Unraveling trade deals may hurt Southeastern states
* Negatives could be offset by big infrastructure boost, repatriating corporate profits
U.S. municipal bonds could lose favor with investors under President-elect Donald Trump’s proposals to cut personal income tax rates, thereby reducing the benefit of the bonds’ tax exemption, analysts said.
Muni bonds have long been attractive to wealthy Americans who fall into higher tax brackets because income earned on the bonds is exempt from federal income taxes.
“Tax reform is a key risk for munis – and one not reflected in current pricing,” Morgan Stanley analysts said in a note after Trump was elected president and Republicans took control of Congress in Tuesday’s election.
Muni bonds “could become less attractive from a portfolio perspective given lower tax value and the potential for yields to move higher to compensate for this loss,” the note said.
Trump has proposed reducing the top marginal tax rate to 33 percent from the current 39.6 percent.
Under that lower rate, muni bond yields would have to be higher to make their tax exemption as attractive as it is today – by 20 basis points on 10-year debt and 29 basis points on 30-year paper, all else being equal, according to Citi analyst Jack Muller.
That, in turn, would increase the cost of borrowing for the states and cities that issue muni bonds to finance everything from school construction to sewer systems.
Trump’s presidency, coupled with Republican control of Congress, could smooth the implementation of an agenda that will have broad ramifications on investor behavior and the public sector.
Many of Trump’s proposals are unclear but are expected to solidify in the coming months as he assembles his Cabinet and prepares to take office in January.
In addition to repealing the Affordable Care Act, Trump has called for using federal block grants – instead of the current cost-sharing system with states – to send money to the states for Medicaid, the nation’s healthcare program for the poor.
Under that idea, federal funding could drop between 4 and 23 percent over 10 years, Fitch Ratings said on Thursday, citing a Congressional Budget Office review of previous Medicaid block grant proposals.
“Reduced federal Medicaid aid could lead states to tighten overall spending and reduce transfers to local governments,” the credit rating agency said.
However, states could also benefit from the autonomy and flexibility of the block grant structure, Fitch said.
Other pressures could come from Trump’s proposals to withdraw from and renegotiate trade agreements with foreign countries.
“Trump’s trade policy proposals would have significant adverse implications for U.S. investment and growth and push up prices, particularly in the event of foreign counter measures or ‘currency wars,'” Fitch said.
In turn, that could disrupt American manufacturers’ supply chains, which would be challenging for businesses especially in Southeastern states that have recently had job growth in automotive and aerospace industries, Fitch said.
INFRASTRUCTURE, CORPORATE PROFITS COULD HELP
Trump’s proposal to boost infrastructure spending, which he reiterated during his acceptance speech early Wednesday morning, could offset negative implications from other proposals.
His plan calls for $1 trillion of infrastructure investment over 10 years through public-private partnerships and private investments, to be incentivized by $137 billion of tax credits.
The need for spending is certainly acute. The American Society of Civil Engineers estimates the country requires $1.4 trillion of infrastructure spending by 2025.
Issuance of municipal transportation bonds could grow dramatically if Trump’s administration directed federal money through state and local grants or loans, according to Citi. But if the federal government bears the full cost, municipalities would not need to issue debt for the projects.
Institutional investors are also increasingly interested in infrastructure as confidence in the equity markets wanes and investors seek stable, cash-generating investments in the current low interest-rate environment.
Offsetting a possible drop in revenue from infrastructure tax credits is another Trump proposal to let companies repatriate foreign profits at a one-time reduced tax rate of 10 percent, down from the current 35 percent corporate tax rate.
All that money flowing back into the United States “could be a huge tax windfall for states, which would realize one-time tax revenues from any money entering that state, a significant boon for California, New Jersey, New York and Illinois,” Eaton Vance portfolio managers said in a note.
Reuters
By Hilary Russ and Robin Respaut
Fri Nov 11, 2016 | 12:00am EST
(Reporting by Hilary Russ in New York and Robin Respaut in San Francisco; Additional reporting by Karen Pierog in Chicago; Editing by Daniel Bases and Matthew Lewis)
NEW YORK – It’s not just Detroit and Puerto Rico with financial problems.
The pressure is rising on local governments around the country that are struggling with big pension obligations and other debts. Five states need to put aside more than 25 percent of their annual tax revenues just to pay pensions and other debts, an untenable amount, according to a recent study by the nonprofit Center for Retirement Research. For major cities, debt costs above 40 percent of revenue are typically an unmanageable burden, and the report counts eight of them.
Overall, U.S. state pension plans are underfunded by at least $1 trillion, various experts and credit rating agencies say. And that funding hole will almost certainly hurt taxpayers, government workers and bondholders.
“It’s getting harder to sweep these problems under the rug,” says Tracy Gordon, a senior fellow with the Urban-Brookings Tax Policy Center.
After taking into account health care and other debt obligations, states like Hawaii, Kentucky and Massachusetts and cities like Houston and San Jose, California, are all above thresholds that the Center for Retirement Research considers worrisome.
For many years, politicians hoped to make up for the funding gaps by getting strong returns from investments in stocks, bonds and hedge funds, says Gordon. But the typical public pension plan had a return of just 0.5 percent for the fiscal year that ended in June, according to credit-rating agency Moody’s.
That has increased the risk for a major crisis at municipalities with outsize debt payment, says Lisa Washburn, a managing director for Municipal Market Analytics, a municipal bond research firm. “This is a liability that they are going to have to come to terms with eventually, and the longer they delay coming to terms with it, the worse it’s going to be.”
How you might be affected depends on your relationship to the location in question:
— You’re a bond holder.
For muni bond investors, the chief worry is a default. But despite the dramatic headlines, investors who hold state-issued bonds until they mature have little to fear. “You can expect to be repaid,” says Washburn. If your state’s debt rating is downgraded, however, you may find that your bond is worth less if you need to sell it before maturity.
Those who hold the bonds of struggling cities overburdened with debt, however, have cause for concern. “States have sovereign ability to do just about anything they want, so they have a very wide array of options to pursue,” says Alan Schankel, a municipal bond strategist at Janney Capital Markets. “Depending on the level of oversight, cities and counties have much less flexibility. And many of them are dependent on state aid.”
When a city files for bankruptcy, judges sometimes allow payments to be curtailed to muni bondholders. That’s what happened in Detroit and Stockton, California. Moreover, severe budget problems at the state government level can also have a trickle-down effect leading to less support for schools and hospitals supported by the state, which also issue municipal bonds.
— You’re an employee.
The good news for public service workers is that, in some states, pension payments are guaranteed by law. And even in places where they may not be, legislators tend to be sympathetic to pension holders.
Now for the bad news: If things get really bad, you still might find your benefits thwacked. Detroit workers, for example, had their pensions cut when the city filed for bankruptcy. A more likely situation is that you’ll be the victim of pension “reform,” which could involve an increase to your annual contribution rate or fewer cost-of-living salary bumps. You may also see cutbacks in other benefits, such as health care, which are easier for states and cities to enact. Rhode Island suspended cost-of-living adjustments for retirees in 2011 and introduced a 401(k)-like funding system for current state workers, for example.
— You’re a taxpayer.
A simple way for states to boost their sagging budgets is to increase taxes. A sales tax increase along with an income tax increase on wealthy residents helped California pull out of its massive budget hole from the Great Recession, for example. Simple, though, doesn’t mean easy. Politicians are often reluctant to increases taxes on their watch. “Politically, that’s just very hard to do,” says Washburn.
Other places have tried different tactics to boost revenues. A few years ago, Kansas tried cutting taxes in hopes that it would boost its economy and lead to eventual gains in income tax revenue, for example. Unfortunately, the state still recently had a projected $290 billion shortfall.
Instead of raising taxes, states sometimes cut back services in order to save money. “Maybe the Department of Motor Vehicles is open five days a week instead of six,” says Schankel. The challenge is that if too many services are cut, residents will become disenchanted with the community and move elsewhere. That only exacerbates the revenue problem.
It all shows how no single approach will lift local governments out of their troubles. One thing, however, is clear, says Gordon: “Someone has to be left holding the bag.”
Fox Business
Published November 07, 2016
WASHINGTON – Donald Trump’s plans to dismantle the DoddFrank Act and impose a moratorium on new regulations could affect the municipal bond market.
The president-elect’s transition team said on Trump’s webpage: “The DoddFrank economy does not work for working people. Bureaucratic red tape and Washington mandates are not the answer. The Financial Services Policy Implementation team will be working to dismantle the DoddFrank Act and replace it with new policies to encourage economic growth and job creation.”
At the same time, Kroll Bond Rating Agency said in a release that it is betting the House will modify and pass the Financial Choice Act (H.R. 5983), which House Financial Services Committee chairman Jeb Hensarling, RTexas, introduced last September to roll back DoddFrank Act and other requirements.
The bill would divert to Treasury funding that the Municipal Securities Rulemaking Board gets from Securities and Exchange Commission and Financial Industry Regulatory Authority sanctions against violators of muni rules. The funding arrangement was set up under DoddFrank.
The Act also made non-dealer municipal advisors subject to federal oversight and regulation and extended the MSRB’s reach to protecting municipal issuers.
Former SEC Commissioner and DoddFrank critic Paul Atkins has been tapped by Trump to lead the transition team’s review of independent financial agencies. Nominated by thenPresident George W. Bush, Atkins was at the SEC from August 2002 to August 2008. He is currently CEO of Patomak Global Partners, which provide consulting and other services in the financial arena.
David Malpass, former chief economist at Bear Stearns and founder and president of Encima Global LLC, an economic, research and consulting firm who sits on the board of UBS Funds, is heading Trump’s transition team of economic issues along with Bill Walton, who chairs Rappahannock Ventures, a private equity firm.
A moratorium on new rules could thwart the Municipal Securities Rulemaking Board initiatives on markup disclosure, pretrade price transparency, and syndicate practices. Dealers have complained about nonstop rules coming out of the MSRB in response to DoddFrank and the SEC’s 2012 Report on the Municipal Securities Market.
“As of right now, if you look at the types of things that have been impacting the muni market, especially on the retail and regulatory side, they’re all born out of the 2012 [report],” said John Vahey, managing director of federal policy for Bond Dealers of America. The report came out of the SEC with bipartisan support, but the expected changeover in the administration raises questions about whether that kind of support will continue, he added.
Vahey said dealers have a bit of regulatory fatigue from the past five years. “Could dealers use a breather from reg compliance changes and time to adapt to a new environment? Yes,” Vahey said. “Is there at the same time some potential negatives out there to a regulatory moratorium across the entire economy Potentially, yeah.”
Trump will also have the chance to choose the new SEC chair as well as fill two vacant commission slots. SEC chair Mary Jo White has said she will step down and Congress never confirmed Obama’s nominees: Hester Peirce, a senior research fellow and director of the financial markets working group at the Mercatus Center at George Mason University, and Lisa Fairfax, a professor of law at George Washington University.
Matt Fabian, a partner with Municipal Market Analytics, said that it is easy to imagine Trump would appoint industry-friendly individuals to fill the chair and vacant commissioner slots at the SEC.
“It’s a very volatile situation right now in terms of myriad policy outcomes from the commission,” Vahey said.
Trump’s promised moratorium on new regulations comes as the Treasury Department has been hoping to finalize rules on issue price and also press forward with rules on political subdivisions, which have been very controversial in the muni market.
A list of potential cabinet members from Trump’s transition team obtained by BuzzFeedNews on Thursday included three names for Treasury Secretary: Hensarling, businessman Carl Icahn and banker and political fundraiser Steven Mnuchin.
Fitch Ratings on Thursday warned: “Trump’s Medicaid and trade policy proposals would significantly lower federal transfers to state budgets and could negatively affect economic growth and revenues if they are implemented.”
Trump would convert Medicaid funding into a block grant program that would “lead to much lower federal funding to states,” the rating agency said.
Uncertainty
There are still many uncertainties surrounding Trump and his proposals and policies. Fitch Ratings said Trump’s policies would be “negative for U.S. public finances” because of uncertainties about the detail of his proposals, the degree to which he’ll promote them, and his ability to implement them. Senate Democrats will still be able to filibuster Republican legislation they don’t like, the rating agency pointed out.
“The election of a polarizing figure like Trump may put institutional relationships under strain, although his victory will give him some significant political capital,” Fitch said.
Earlier this year, Trump suggested he would try to negotiate down the national debt of the U.S., setting the financial markets on edge.
Trump’s proposals would contribute $5.3 trillion to the national debt, according to an analysis by the Committee for a Responsible Federal Budget.
A key test for him will be whether to continue to fund the federal government and raise or suspend the federal debt limit, which has been lifted until March 2017.
The Bond Buyer
By Lynn Hume and Jack Casey
November 10, 2016
Powered by P3 INGENIUM: The most comprehensive source for P3 project updates in North America.
November 7, 2016
President-elect Donald Trump’s promise to rebuild the nation’s infrastructure is resonating with Republican and Democratic lawmakers, but could spell trouble for municipal bonds.
Trump has proposed a $1 trillion, 10year infrastructure plan, which he touted during his victory speech.
“We are going to fix our inner cities and rebuild our highways, bridges, tunnels, airports, schools, hospitals,” he said. “We’re going to rebuild our infrastructure, which will become, by the way, second to none. And we will put millions of our people to work as we rebuild it.”
House Minority Leader Nancy Pelosi said Wednesday that infrastructure is one area on which she and Trump can agree.
But Trump’s plan relies on $137 billion of tax credits that he would ask Congress to authorize and that has drawn concerns from some muni market participants.
“The little we know about Trump’s plan is that it focuses on tax credits,” said Jessica Giroux, BDA’s general counsel. “Our concern is that it says nothing about munis.”
Trump advisors Wilbur Ross, a billionaire private-equity investor, and Peter Navarro, a professor at the University of California at Irvine, said the infrastructure plan’s tax credits could be used by investors to leverage $167 billion in private funds.
Companies taking advantage of the tax credits would be able to borrow money on the private market at low interest rates to finance $1 trillion of projects without the need for any new taxes, they said.
“Trump’s plan will harness market forces to help raise construction funds by incentivizing private sector investors through tax credits, thereby revolutionizing American infrastructure finance,” Navarro said.
Trump wants to pay for infrastructure through repatriation pf companies’ overseas earnings. Companies would be able to bring overseas earnings back to the U.S. at Trump’s proposed reduced tax rate of 10% rather than the current 35%. With the credits, companies could avoid any tax liability by investing $122 million of the repatriated profits in infrastructure projects, Ross and Navarro said.
Repatriation would take away a significant amount of tax revenue available for tax reform, thereby increasing the pressure on Congress to look even harder at cutting tax deductions and exemptions.
The Joint Committee on Taxation has estimated that American companies hold a total of $2.6 trillion of foreign income in overseas banks.
Transportation groups also have some concerns about Trump’s infrastructure plan. Bud Wright, executive director of the American Association of State Highway and Transportation Officials, said tax credits are not a longterm solution.
“We’re sort of agnostic about the tax credits,” Wright said. “We’re not opposed to the idea, but it is not the longterm funding solution that we need to repair the deficit in the Highway Trust Fund.”
Federal tax credits are not transportation user fees, he said.
“A one-off, short-term type of program like that would be useful but it does not do anything for the long term sustainability of federal transportation funding,” Wright said. “Corporate tax reform is not really a transportation issue either, but in some circles it has been linked to infrastructure funding as well. Again, it’s not something we oppose but it is not a solution.”
However, Wright concedes that Increases in the federal gasoline tax are not likely. “The fuel tax is the best understood and most administratively effective revenue source there is but it is about as politically volatile as any issue I’ve seen in Washington,” he said. “That goes for Democrats as well as Republicans. There’s just a knee-jerk reaction to oppose it.”
Jim Tymon, chief operating officer and director of policy at AASHTO, said, “I think we’ll see an infrastructure package coming out of Congress, probably not quickly but certainly within the first year.”
As always, the sticking point will be how to pay for increased infrastructure spending, he said.
“We’ll have to see what sort of pay-fors and offsets are available and acceptable,” Tymon said.
The Bond Buyer
By Jim Watts and Lynn Hume
November 10, 2016
The ex-Microsoft CEO is working on a project that aims to make government data more accessible.
Steve Ballmer is pretty bummed out about the election. A self-proclaimed “numbers guy,” Ballmer said the truth is getting lost in the political rhetoric, and he wants to arm citizens with data to defend against lies by the campaigns. “Nobody seems to care about the facts,” he said.
When not jumping around on the sidelines of Los Angeles Clippers games, the former Microsoft Corp. chief executive officer has been spending his retirement on the inside of an Excel spreadsheet. Ballmer and a team of about 25 data geeks have been poring over more than three decades of government documents to create a comprehensive accounting of U.S. spending. The goal is to treat the nation like a company and create what Ballmer describes as a “10-K for the government,” like the one publicly traded businesses are required to file with regulators each year.
Ballmer’s project, called USAFacts, exists in the form of hundreds of Excel files and 385 PowerPoint slides, many of which require a magnifying glass to read. While the complete report won’t be ready in time for Election Day, he’s using the research as the basis for a class he teaches at Stanford University. His group of 19 sophomores are getting a peek at what Ballmer plans to publish early next year in the form of a 10-K filing, investor presentations, charts, graphics and a dedicated website.
Mary Meeker, a partner at venture capital firm Kleiner Perkins Caufield & Byers, undertook a similar effort called USA Inc. that Bloomberg Businessweek published in 2011. Two years ago, President Obama signed the Data Act, designed to make federal spending information more accessible, while OpenGov and other venture-backed startups have sprung up with the goal of increasing transparency. While any effort toward greater visibility is a good thing, the government shouldn’t be analyzed in the same way as a business in some cases, said Alex Howard, a senior analyst at the Sunlight Foundation, an advocacy group for government openness who hasn’t seen Ballmer’s report.
In Ballmer’s worldview, data trumps all. “I just think it’s important if you are going to make your case, for you to make your case in the context of numbers,” Ballmer said at his office in Bellevue, Washington. “Here are the numbers. You don’t have to be a rocket scientist. You don’t have to be an economist. You decide what you believe. And when things come up that you need to vote on, you need to opine on, you’ll have the view of a citizen that’s informed by facts.”
A childhood veteran of math camp with an undergraduate degree in mathematics and economics from Harvard University, Ballmer tends to mentally organize his life into rows and columns. He has a superhuman memory for numbers that would impress, and sometimes terrify, his lieutenants at Microsoft. He’d frequently ask detailed questions about a manager’s business unit, sometimes reciting metrics off the top of his head that no one else in the room knew. “Steve sees the world as an Excel spreadsheet,” said Kevin Turner, who Ballmer hired as Microsoft chief operating officer in 2005 and is now CEO at financial firm Citadel Securities.
Ballmer’s obsession with government data originated from a disagreement with his wife. Almost three years ago, Connie Ballmer told her newly retired husband that he should focus more on philanthropy. His wife has dedicated herself to child welfare and other causes, and there’s plenty left to give: Ballmer’s estimated net worth is $25.1 billion, according to the Bloomberg Billionaires Index. “I said, ‘Eh, why do you worry about it so much?'” Ballmer said. “At the end of the day, the biggest philanthropy in the U.S. is the government. So as long as we pay our taxes, we’re doing our part.”
It was an unusual argument to make, and as with many Ballmer debates, it turned into a research exercise. He scoured the web for a summary of government spending at all levels. He started with Bing and then tried Google. Neither had what he was looking for. So he decided to build it.
Working with data, design and academic experts at Stanford and in the Seattle area, Ballmer runs the project from the 20th floor of a high-rise overlooking Lake Washington. One challenge they faced early on was figuring out how to divide the government into business units. After several failed approaches, a staffer suggested a look through the Constitution. “The Constitution!” Ballmer recalled, suddenly speaking many decibels louder as he got up to diagram the segments on a massive Microsoft Surface Hub touchscreen computer. “It’s the perfect way!”
USAFacts breaks down government operations into four main segments based on the preamble to the Constitution. For “establish justice, insure domestic tranquility,” they chose police, workplace safety and child welfare; another includes military, defense, foreign affairs and immigration; the third has the economy and caring for the poor; and in the last, civil rights, environmental sustainability and education. The 10-K has a section on risk factors, an essential part of public company filings. It includes war, interest rate hikes, civil unrest and climate change. The draft report also talks about America Corp.’s customers, using copious amounts of demographic data on U.S. citizens.
Researchers collected information from 55 government or nonpartisan sources, including from state and local municipalities, going back to 1980—the year Ballmer joined Microsoft. They kept analysis and interpretation to a minimum. Ballmer’s goal is to be completely unbiased. The billionaire said he’s an independent and has been an active political donor in recent years, with a tendency to give to both sides. He won’t say who he’s voting for.
Ballmer said the idea that the U.S. is getting worse mostly isn’t true. Infrastructure, such as road and bridge safety, is better than or comparable to 1990. The government doesn’t seem as big as some people say it is, either. Of about 24 million government workers, teachers account for some 11 million jobs; police, firefighters and the like for 3 million; and military for about 2 million. Add in public hospitals, waste management, prisons and other workers, that leaves just 1.7 million or so bureaucrats.
Mark Duggan, a Stanford economics professor who is teaching the course with Ballmer, said this project is especially important as Americans consider the need for spending cuts or other changes to Medicare or Social Security. “What Steve is trying to do is to make it possible for people who want to make an informed decision to do that,” Duggan said.
Staff working on USAFacts said Ballmer already knows unusual factoids about government spending and demographics by heart. Ballmer, 60, said he doesn’t recall as much as when he was 40.
The project has helped settle Ballmer’s dispute with his wife. Government funding accounts for a larger share of many social-services organizations’ budgets for aiding children than private donations, he said. But economic mobility remains largely unachievable for America’s poorest families. The data helped convince the Ballmers to focus their philanthropy on impoverished kids in U.S. cities with the lowest chances of improving their situations. Ballmer will continue making political contributions as well. He still believes influencing public policy is one of the most effective ways to effect change, he said. “We were both right.”
Bloomberg
by Dina Bass
November 7, 2016 — 8:55 AM EST
– With Emily Chang
Local governments across the U.S. are asking voters to approve about $70 billion of bond sales, the most in a decade, seeking to seize on improvements in their fiscal positions and near record-low interest rates to borrow for public works.
The jump is driven largely by California, which accounts for about $42 billion of the proposed debt, as officials seek to raise funds for schools, public transportation and affordable housing, according to financial-data provider Ipreo. Elsewhere, voters are being asked to back large issues for roads in Austin, Texas, schools in Denver and waterworks in Columbus, Ohio.
“The cost of borrowing is low,” said Mark Ferrandino, chief financial officer of Denver Public Schools, which is asking voters to approve $572 million, the second-biggest amount for schools in Colorado history. “It allows us to have our money go further.”
The increase signals that states and cities are backing away from the austerity that persisted for years as they contended with budget shortfalls left in the wake of the recession. Amid speculation the Federal Reserve will resume raising interest rates as soon as December, governments have stepped up their borrowing, issuing $387 billion of bonds this year. That’s the fastest pace since 2010, when municipalities rushed to sell federally subsidized bonds as the program expired.
There are large sales proposed around the country:
This proposed borrowing is the most since 2006, when about $82 billion went before voters. The uptick reflects the financial improvement among municipalities as the drop in unemployment and housing-price gains lift tax collections. Meanwhile, the yield on the Bond Buyer’s 20-year general-obligation index — while up from the record lows reached in July — is still just 3.27 percent.
“For many years, there was a spirit of austerity where municipal mangers felt pressure not to issue debt and not to leverage up,” said Eric Friedland, director of municipal research in Jersey City, New Jersey, for Lord Abbett, which manages $20 billion of local debt. “You get to a point now where infrastructure is crumbling, revenues are starting to increase, interest rates are relatively low and constituents are pressuring their leaders to actually fund more infrastructure projects.”
Such spending tends to be an easy sell: Since 2004, voters approved at least 75 percent of the proposed bond sales, based on the amount requested, according to Ipreo data.
The borrowing will only put a small dent in America’s backlog of infrastructure projects, an issue that Democrat Hillary Clinton and Republican Donald Trump have both promised to address if they’re elected president. The American Society of Civil Engineers estimates that the U.S. is on pace to spend $1.4 trillion less than needed on its roads, airports and other public works.
“We’ve dug ourselves a pretty deep hole,” said Brian Pallasch, managing director of government relations and infrastructure initiatives for the engineers’ group. “The problem is not going to be solved by one particular ballot measure or one particular congressional action. It’s going to be a series of them.”
Bloomberg Business
by Romy Varghese
November 8, 2016 — 2:00 AM PST
Taylor Riggs, a contributor to Bloomberg Briefs, talks with reporter Amanda Albright about this week’s municipal market news.
Bloomberg Business
November 9, 2016
An early review of Donald Trump’s health-care and trade policies reveals some potentially bad news for state and local governments. According to Fitch Ratings, Trump’s proposals would “significantly lower federal transfers to state budgets and could negatively affect economic growth and revenues.”
Specifically, Trump has proposed converting Medicaid funding into a block grant program, which Fitch says would lead to much lower federal funding for the states. A Congressional Budget Office (CBO) assessment of earlier Medicaid block grant proposals projected declines of between 4 and 23 percent in federal funding over 10 years.
The president-elect has also harshly criticized the North American Free Trade Agreement and said he would slap tariffs on goods imported from countries, such as China, that have cheaper labor than in the United States. Fitch Ratings said Trump’s trade policy would have adverse implications for U.S. investment and growth, and would push up prices.
On the positive side, Trump has also talked about major investments in infrastructure. But he’s been low on details for his plan — only suggesting that federal tax credits could encourage private investments in revenue-generating projects — and could make it more expensive for state and local governments to borrow money for those infrastructure projects. That’s because his planned tax cuts would lower the benefit of buying tax-exempt municipal bonds for many individual investors. Without the full benefit, governments may have to swallow a higher interest rate payment in order to attract investors.
The Takeaway: Let’s put things in perspective. Since when has a presidential candidate gotten everything he wanted once he took office? Chances are low that every single outcome listed above will actually happen. It’s also important to note that President Obama has also called for reducing the municipal bond tax benefit for much of his presidency. So, that particular threat to state and local finances is not a new one, although some suspect tax reform will make its way from the back to the front burner now that Republicans control the executive and legislative branches.
The proposed changes to Medicaid are perhaps the most worrisome for state and local budgets because aid from the feds makes up approximately 15 percent of total state expenditures, according to the National Association of State Budget Officers. If the CBO’s estimates are accurate, “reductions of this magnitude would have a significant effect on states’ budgets,” according to Fitch. And you can bet that states will pass some of that hurt on down to local governments in the form of reduced state aid.
But right now, the word of the day is ambiguity: Trump has been fuzzy on details up to this point, so it remains to be seen if his policies will pass muster with Congress and how, specifically, they’ll impact state and local government coffers. Even the proposed changes to Medicaid aid could have a happier ending if states get more spending autonomy under a block grant system. “Depending on the specifics of the program,” Fitch said, “states could lower their Medicaid costs with that flexibility.”
GOVERNING.COM
BY LIZ FARMER | NOVEMBER 11, 2016
The first-ever environmental impact bond gives an agency some of its money back if its idea doesn’t pan out.
As the drive for accountability in government spending increases, many are looking for ways to keep from paying the full price for programs that don’t work.
In Washington, D.C., that desire has led to the first-ever environmental impact bond, issued this fall by DC Water, the city’s water and sewer authority. The $25 million bond will pay for new, green infrastructure like rain gardens and permeable pavement to reduce stormwater runoff.
But if the projects don’t work as expected, that’s where the new financing structure comes in. Under the terms of the bond, which DC Water sold directly to Goldman Sachs Urban Investment Group and the nonprofit Calvert Foundation, the utility stands to get a multimillion discount on its total borrowing costs if the project doesn’t meet a certain threshold.
It’s essentially an insurance policy on the project’s effectiveness. Here’s how it works: After five years, the new infrastructure will be evaluated. If stormwater runoff isn’t reduced by at least 18.6 percent, investors will owe DC Water a $3.3 million “risk share” payment. The payment represents a near-full refund of the 3.43 percent interest rate payments DC Water made during the first five years of the bond. After that, the bonds would likely be refinanced into 25-year bonds. DC Water would also drop green infrastructure projects and go back to so-called gray ones (like pumps and water tunnels) to reduce runoff.
So what’s the incentive for Goldman Sachs and the Calvert Foundation to buy these bonds? If the reduction of stormwater runoff exceeds expectations — if runoff is reduced by more than 41.3 percent — the investors get a bonus payment of $3 million from DC Water after five years. The bonds would then still refinance into 25-year bonds.
Although the deal took two years to iron out, DC Water’s CFO Mark Kim said it’s a structure that could easily be copied by other utilities because it is still, at its core, a basic market transaction. This makes environmental impact bonds different from so-called social impact bonds or pay for success projects, which are not bonds at all but are negotiated contracts between a private financier and a government. These “bonds” finance certain projects that aim for an agreed-upon outcome, such as reducing recidivism among a certain prison population. The financier gets paid back only if the project outcomes are met after a certain period of time.
For those reasons, pay for success projects are very difficult to replicate. “We structured this as a debt instrument rather than a [pay for success] service contract, so it is very scalable, very transparent and very accessible,” said Kim. “Utilities know how to issue debt. We’ve just structured the deal so that they can look and replicate.”
While the environmental impact bond is getting interest from other governments, and was even held up by the White House as a model, it has its critics. Dan Kaplan, who manages a $4 billion debt portfolio for the King County, Wash., Wastewater Treatment Division, said he isn’t convinced the environmental impact bond is a better deal because of the “exceptionally high interest rate” DC Water is paying the first five years of the deal. Typically, the shorter the terms of the bond, the lower the interest rate. Under a regular five-year bond, Kaplan said, DC Water would likely pay less than 2 percent instead of 3.43 percent.
Also, given that rain gardens and permeable surfaces aren’t new, untested technology, Kaplan doesn’t see the point in DC Water hedging its bets that the projects won’t do their jobs. “If there’s some new technology that needs to be tested and there simply aren’t the resources within the utility to commit the personnel and technology to do it,” he said, “then perhaps [this financing mechanism] could be a tool.”
But Kim said comparing the bond’s terms with a five-year bond’s terms isn’t an apples-to-apples comparison. Although the deal does refinance after five years, it is structured as a 30-year deal and therefore is assigned an interest rate comparable to the utility’s typical long-term borrowing cost. In addition, Kim said, a typical five-year bond doesn’t “provide a risk transfer or downside protection if green infrastructure does not work, which is the whole point of the deal.”
Beth Bafford, investments director for the Calvert Foundation, said she hopes the DC Water deal spurs a new field of social investing that essentially splits the difference between a pay for success project and a traditional bond. Investing in the former means returns might not be realized. Investing in the latter is far less risky — and less exciting.
“We’ve looked at a few pay for success deals,” says Bafford. They are such uncertain , complex systems that it’s “hard to determine what’s causing the outcome. In the environmental space, you can measure it, look at it, it’s more of a science. The hope is it’ll help investors who are more risk averse get into the social contracting space.”
GOVERNING.COM
BY LIZ FARMER | NOVEMBER 10, 2016
The municipal-bond market is facing headwinds from President-elect Donald Trump and more than $250 billion in hospital debt is most at risk.
Yields on benchmark tax-exempt securities climbed the most Wednesday in more than three years after the stunning victory of the real estate developer and reality television star, who has proposed slashing income taxes, which will reduce the incentive to own the bonds. Trump and Republicans in Congress made the repeal of Obamacare a central point of the campaign, a possible one-two punch for hospital debt.
Under the Affordable Care Act, 20 million people obtained health insurance as 30 states expanded Medicaid, the joint federal-state health program for the poor, and others purchased insurance on exchanges. Repealing or scaling back Obamacare would reduce revenue for hospitals and nursing homes as Medicaid expansion is curtailed and private subsidies cut.
“There’s a clear indication that Obamacare benefited a lot of hospitals,” Mikhail Foux, head of municipal strategy at Barclays Plc. “You will probably see weaker systems, especially the ones that are mainly operating in states that have expanded Medicaid, come under some pressure.”
Trump’s victory was felt by some bondholders immediately. Tuesday, the risk premium on debt issued by Livonia, Michigan-based Trinity Health Corp. and maturing in 2045 rose to 1.77 percentage point more than top-rated bonds compared with 1.20 percentage point a month ago, according to data compiled by Bloomberg.
Spreads on bonds issued by Providence St. Joseph Health to refinance debt at hospitals in Washington state and California rose about 0.15 percentage point Tuesday from the day before.
Trump supports letting states administer Medicaid block grants, while promoting tax-free health savings account to encourage people to buy insurance. He also advocates allowing insurance companies to sell policies across state lines.
“The ACA is going to be under threat fairly early on. And that will probably impact more of the low grade standalone hospitals,” said Triet Nguyen, a managing director at NewOak Capital, a New York financial-advisory firm. “The larger systems will be able to cope with any change.”
The Affordable Care Act, which took full effect in January 2014, has been a boon to investors who hold tax-exempt bonds sold by hospitals: Hospital bonds returned 12.72 percent in 2014 and 4.09 percent in 2015, the best of 10 revenue-bond sectors, according to Bloomberg Barclays Indexes.
Performance has weakened this year as factors that have driven enrollment growth waned. States, including Texas and Florida, haven’t expanded Medicaid and aren’t likely to. Hospital bonds have returned 3.57 percent this year.
Political Will
Investors should shift to higher-rated and more diversified hospital systems such as AA- rated Cleveland Clinic and Memorial Sloan Kettering which have specialty clinics for cardiology and cancer, respectively, and that have cheapened recently, Foux said.
The new administration and congressional leaders can forge unity by repealing Obamacare quickly, loosening regulations and cutting taxes, said Dan Holler of the conservative group Heritage Action.
“They will succeed if they focus on the big-ticket items where they have agreement,” he said. “Democrats showed extraordinary political will when they had complete control. I hope Republicans have learned that lesson.”
Not so fast, says Todd Sisson, a senior analyst in Charlotte, North Carolina, for Wells Capital Management, which manages more than $40 billion in municipals.
While Republicans control the White House and Congress, they don’t have a supermajority in the Senate and Democrats can use the filibuster to block a repeal, Sisson said. Repealing Obamacare outright would also be difficult politically given how many Americans are now covered by it, he said.
“You’ve got a lot of people on insurance now, it’s hard to take that back,” Sisson said. “I’m looking for them to kind of tweak it and amend it but to flat out repeal it and replace it without a plan, I don’t have a crystal ball, but I’m thinking that will be difficult to do.”
Hospitals have already built an infrastructure based on Obamacare and transition to value-based reimbursements from a volume-based fee-for-service model, Sisson said.
Bloomberg Business
by Martin Z Braun
November 10, 2016 — 2:00 AM PST
Fitch Ratings-New York-10 November 2016: The frequency and severity of incidents like the recent water main break in Philadelphia will increase in coming years absent renewed attention and ongoing investment, Fitch Ratings says. Businesses were flooded, shoppers had to be rescued and cars were submerged when the Nov. 4 water main rupture – the third such incident in as many years at this location – released approximately six million gallons of water.
The cost of the damage will likely be significant, although no estimates have yet been reported. The main break is similar to other notable infrastructure failures in recent years in other older, urban cities like Los Angeles, Washington, D.C. and Boston.
The escalating age of the nation’s infrastructure and continued underinvestment in underground assets supports Fitch’s view that infrastructure failures will continue to occur. The American Society of Civil Engineer’s reports 240,000 water main breaks occur annually in the US, while the American Water Works association believes required costs to restore existing water systems reaching the end of their useful lives, and to keep pace with population growth, could be upwards of $1 trillion nationwide.
Moreover, a recent survey compiled by the Environmental Protection Agency showed nearly $385 million is needed to improve and replace the nation’s drinking water infrastructure through 2030 to continue providing safe drinking water.
In our 2016 Water and Sewer Medians report, capital spending dropped to the lowest level Fitch has observed since publishing its annual medians (just 113% of annual depreciation). The lack of spending contributed to an inability to improve the median age of facilities, which, at 14 years, is the same as the 2015 median and ties the oldest of any median result.
Moderate increases in planned capital spending are expected for the 2017 medians and beyond, but Fitch expects planned outlays will remain below historical spending levels exhibited during and immediately before the recession, heightening concern regarding the ongoing age of utility infrastructure over the coming years.
Contact:
Christopher Hessenthaler
Senior Director
US Public Finance
+1 212 908-0773
Rob Rowan
Senior Analyst
Fitch Wire
+1 212 908-9159
Media Relations: Alyssa Castelli, New York, Tel: +1 (212) 908 0540, Email: alyssa.castelli@fitchratings.com.
Additional information is available on www.fitchratings.com.
The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings.
Reliance on private financing could fall short of goals and still see political resistance
Donald Trump’s proposal for $1 trillion worth of new infrastructure construction relies entirely on private financing, which industry experts say is likely to fall far short of adequately funding improvements to roads, bridges and airports.
The president-elect’s infrastructure plan largely boils down to a tax break in the hopes of luring capital to projects. He wants investors to put money into projects in exchange for tax credits totaling 82% of the equity amount. His plan anticipates that lost tax revenue would be recouped through new income-tax revenue from construction workers and business-tax revenue from contractors, making the proposal essentially cost-free to the government.
Mr. Trump has made a $1 trillion infrastructure investment over 10 years one of his first priorities as president, promising in his victory speech early Wednesday morning to “rebuild our highways, bridges, tunnels, airports, schools, hospitals.”
The Trump team’s thinking is laid out in a 10-page description of the proposal posted on the website of Peter Navarro, a public-policy professor at the University of California, Irvine, and an adviser to Mr. Trump. Separately, a presidential transition website that went up this week said Mr. Trump planned to invest $550 billion in infrastructure, without offering details on where that funding would come from. Top Trump aides couldn’t be reached to comment on the proposal.
Experts and industry officials, though, say there are limits to how much can be done with private financing. Because privately funded projects need to turn a profit, they are better suited for major projects such as toll roads, airports or water systems and less appropriate for routine maintenance, such as repaving a public street, they say.
Officials also doubt that the nation’s aging infrastructure can be updated without a significant infusion of public dollars.
The plan “strikes me as sort of a concept paper or a thought piece as opposed to a real plan,” said Pat Jones, executive director of the International Bridge, Tunnel and Turnpike Association, which represents private operators of toll roads. “These are sort of formulaic numbers that you could come up with to present something that looks like a plan.”
For now, members of Congress of both parties and transportation advocates say they are optimistic lawmakers can reach a bipartisan deal to provide some of the needed funding to update roads, power lines and airports. According to the McKinsey Global Institute, the U.S. needs to boost infrastructure spending by 0.7% of gross domestic product between now and 2030 to meet the demands of a growing economy.
Both parties have said they agree on the need for new spending on infrastructure, but the challenge has been finding the money to pay for it. An Obama administration proposal to use new revenue from a corporate tax overhaul didn’t get through Congress last year. In December, lawmakers cobbled together a $305 billion measure using a reserve account held by the Federal Reserve.
Mr. Trump’s plan would essentially sidestep the political funding squabbles by focusing mostly on private investment, a concept that both parties generally support.
But the plan could still face an uphill battle in Congress, where Democrats have been pushing for more public funding.
Industry experts note that private financing can complement public funding for some projects but is far from a perfect substitute. Historically low interest rates have made it very cheap for state and local governments to borrow directly on the municipal bond market, giving them less incentive to work with private funders.
At the same time, tolls have proved unpopular in much of the country, with toll-road operators in Indiana and Texas filing for bankruptcy protection in recent years.
“The real need is straight up funding, not additional financing tools,” said Bud Wright, executive director of the American Association of State Highway and Transportation Officials.
Only about 6,000 of the nation’s four million road miles are tolled. And only about 3.1% of the assets under management of U.S. investors are in infrastructure, of which some share is invested in projects abroad, according to Preqin, a research firm.
“Not every project is necessarily feasible,” said Patrick Rhode, vice president of Cintra, which develops privately funded infrastructure projects. “The public and state authorities have to make a determination as to what best serves the public good.”
It’s also unclear how Mr. Trump’s proposal would generate enough new revenue to offset the cost of the tax credits. If the construction workers hired on the new projects were previously unemployed, the proposal would indeed generate significant new tax revenue. But with the unemployment rate for construction workers around 5.7%, it is likely those workers would have found other jobs and paid income tax regardless.
“It’s unclear exactly what [Mr. Trump] has in mind for his infrastructure tax credit,” said Michael Sargent, a transportation policy analyst at the conservative Heritage Foundation. “He says they’re deficit neutral, but I’m not sure how exactly they could pay for themselves.”
Heritage has been advocating reducing the federal government’s involvement in transportation and leaving it up to the states to fund improvements.
THE WALL STREET JOURNAL
By DAVID HARRISON
Updated Nov. 11, 2016 1:22 p.m. ET
Write to David Harrison at david.harrison@wsj.com
NEW YORK — It’s not just Detroit and Puerto Rico with financial problems.
The pressure is rising on local governments around the country that are struggling with big pension obligations and other debts. Five states need to put aside more than 25 percent of their annual tax revenues just to pay pensions and other debts, an untenable amount, according to a recent study by the nonprofit Center for Retirement Research. For major cities, debt costs above 40 percent of revenue are typically an unmanageable burden, and the report counts eight of them.
Overall, U.S. state pension plans are underfunded by at least $1 trillion, various experts and credit rating agencies say. And that funding hole will almost certainly hurt taxpayers, government workers and bondholders.
“It’s getting harder to sweep these problems under the rug,” says Tracy Gordon, a senior fellow with the Urban-Brookings Tax Policy Center.
After taking into account health care and other debt obligations, states like Hawaii, Kentucky and Massachusetts and cities like Houston and San Jose, California, are all above thresholds that the Center for Retirement Research considers worrisome.
For many years, politicians hoped to make up for the funding gaps by getting strong returns from investments in stocks, bonds and hedge funds, says Gordon. But the typical public pension plan had a return of just 0.5 percent for the fiscal year that ended in June, according to credit-rating agency Moody’s.
That has increased the risk for a major crisis at municipalities with outsize debt payment, says Lisa Washburn, a managing director for Municipal Market Analytics, a municipal bond research firm. “This is a liability that they are going to have to come to terms with eventually, and the longer they delay coming to terms with it, the worse it’s going to be.”
How you might be affected depends on your relationship to the location in question:
— You’re a bond holder.
For muni bond investors, the chief worry is a default. But despite the dramatic headlines, investors who hold state-issued bonds until they mature have little to fear. “You can expect to be repaid,” says Washburn. If your state’s debt rating is downgraded, however, you may find that your bond is worth less if you need to sell it before maturity.
Those who hold the bonds of struggling cities overburdened with debt, however, have cause for concern. “States have sovereign ability to do just about anything they want, so they have a very wide array of options to pursue,” says Alan Schankel, a municipal bond strategist at Janney Capital Markets. “Depending on the level of oversight, cities and counties have much less flexibility. And many of them are dependent on state aid.”
When a city files for bankruptcy, judges sometimes allow payments to be curtailed to muni bondholders. That’s what happened in Detroit and Stockton, California. Moreover, severe budget problems at the state government level can also have a trickle-down effect leading to less support for schools and hospitals supported by the state, which also issue municipal bonds.
— You’re an employee.
The good news for public service workers is that, in some states, pension payments are guaranteed by law. And even in places where they may not be, legislators tend to be sympathetic to pension holders.
Now for the bad news: If things get really bad, you still might find your benefits thwacked. Detroit workers, for example, had their pensions cut when the city filed for bankruptcy. A more likely situation is that you’ll be the victim of pension “reform,” which could involve an increase to your annual contribution rate or fewer cost-of-living salary bumps. You may also see cutbacks in other benefits, such as health care, which are easier for states and cities to enact. Rhode Island suspended cost-of-living adjustments for retirees in 2011 and introduced a 401(k)-like funding system for current state workers, for example.
— You’re a taxpayer.
A simple way for states to boost their sagging budgets is to increase taxes. A sales tax increase along with an income tax increase on wealthy residents helped California pull out of its massive budget hole from the Great Recession, for example. Simple, though, doesn’t mean easy. Politicians are often reluctant to increases taxes on their watch. “Politically, that’s just very hard to do,” says Washburn.
Other places have tried different tactics to boost revenues. A few years ago, Kansas tried cutting taxes in hopes that it would boost its economy and lead to eventual gains in income tax revenue, for example. Unfortunately, the state still recently had a projected $290 billion shortfall.
Instead of raising taxes, states sometimes cut back services in order to save money. “Maybe the Department of Motor Vehicles is open five days a week instead of six,” says Schankel. The challenge is that if too many services are cut, residents will become disenchanted with the community and move elsewhere. That only exacerbates the revenue problem.
It all shows how no single approach will lift local governments out of their troubles. One thing, however, is clear, says Gordon: “Someone has to be left holding the bag.”
By THE ASSOCIATED PRESS
NOV. 7, 2016, 5:03 A.M. E.S.T.
The Municipal Securities Rulemaking Board (MSRB) today released municipal market statistics for the third quarter of 2016, showing par amount traded totaled $837.9 billion in 2016:Q3, up 52.1 percent from the $551.0 billion traded in 2015:Q3. Total par traded was the highest since the $825.4 billion traded in 2013:Q2 when volume reached $838.3 billion. The MSRB’s quarterly statistical summaries include aggregate market information for different types of municipal issues and trades, and the number of interest rate resets for variable rate demand obligations and auction rate securities.
Counsel Paul Epstein (New York-Project Development & Finance) wrote a two-part article, titled “Funding and P3s for Water Infrastructure Projects,” that was published by Law360 on October 17-18.
This two-part series discusses funding and public-private partnerships (P3s) related to U.S. water infrastructure projects. Part 1 describes the key existing sources of funding available at the federal, state and local levels. Part 2 discusses the use of P3s in the water sector, followed by an examination of enhancements proposed by stakeholders to the funding mix, including through the Water Resources Development Act (WRDA) currently pending before Congress, and the impact of such enhancements on the P3 market.
Read Part 1 of the article here.
Read Part 2 of the article here.
Last Updated: November 2 2016
Article by Paul J. Epstein
Shearman & Sterling LLP
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
This publication discusses some of the more significant changes that could affect issuers (“Applicants”) and borrowers (“Sponsors”) in connection with awards of volume cap (“Awards”) if California Debt Limit Allocation Committee’s (“CDLAC”) proposed regulations were adopted in their current form.
CDLAC released proposed revisions to its regulations (“regulations“) on September 23, 2016. Major changes include (i) requiring Applicants to adopt written bond issuance and compliance policies (“Policies”), (ii) changing the required form of compliance certificates, (iii) requiring certain new provisions to be added to bond regulatory agreements (“Regulatory Agreements”) associated with qualified residential rental projects (“QRRPs”); (iv) requiring that CDLAC receive a copy of the recorded Regulatory Agreement for a QRRP before releasing the associated performance deposit, (v) providing for greater post-issuance monitoring of the terms and conditions of the Award; and (vi) imposing conditions on certain types of subordinate cash-flow bonds paid with residual payments.
Additional proposed changes would affect (i) the eligibility of Joint Powers Authority (“JPA”) Applicants to apply for an Award, (ii) the term of the qualified project period (“QPP”) for acquisition and rehabilitation transactions associated with QRRPs, (iii) filing fees, (iv) general and rural multifamily deals, and (v) projects requesting an assignment and assumption of an existing housing assistance payment contract (“HAP Contract”).
Bond Issuance and Compliance Policies
The proposed Regulations would require all Applicants to submit Policies regarding the process of issuing private activity bonds and post-issuance compliance. For QRRP Applicants, the proposed Regulations would require that Policies “be reviewed by counsel having expertise with the federal and state laws pertaining to the issuance or conversion and post-issuance compliance of private activity conduit bonds for consistency with applicable federal and state laws.” Such review would be documented by a letter from such counsel stating that the review has taken place. Policies would also be accompanied by an approving resolution of the Applicant’s governing board or a certificate of the Applicant’s Executive Director, Housing Director or Finance Director with delegated power to make such approvals.
Policies also would be required to include “a description of the fee structure, application and approval process (including TEFRA), threshold eligibility criteria for applicants and projects, long-term regulatory requirements and monitoring practices.” If a contractor were to provide services on behalf of the Applicant, “the Policies [would have to] clarify the relationship between contractor and Applicant and what, if any, rights the contractor [had] to income and obligations generated from issuance activity.”
Additional proposed changes to the Regulations would require that CDLAC review the Policies for compliance with its Regulations. The requirements would apply immediately to those Applicants who have not received an Award since January 2013 and any new Applicants. All other Applicants would have until December 31, 2017 to comply. An Applicant could request a one-year waiver, if it had not received an Award (presumably since January 2013), but had a 2017 project pending. All such Policies would have to be reauthorized every ten years. For those Applicants that had Policies in place, they would have to be approved by the Applicant in 2006 or later. These proposed revisions are contained in Sections 5000 (definitions) and 5031 of the Regulations.
Conditions on the Issuance of Certain Types of Subordinate Cash-Flow Bonds Paid with Residual Payments
The proposed Regulations introduce restrictions on certain subordinate bonds that are issued to provide permanent financing and paid with cash from residual payments based on cash-flow availability. These are bonds that do not otherwise meet CDLAC’s debt service coverage ratios and which (together with any other such bonds) “exceed 5% of the total project cost” (“Cash-Flow Bonds”). Such Cash-Flow Bonds include “bonds purchased by a property seller in consideration of the provisions of a purchase and sale agreement.”
For applications submitted after December 31, 2016, that include Cash-Flow Bonds, the proposed Regulations would require that the purchaser provide a traveling investor letter from a Qualified Institutional Buyer or an Accredited Investor three days prior to bond issuance, or provide for the issuance of the Cash-Flow Bonds in $100,000 authorized denominations. Cash-Flow Bonds also would have to comply with the requirements of Section 5062(a).
Further, the proposed Regulations provide that when Cash-Flow Bonds finance project costs, all units identified in the Award, including both the Federally Bond-Restricted Units (“Restricted Units”) and other affordable units identified in the Award as income and rent restricted (“Other Restricted Units”), would have to be incorporated into the Regulatory Agreement. The assumptions in the Regulatory Agreement regarding the Other Restricted Units would have to “include the area median income as outlined in the Award, a limitation that tenants pay no more than 30% of their income, and assume 1.5 persons occupy each unit.”
These proposed Regulations are contained in Sections 5062(b), 5170 (definitions) and 5220(b).
Monitoring Compliance with Terms and Conditions of the Award
Applicant’s Submission of Compliance Certification
The proposed Regulations provide that for those projects receiving an Award prior to December 31, 2016, Applicants will be required to submit annually to CDLAC an Annual Application Public Benefits and Ongoing Compliance Certification via CDLAC’s online compliance certification system (“Compliance Certification”). For projects receiving an Award after December 31, 2016, the Applicant would be required to submit the Compliance Certification to CDLAC “every year until completion of the project and every three years thereafter.” In both cases, the Compliance Certification would be due by March 1 and Applicants would be subject to penalty (including disqualification) for failure to comply. These proposed revisions are contained in Sections 5144(a) and 5146 of the Regulations.
Sponsor’s Verification of Tenant Income
The proposed Regulations provide that for all QRRPs receiving an Award after December 31, 2016, Sponsors will be required to: (a) use HUD Handbook 4350.3 to verify tenant income at initial occupancy; and (b) annually collect and retain the following income and verification documentation related to all the Restricted Units identified in the Award or as defined in Section 5200(e) of the Regulations: “Tax Credit Allocation Committee (“TCAC”) Tax Income Calculation (“TIC”) or equivalent documentation, all associated source income documentation, and evidence of the verifying income computation.” Project Sponsors also will be required to provide a TCAC Project Status Report or equivalent report to the Applicant annually in connection with the Applicant’s submission of the Compliance Certificate. Sponsors will have to retain this information for ten years. These proposed new Regulations are found in Section 5144(b).
For Non-TCAC QRRPs, Sponsors would have to elect additional compliance options, which would be included in the Award. In addition, these non-TCAC QRRPs would have to designate CDLAC to receive notice of project name and ownership changes, default, and foreclosure as may be provided in the bond documents. These new proposed Regulations are found in Sections 5144(d) and 5145(d).
CDLAC has also proposed revisions to its annual certification of compliance forms for use in all projects receiving allocation after December 2016. Applicants would be required to collect and retain from the Sponsor the applicable Certification of Compliance II as attached in the Award or other comparable form outlined in an Applicant’s Policies (“Sponsor Compliance Certificate”). The Sponsor would submit the Sponsor Compliance Certificate to the Applicant annually until the Project is completed and then every three years thereafter during an existing regulatory period and/or compliance period. The Sponsor would also provide the Applicant with the applicable Certificate of Completion as provided in the Award or other comparable form outlined in an Applicant’s Policies. The Applicant would have to confirm its receipt to CDLAC by March 1 via its online compliance certification system (or such other date as requested by CDLAC). CDLAC would have the right to enforce these requirements through an action for specific performance or other available remedy of the Sponsor. This new proposed Regulation is found in Section 5145(b).
Applicant’s Verification and Certification of Tenant Income and Rent
Additional proposed changes provide that after December 31, 2016, an Applicant’s compliance with the income and rental requirements of the Restricted Units identified in the Award and the Regulatory Agreement would have to be demonstrated by an initial review of 20% of all management files associated with the Restricted Units and subsequent review every three years thereafter, including review of all newly leased units. Units would be selected at random with a distribution based on unit locations, sizes, and income levels. “For this 20% of files, Applicants [would] review each initial or subsequent occupant and their associated TIC in conjunction with the supporting income verification documentation and make a determination if the project is complying with the income and affordability standards.” This review could be performed on-site or through an electronic file audit.
Applicants would also be required to submit a Sponsor Compliance Certificate or equivalent form, which together with the above review would provide Applicants with the ability to report annually to CDLAC regarding compliance with the unit restrictions of the Restricted Units. Records of the income verification process would be kept on file for ten years together with documentation memorializing review and determination of income eligibility. Source income documentation would be retained for one year. These new proposed Regulations are found in Section 5144(c).
CDLAC (or an entity acting on its behalf) would monitor all TCAC QRRPs for compliance with the terms and conditions of the Award, and such projects would be subject to the provisions of the California Code of Regulations regarding the TCAC regulatory agreement.
This new proposed Regulation is found in Section 5145(c).
Regulatory Agreement Revisions
The proposed Regulations provide that for projects receiving an Award after December 31, 2016, the Regulatory Agreement for all QRRPs terminate prior to the end of the Award’s affordability term only for:
“(i) [I]nvoluntary noncompliance with the provisions of the Regulatory Agreement caused by fire or other casualty, seizure, requisition, change in a federal law or an action of a federal agency after the bond issuance, which prevents the Issuer, Fiscal agent and/or the Trustee (as applicable) from enforcing such provisions, or (ii) foreclosure, exercise of power of sale, and/or, transfer of title by deed in lieu of foreclosure in connection with a deed of trust directly or indirectly security[ing] repayment of bonds, or condemnation or a similar event, but only if, in the case of the events described in either clause (i) or (ii) above, if the bonds are redeemed within a reasonable period or the proceeds for the event are used to provide a project that meets the requirement of the Regulatory Agreement.”
This new proposed Regulation is found in Section 5220(a).
For projects receiving an Award after December 31, 2016, the proposed changes provide that the Regulatory Agreement for all QRRPs (1) incorporate the Award by reference and as an attachment; (2) have the requisite 30 or 55 year term from the date of 50% occupancy or the commencement of the CDLAC QPP; (3) include all applicable income and affordability requirements outlined in the tax code and the applicable portions of the California Health & Safety Code; (4) clarify that compliance with items not contained within the body of the Regulatory Agreement but referred to in the Award are the responsibility of the Sponsor to report to the Applicant; and (5) list CDLAC as a contact to receive notice of changes in project name, ownership, issuer, and management company as well as a contact to receive notices of defaults associated with rents and income requirements, foreclosure, Regulatory Agreement termination and bond redemption. This new proposed Regulation is found in Section 5220(c).
Finally, CDLAC’s proposed Regulations would require receipt of a digital copy of the recorded Regulatory Agreement as an additional condition for release of the Applicant’s performance deposit. This proposed revision is contained in Section 5051(a) of the Regulations.
Miscellaneous Proposed Revisions Regarding JPAs, the Term of the QPP, Filing Fees, General and Rural Multifamily Deals and Projects Seeking Assignment and Assumption of HAP Contracts.
JPAs
Another proposed revision to CDLAC’s Regulations would restrict applications from its JPA Applicants to projects located within the geographical boundaries of one or more of the JPA members, except for certain projects that are exempted from such requirement under Section 6586.5(c) of the California Government Code related to the Marks-Roos Local Bond Pooling Act of 1985. This proposed revision is contained in Sections 5031 and 5033 of the Regulations.
Term of the QPP
For acquisition and rehabilitation QRRPs, CDLAC’s proposed Regulations would amend its definition of QPP to acknowledge that, in certain circumstances, the income and rent restrictions identified in the Award begin 12 months after the bond issuance date and end the later of 31 years (and presumably 56 years during an open application process) after the bond issuance date or the date on which the bonds are no longer outstanding. This additional time would be available for such projects unless less than 10% of the units were available for occupancy within 60 days of the earlier of the date of project acquisition or the issuance date of the bonds. This proposed revision is contained in Section 5192 of the Regulations.
Filing Fees
CDLAC’s proposed Regulations further increase its filing fees to review an application for an Award from $600 to $1,200 and introduce an additional $600 fee to review an application for a Supplemental Award. Both fees would be nonrefundable, but would be credited against the total filing fee. This proposed revision is contained in Section 5054(a) of the Regulations.
General and Rural Multifamily Allocation Limits
The proposed Regulations also provide that bond allocation limits for General and Rural Multifamily Pools are now subject to limits on a per unit basis as provided in Section 5233 of the Regulations.
Assignment and Assumption of HAP Contracts
Finally, CDLAC’s proposed Regulations would require that all projects that request an assignment and assumption of an existing HAP Contract submit an application to HUD by the CDLAC application date. No later than four calendar days prior to the first posting, CDLAC would require that it receive a letter from HUD stating that it will approve the assignment and assumption of the HAP Contact prior to the expiration of the Award. This proposed revision is contained in Section 5255(d) of the Regulations.
Next Steps
These proposed revisions to the Regulations are available for public comment until October 26, 2016.
Last Updated: October 27 2016
Article by Paul A. Toland and Justin S. Cooper
Orrick
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
Monthly municipal bond volume surged to a three-decade high in October, as issuers rushed to take advantage of near-record low interest rates and get deals done before the presidential election.
October bond issuance totaled $53.16 billion, according to Thomson Reuters, the most in digital records going back to 1986 and surpassing the $50.79 billion total set in June 2008. The last time volume was higher was in December 1985, when it hit $59 billion, according to Bond Buyer yearbooks.
“We had three weeks of exceptionally large issuance and there were a couple of factors driving issuers into the market,”said Jim Grabovac, senior portfolio manager at McDonnell Investment Management. “You have the presidential election plus an increasing probability the Federal Reserve will raise rates again in December.”
Volume for the month was up 51.4%, from $35.12 billion in the same month last year. Issuance for the year-to-date is $339 billion, meaning volume is likely to surpass the $400 billion plateau for the second year in a row and could also challenge the yearly record of $433.3 set back in 2010.
“The volume is explainable, as concerns about rising interest rates and getting in ahead of the election, pushed issuers into the market,” said Natalie Cohen, managing director of municipal securities research at Wells Fargo Securities. “For the year through October there were 25 deals larger than $500 million and 200 deals larger than $100 million – much of which occurred on October. In October alone, there were 21 deals over $500 million and 126 over $100 million.”
New money sales increased by almost half to $21.62 billion in 575 deals from $14.49 billion in 489 deals a year earlier, fueling expectations that demand for infrastructure improvement will propel muni sales in the months ahead.
“Looking ahead, if there’s any testimony to the hope that bi-partisan agreement provides, look at transportation,” Cohen said. “At the end of 2015 Congress finally passed a longer term, five-year highway and transit bill. At this time there are more than $250 billion ballot measures related to transportation in the November election. Those that pass will create jobs and be good for economic growth.”
Refundings, which have been strong for most of the year due to persistent low interest rates, catapulted 60.2% higher to $20.54 billion in 451 transactions. from $12.82 billion in 397 transactions during the same period last year.
“Refundings are great for issuers because they help with balance sheets and cash flows,” Cohen said.
Issuance was also helped by a correction in market yields over the past several weeks, according to Grabovac.
“We have seen a fairly decent correction, as a higher supply turned into a 25 basis point or so backup in yields, which is something that participants were wanting, and now I think we are at a comfortable level,” he said.
Combined new-money and refunding issuance climbed 41% to $11 billion from $7.81 billion.
Negotiated deals, at $43.22 billion, were higher by 76.3%, while competitive sales increased by 8.6% to $9.25 billion from $8.52 billion.
Issuance of revenue bonds increased 54.5% to $35.85 billion, while general obligation bond sales gained 45.3% to $17.32 billion.
Taxable bond volume was 18.9% higher at $2.92 billion, while tax-exempt issuance increased by 64.9% to $49.66 billion.
Minimum tax bonds issuance slipped to $587 million from $2.55 billion, while private placements sank to $691 million from $2.08 billion.
Zero coupon bonds increased to $240 million from $98 million.
Bond insurance increased 52.6% for the month, as the volume of deals wrapped with insurance rose to $2.69 billion in 169 deals from $1.76 billion in 154 deals.
Variable-rate short put bonds inclined 30% to $1.09 billion from $841 million. Variable-rate long or no put bonds rose to $115 million from $2100 million.
Bank qualified bonds improved 11.4% to $1.88 billion from $1.69 billion.
Five out of the 10 sectors saw year-over-year gains. Health care more than doubled to $7 billion from $2.93 billion, general purpose also saw a more than double increase to $14.84 billion from $7.21 billion, education related more than doubled as well at $13.31 billion from $6.71 billion, hosing increased 23.7% to $1.99 billion from $1.61 billion and utilities improved 45.2% to $6.93 billion from $4.77 billion. The other sectors all saw at least 6.2% decrease.
California is still the top issuer among states for the year to date, followed by Texas, New York, Pennsylvania and Florida.
Issuance from the Golden State so far this year has totaled $57.38 billion, with the Lone Star State next at $48.44 billion. The Empire State follows with $39.49 billion. The Keystone State is in fourth with $18.49 billion and The Sunshine State rounds out the top five with $16.23 billion.
“Going forward, there should be more infrastructure spending, which will also create more jobs and will be good for the economy as a whole,” said Cohen. “New money projects are much lower than 2010 but we are starting to see it come back and that is a good sign for infrastructure.”
The Bond Buyer
By Aaron Weitzman
October 31, 2016
The Mountain and Pacific states continue to add employment and attract new residents, with coastal metropolitan areas experiencing strong upward pressure on housing prices.
Oct. 31, 2016
S&P Global Ratings held an interactive, live audio webcast and Q&A on Tuesday, November 1, 2016 at 3:30 p.m. Eastern Time where we discussed the results of our annual survey and our view of credit implications for U.S. States in the context of rising costs, funding trends, and revised accounting standards.
Standard & Poors
Nov. 1, 2016 | New York, NY
Sales of municipal bonds and notes soared to a record $52.5 billion in October, the biggest month of issuance since records began in the 1980s, according to Thomson Reuters data.
Municipal supply has surged in recent months as state, city and other public agencies eagerly sell bonds and notes at low interest rates.
October brought nearly $52.5 billion of new supply to the $3.7 trillion U.S. municipal market. The last time the market reached similar levels was in 2008, when $51.4 billion was sold in April 2008 and $50.6 billion was sold in June 2008, according to Thomson Reuters data.
Muni bonds have outperformed other fixed income securities and retained value for domestic investors seeking a tax exemption. Historically low and negative sovereign interest rates have also driven foreign investors, even if they cannot benefit from tax-exempt status.
The pace of issuance, however, may be slowing. Forecasts for November show supply dropping somewhat, perhaps reflecting higher interest rates, fewer refunding opportunities and the uncertainty surrounding the U.S. presidential election on Nov. 8, Janney Fixed Income Strategy’s Alan Schankel said last week.
Reuters
By Robin Respaut
Mon Oct 31, 2016
(Reporting by Robin Respaut; Editing by Dan Grebler)
Fitch Ratings-New York-04 November 2016: If Hillary Clinton’s presidential bid is successful and her broad healthcare proposals are implemented, they have the capacity for near-term benefits for nonprofit hospitals, but they may also create some operating risk and uncertainties. While the proposed universal Medicaid expansion and proposed cost controls are generally positive over the near term, the longer term effect of expanding Medicare eligibility and implementing a “public option” is uncertain, Fitch Ratings says.
On the positive, Clinton’s plan to expand Medicaid in the 19 states that have thus far declined to do so would be beneficial in the short term for nonprofit hospitals in those states. Mirroring the impact seen in states that have already expanded Medicaid, Fitch would expect an increase in patient volumes and reduction in bad debt and charity deductions from revenue. Hospitals in the few states that have implemented expansion alternatives — such as waiver programs — would likely experience a more muted benefit.
However, over the long run, Fitch would expect the benefits to wane with deterioration in payor mix. As seen in states that expanded Medicaid, hospitals have experienced a decline in commercial insurance which has not been fully offset by reduced bad debt or supplemental reimbursement from the state through programs like the Disproportionate Share Hospital program and provider-tax and provider-fee programs. These supplemental revenue streams are always susceptible to cuts in funding.
Similarly, Clinton’s plan to expand access to health insurance exchanges regardless of immigration status, as well as increasing reimbursement to aid access in rural areas, is likely to be positive for nonprofit hospitals. Likely outcomes include a reduction in charity and bad debt expense, and incremental reimbursement for telehealth, federally qualified health centers and rural health clinics.
The impact of Clinton’s plan to implement premium and drug cost controls is uncertain and will vary by hospital especially related to premium increases with the growing interest in owning health plans.
Lastly, Clinton’s proposal to broaden Medicare eligibility and provide a “public option” has the potential to negatively impact the sector, though the plan details remain unclear. Her proposal includes allowing people over 55 years old to purchase Medicare coverage, which may push revenue mix further toward Medicare and away from commercial insurance, compressing overall reimbursement. The impact largely depends on whether existing supplemental reimbursement mechanisms that offset care would be reduced for the uninsured/underinsured. The impact could also hinge on whether the incremental revenue from Medicare/Medicaid, and the public option, reimbursement would offset that loss.
Fitch has not commented on the Trump healthcare plan due to the lack of specificity on what would be implemented after “repeal and replace.” The Trump platform emphasizes the use of health savings accounts, increased price transparency, modification of state insurance laws and allowing easier access to foreign pharmaceuticals, which may or may not have a residual impact on hospital providers.
A repeal of the current Medicaid program (and the expansion of eligibility) with a block grant program would have to be evaluated on a state by state basis. The level of infrastructure and investment in the current ACA has been significant. However, the ongoing pressure on healthcare costs and funding and push toward value-based reimbursement by Medicare would likely result in reform measures remaining in place regardless of a repeal of ACA.
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Fitch Wire
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The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings.
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Taylor Riggs, a contributor to Bloomberg Briefs, talks with Joe Mysak about this week’s municipal market news.
Bloomberg Business
November 3, 2016
TOKYO — Bank of Japan Governor Haruhiko Kuroda on Wednesday signalled that the central bank’s massive asset purchases will continue to focus on government bonds, saying it was difficult to buy municipal bonds given the fairly small market for them.
“It’s hard to see how we can buy municipal bonds as part of our monetary policy,” Kuroda told parliament, when asked by a lawmaker whether it could be a policy option.
Kuroda also said prices are not determined by the pace of money printing alone, distancing himself from the views of BOJ Deputy Governor Kikuo Iwata – a former academic who was an architect of the central bank’s asset-buying programme dubbed “quantitative and qualitative easing” (QQE).
“Price moves are influenced by various factors like oil price fluctuations and exchange-rates… so you can’t say inflation is completely a monetary phenomenon,” Kuroda said.
“But from a long-term perspective, you can say monetary policy has significant influence on inflation,” he said.
Under QQE deployed in 2013, the BOJ set base money – or the amount of deposits and cash in circulation – as its policy target under Iwata’s theory that the central bank can accelerate inflation simply by printing money aggressively.
But after more than three years of aggressive government bond purchases failed to end economic stagnation, the central bank in September switched its policy target to interest rates in an overhaul of its policy framework.
The BOJ still loosely commits to buying government bonds so its holdings increase at an annual pace of 80 trillion yen (627 billion pounds) per year. It does not buy municipal bonds, though some analysts have proposed doing so if it were to ease policy.
On Wednesday, Kuroda dismissed concerns voiced by some market participants that the central bank’s aggressive purchases were drying up bond market liquidity.
“I don’t think the market’s liquidity has shrunk sharply, or its functions have deteriorated significantly, compared with historical levels,” Kuroda told parliament, when asked about the rising costs of the BOJ’s stimulus programme.
Trading volumes of Japanese government bonds hit their lowest levels in years in October, as the BOJ’s large presence in the market squeezed opportunities for trading.
By REUTERS
NOV. 2, 2016, 5:12 A.M. E.D.T.
(Reporting by Leika Kihara; Editing by Richard Borsuk)
CHICAGO/SAN FRANCISCO — U.S. voters on Tuesday will decide the fate of $70.3 billion of municipal bond issuance, the largest amount of borrowing requests in a decade, with much of it earmarked to help pay for fixing the nation’s crumbling infrastructure.
The biggest concentration of bonds hanging in the balance is in California, which accounts for nearly 60 percent of the total.
Nationwide, the state, school and local government bond measures, 682 in total, would fund building and repairing schools, mass transit and roads, and even biomedical research in one state, according to data company Ipreo.
To view the historical amount of bond ballot measures, click on http://tmsnrt.rs/2e9Z5bb.
The governments will be able to take advantage of still-low borrowing costs and a stable economy, even when considering the possibility of an increase in historically low benchmark interest rates by the Federal Reserve in December.
“This year, the finances at the state level look better. We’ve had more stability in revenues and more stability in the economy as a whole, so we would expect a substantial amount of these proposals to be accepted,” said Philip Fischer, municipal research strategist at Bank of America Merrill Lynch.
Yields on top-rated 10 and 30-year bonds hit all-time lows in July on the U.S. municipal market’s benchmark scale. While yields have risen since then they remain attractive for state and local government borrowers.
BOND MEASURES PLENTIFUL IN CALIFORNIA
California ballots are bursting with 195 bond measures totaling $41.7 billion, including the biggest nationwide — $9 billion of state general obligation debt to finance new construction and modernization for K-12 and charter schools and community colleges.
Another California ballot measure is aimed at reining in debt by requiring statewide voter approval for revenue bonds exceeding $2 billion for projects financed, owned, or managed by the state.
Opponents of the initiative, called Proposition 53, say mandating voter approval would delay critical infrastructure projects.
“The drought over the past four years has highlighted the need for infrastructure in California,” said David Guy, Northern California Water Association president, at a September panel on California propositions. “We don’t need another hurdle to progress in California.”
While school and infrastructure financing are dominant themes this election, a measure on Montana’s statewide ballot would create a biomedical research authority funded by $200 million of bonds over 10 years.
Voters will also be weighing 154 state-wide measures, including bonds, taxes, gun control and the minimum wage, in 35 states, according to the National Conference of State Legislatures.
In several states, voters will be deciding whether to increase various sales, income, property, cigarette and other taxes.
For example, in Colorado there is a proposed constitutional amendment calling for a public option universal healthcare payment system, funded by a new 10 percent state payroll tax. Employers would cover two-thirds and employees one-third of the cost, according to the citizen-led initiative known as Amendment 69.
Washington state voters will weigh the nation’s first tax on carbon emissions, while five states, including California, seek to legalize and tax recreational marijuana.
Oregon voters will consider changing the corporate tax code to collect revenue equivalent to one-third of the state’s general fund expenditures. The legislature would decide how to use the proceeds.
Eno Center for Transportation, a nonprofit think tank, reported that voters will decide tax and bond measures for roads, seaports, railroads, airports and mass transit that would raise an estimated $250 billion for specified projects over a period of years during which specific taxes would be collected.
These include $3.5 billion of bonds to repair and improve the San Francisco area’s BART transit system, a regional property tax hike to raise $3.1 billion over 20 years for mass transit in the Detroit area and $70 million of bonds to improve Rhode Island’s seaport.
Kerry O’Hare, vice president of Building America’s Future, a bipartisan coalition on infrastructure investment, said the dearth of reliable long-term federal transportation funding has left a void that state and local governments are trying to address via ballot measures.
“At the state and local level, it’s ‘Listen, we need to step up and raise money for transportation needs,'” she said.
By REUTERS
NOV. 4, 2016, 1:39 P.M. E.D.T.
(Reporting By Karen Pierog and Robin Respaut; Editing by Daniel Bases and Tom Brown)
Moody’s gives its highest airport credit rating to just one major airport, Boston Logan, and its lowest to privately operated Terminal B at New York’s LaGuardia.
In Moody’s rating of credit at 92 leading U.S. airports, only one — Boston Logan — has the highest rating.
Two hundred miles and seven credit notches separate Logan from New York’s LaGuardia Airport, where privately operated Terminal B, home to every airline but Delta (DAL) , is grouped with six small airports that have the lowest rating.
“Our ratings are basically an assessment of the issuer’s ability to repay principal and debt obligations on time,” said Maria Matesanz, Moody’s senior vice president.
“We have the highest current airport ratings for government-owned Massachusetts Port Authority,” Matesanz said. “It has credit strengths that we think are important — strong debt service coverage ratios, a strong service area, and a very diverse airline carrier base, with no airline responsible for more than 27% of enplanements.”
Boston Logan is a hub for JetBlue (JBLU) , which has about 30% of all domestic passengers, according to Bureau of Transportation statistics for the 12 months ended July 30. American is second with 23%; Delta, which has 12%, said it will grow its Boston presence.
The bonds, issued primarily against revenue for Boston Logan, but also covered by Worcester Regional Airport and Hanscomb Field in Bedford, have an Aa2 rating.
Moody’s next highest rating, Aa3, is assigned to 10 leading airports including Atlanta, Charlotte, Los Angeles and the Port Authority of New York and New Jersey.
But the bonds that cover Terminal B at LaGuardia are a special case, not covered by the Port Authority because the terminal is operated and financed by LaGuardia Gateway Partners LLC. Those bonds are rated Baa3.
While the City of New York owns all of the LGA terminals, LaGuardia Gateway Partners won the right to manage the airport’s recently started construction project, which could cost as much as $8 billion. The partnership includes Vancouver-based Vantage Airport Group, Swedish construction firm Skanska, and Paris-based Meridiam SAS.
All of the airlines except for Delta operate out of Terminal B. Delta operates out of Terminal D, which is covered by its balance sheet and its credit, which also has a Baa3 rating. Corporate bond ratings are generally lower than municipal bonds or project finance bonds.
Privately managed airports and terminals are rare in the U.S., which partially explains the low ranking. In this country, only the San Juan, Puerto Rico airport, JFK Terminal One and the JFK International Air Terminal are privately managed.
“There’s not a history,” said Earl Heffintrayer, Moody’s lead airport analyst. “From our reading of the documents, they should be able to recover the debt service.”
Globally, privately managed airports are not uncommon. In general, their coverage is 1.5 to 2 times debt. The LGA Gateway Partners is at the low end of that range.
Another rating issue is the ongoing improvement project. “It’s the most complicated construction project we have rated at Moody’s,” Heffintrayer said. “They are building a new terminal beside, above and around an existing facility while trying to maintain the existing facility.
“The methodology we use for construction is informed by our view that it’s an investment grade credit, but it hits every bucket of complexity that we have.”
In its June credit opinion for the Massachusetts Port Authority, Moody’s said, “The Aa2 is based on the credit fundamentals of the authority, which are currently among the strongest of Moody’s rated airports.
“The airport has a strong and improving relative market position in a robust and diverse economy and is expected to maintain above-average financial metrics for the foreseeable future despite substantial additional planned debt to fund its 2016-2020 capital program.
“Massport’s enplanement base remains among the most diversified in the US airport sector and the airport has had above average growth in recent years, which is continuing into 2016. The high rating is tempered by expectations of an additional $1 billion in debt through 2020.”
In its June opinion on LaGuardia Gateway Partners, Moody’s said that during the construction project, which began this summer, “the requirement to build around the existing facility while maintaining operations introduces the potential for schedule delays.
Moreover, “the construction risk is additionally amplified by poor geotechnical conditions, known environmental contamination, and limitations on the ability to access the site by commercial vehicles,” Moody’s said.
Nevertheless, it said, “the high level of air traffic demand at LaGuardia will overcome the high project costs.”
In general, airlines have no place else go to because JFK operates under slot constraints while Newark, where slot constraints are ceasing, “lacks large amounts of gate capacity to accommodate a large scale diversion of operations from LGA,” Moody’s said.
The Street
by Ted Reed
Oct 28, 2016 7:00 AM EDT
Dive Brief:
Dive Insight:
School districts have been increasingly taking on ambitious construction and renovation programs, with many of them focused on boosting energy efficiency and producing more sustainable structures. For example, California voters will decide next month on Proposition 51, a measure that would authorize a $9 billion bond deal to finance new school construction, as well as repair and replace older facilities. State officials said this measure is only the beginning of a necessary $22 billion in school construction spending for the next 10 years. The state’s construction industry is obviously pro-51, but Gov. Jerry Brown said the state can’t afford the extra $500 million payment on education bonds.
While not as pricey as California’s proposed plan, Baltimore has started construction of two multimillion-dollar schools as part of a $1.1 billion school upgrade and construction initiative. The program, financed though revenue bonds, will see 28 new and rehabbed schools completed by 2020, all managed by the Maryland Stadium Authority. The project will allow for at least double the district’s current enrollment.
Although it’s the job of public watchdogs to play devil’s advocate when it comes to public spending, this is truly the time for bond-financed deals. According to Bloomberg report, more local public entities are using municipal bonds to finance their public building and infrastructure projects, thanks to record-low interest rates. In the dash to complete these deals, Barclays Plc said municipal bond issues might reach $400 billion by the end of 2016.
Construction Dive
by Kim Slowey
@kimslowey
Oct. 26, 2016
NEW YORK, Oct. 25, 2016 (GLOBE NEWSWIRE) — Kalotay Analytics, a provider of high speed, high precision fixed income valuation software, announced the licensing of patent-pending tax-neutral municipal bond valuation and risk analysis methodology to BlackRock.
When interest rates rise, the prices of lower coupon bonds may drop much more precipitously than predicted by traditional risk calculations. The traditional approach fails to account for the tax payable at maturity on the discount when prices fall below par, which pushes prices further down.
“Incorporating tax effects is vital for the proper risk analysis and tax management of municipal bonds. We’re thrilled that BlackRock recognizes the benefits of our innovative methodology, and is implementing it across its existing platforms,” said Andy Kalotay, president of Kalotay Analytics.
Antonio Silva, the head of the Financial Modeling Group at BlackRock said, “We continually look for improvements to our analytics platform and are pleased to integrate the tax effects model into the new valuation methodology used for municipal bonds.”
About Kalotay Analytics
Kalotay Analytics has been providing fixed income valuation and risk measurement tools to major market participants since 1990. Applications of its patented, lightning-fast, technology include real-time pricing of bond ETF’s, risk management, tax management, and pre-trade analysis. The firm has unparalleled expertise in the valuation and risk analysis of callable municipal and agency bonds. Analytics coverage spans the global fixed income universe, including fixed rate bonds, floaters, MBS, and inflation-indexed structures. Kalotay technology drives the recently introduced live municipal yield curve distributed by the Associated Press.
For more information about Kalotay Analytics, please visit: www.kalotay.com.
Kalotay Contact:
Andrew Porter
(212) 482 0900 press 1
andy.porter@kalotay.com
About BlackRock
BlackRock is a global leader in investment management, risk management and advisory services for institutional and retail clients. At September 30, 2016, BlackRock’s AUM was $5.1 trillion. BlackRock helps clients around the world meet their goals and overcome challenges with a range of products that include separate accounts, mutual funds, iShares® (exchange-traded funds), and other pooled investment vehicles. BlackRock also offers risk management, advisory and enterprise investment system services to a broad base of institutional investors through BlackRock Solutions®. As of September 30, 2016, the firm had approximately 13,000 employees in 30 countries and a major presence in global markets, including North and South America, Europe, Asia, Australia and the Middle East and Africa. For additional information, please visit the Company’s website at www.blackrock.com | Twitter: @blackrock_news | Blog: www.blackrockblog.com | LinkedIn: www.linkedin.com/company/blackrock
BlackRock Media Contact
Katherine Ewert
212-810-5204
katherine.ewert@blackrock.com
Date: Thursday 6 October
Click here to listen to the replay.
Fitch analysts discussed our recent report that focuses on the ratings impact of event risk on airports and other infrastructure projects, including natural disasters, terrorism and conflict or political instability.
Speakers:
Key discussion points included:
S&P Global Ratings clarifies its treatment of information sufficiency in the U.S. public finance ratings process. In this CreditMatters TV segment, Managing Director Robin Prunty explains why the receipt of quality and timely information is essential to maintaining our ratings of municipal credits.
Oct. 25, 2016
S&P Global Ratings is clarifying its approach to information sufficiency in U.S. public finance (USPF) as part of the ratings process. S&P Global Ratings monitors and updates public credit ratings on an ongoing basis.
Oct. 25, 2016
In this CreditMatters TV segment, Larry Witte, Senior Director with Global Fixed Income Research, discusses recent findings for the third quarter of 2016, which marked 16 straight months in which there were more upgrades than downgrades. The downward trend for state ratings continued, however, with two downgrades compared to one upgrade.
Oct. 27, 2016
U.S. wind energy installations fell 44 percent in the third quarter, though projects under construction are approaching record levels thanks to its low cost and the recent five-year extension of a key tax credit, according to an industry group.
Installations of wind capacity fell to 895 megawatts during the quarter from 1,603 a year earlier, according to a quarterly report by the American Wind Energy Association (AWEA).
Wind energy makes up about 5 percent of U.S. electricity, while solar lags at about 1 percent. There is still far more wind capacity, 75.7 gigawatts, than solar, which had nearly 32 GW installed at the end of the second quarter.
Wind is converted into mechanical energy then electricity. A wind turbine 80 feet tall can power a single home while a utility-scale turbine powers hundreds of homes.
With the renewal late last year of a tax credit for wind projects through 2019, developers are no longer under pressure to begin projects this year, AWEA officials said.
All of the capacity added during the quarter was in two states: Texas, the nation’s top state for installed wind capacity, and Minnesota.
The pace of wind energy development has been highly dependent on the federal production tax credit over the last decade, and goes through boom and bust cycles when it is renewed or allowed to lapse by Congress.
Projects under construction were up 2 percent from the third quarter of last year, and have climbed 16 percent, on average, every quarter this year. At 13,563 MW, projects under construction are within 1,000 MW of the record hit in 2014, the AWEA said.
The cost of wind energy dropped 61 percent between 2009 and 2015, according to a study by investment bank Lazard last year, which also found wind to be competitive with, and often below, the cost of conventional generation like natural gas.
New power contracts for wind facilities are up 39 percent so far this year, with the majority coming from corporate and other nonutility purchasers. Amazon.com Inc, Johnson & Johnson and Target Corp all struck deals for wind power during the quarter.
With contracts for wind power, big corporations are able to lock in electricity rates for 10 or 15 years, according to AWEA Chief Executive Officer Tom Kiernan.
“They appreciate that stability and seeing the benefit,” Kiernan said.
During the quarter, Iowa became the first state to generate more than one-third of its electricity, 35.8 percent, from wind power. Iowa has 6,365 MW of wind capacity installed, and an additional 3,100 MW under construction or in advanced development.
REUTERS
Thu Oct 27, 2016 | 3:00pm EDT
(Reporting by Nichola Groom; Editing by Jeffrey Benkoe)
Nora Wittstruck and Oscar Padilla discuss a recent report on how the Texas economy is weathering the prolonged downturn in oil prices and Sussan Corson provides an overview of the revised state criteria and our approach to pensions.
Oct. 25, 2016
Taylor Riggs, a contributor to Bloomberg Briefs, talks with Joe Mysak about this week’s municipal market news.
Bloomberg Business
October 27, 2016
Sales of municipal bonds and notes soared to a record $52.5 billion in October, the biggest month of issuance since records began in the 1980s, according to Thomson Reuters data.
Municipal supply has surged in recent months as state, city and other public agencies eagerly sell bonds and notes at low interest rates.
October brought nearly $52.5 billion of new supply to the $3.7 trillion U.S. municipal market. The last time the market reached similar levels was in 2008, when $51.4 billion was sold in April 2008 and $50.6 billion was sold in June 2008, according to Thomson Reuters data.
Muni bonds have outperformed other fixed income securities and retained value for domestic investors seeking a tax exemption. Historically low and negative sovereign interest rates have also driven foreign investors, even if they cannot benefit from tax-exempt status.
The pace of issuance, however, may be slowing. Forecasts for November show supply dropping somewhat, perhaps reflecting higher interest rates, fewer refunding opportunities and the uncertainty surrounding the U.S. presidential election on Nov. 8, Janney Fixed Income Strategy’s Alan Schankel said last week.
REUTERS
Mon Oct 31, 2016 | 5:20pm EDT
By Robin Respaut | SAN FRANCISCO
(Reporting by Robin Respaut; Editing by Dan Grebler)
In this edition of CreditMatters TV, Senior Director John Sugden and Director Sussan Corson discuss our updated criteria for rating U.S. state governments and territories. They explain the key changes and impact on existing ratings.
Oct. 17, 2016
NEW YORK (S&P Global Ratings) Oct. 17, 2016—S&P Global Ratings today updated its methodology for rating United States state governments. The revised rating criteria is effective immediately.
“The changes are intended to better align our criteria with new pension reporting and disclosure, and provide additional transparency and guidance with respect to potential rating caps and overrides,” said credit analyst Sussan Corson.
The updated methodology applies to all U.S. state governments and U.S. territories. We do not expect any rating changes as a result of the revised criteria.
Concurrently, we published an FAQ on the revised criteria, as well as a process summary. The revised rating criteria follows the publication on May 25, 2016, of our Request For Comment on proposed changes to our methodology. The new criteria fully supersede the U.S. State Ratings Methodology that we published on Jan. 3, 2011. The articles published today are:
The report is available to subscribers of RatingsDirect at www.globalcreditportal.com and at www.spcapitaliq.com. If you are not a RatingsDirect subscriber, you may purchase a copy of the report by calling (1) 212-438-7280 or sending an e-mail to research_request@spglobal.com. Ratings information can also be found on the S&P Global Ratings’ public website by using the Ratings search box located in the left column at www.standardandpoors.com. Members of the media may request a copy of this report by contacting the media representative provided.
Primary Credit Analysts: Sussan S Corson, New York (1) 212-438-2014;
sussan.corson@spglobal.com
John A Sugden, New York (1) 212-438-1678;
john.sugden@spglobal.com
Secondary Contacts: Robin L Prunty, New York (1) 212-438-2081;
robin.prunty@spglobal.com
Horacio G Aldrete-Sanchez, Dallas (1) 214-871-1426;
horacio.aldrete@spglobal.com
Eden P Perry, New York (1) 212-438-0613;
eden.perry@spglobal.com
Criteria Officer, U.S. Public Finance: Liz E Sweeney, New York (1) 212-438-2102;
liz.sweeney@spglobal.com
Senior Criteria Officer, Government Ratings: Laura J Feinland Katz, CFA, New York (1) 212-438-7893;
laura.feinland.katz@spglobal.com
Criteria Owner, U.S. Public Finance: Steve C Tencer, CPA, New York (1) 212-438-2104;
steve.tencer@spglobal.com
Help wanted: Top-notch financial talent needed to face intense regulatory scrutiny; no bonuses or equity awards; modest civil servant’s paycheck.
That is not a job that would appeal to most of the nation’s best and brightest financial executives, who enjoy the big cash and stock incentives—not to mention the prestige—offered by the private sector. But states and towns increasingly need such executives to manage bond sales and pension deficits, as they come under closer government oversight.
“Getting people in government is not easy,” said Robert Mayer, chief fiscal officer for the town of Fairfield, Conn. “They’re all making more than the mayor.”
Municipal finance chiefs in the Midwest earn between $85,000 and $160,000, depending on the town’s size and affluence, while those working on either coasts can expect slightly more, said Heidi Voorhees, head of GovHR USA LLC, an Illinois recruiter for the public sector and nonprofit groups. By contrast, the median compensation package—salary, bonus and stock options—for public-company finance executives was valued at $3.57 million, based on proxies filed as of late June.
“It’s always our toughest recruitment,” said Ms. Vorhees.
Adding to the difficulty: Municipalities and for-profit businesses follow very different bookkeeping and budget rules, she said.
One thing many public-sector CFOs have in common with private-sector peers is that they have to answer to the Securities and Exchange Commission. The agency regulates municipal-bond sales, as well as corporate offerings, and can impose fines for violations.
While most corporations have the resources they need to monitor compliance, SEC disclosure rules pose a special challenge for cash-strapped states and cities, which are under pressure to do more with less. While disclosure rules are less stringent for municipalities than for companies, that doesn’t get them off the hook for even small lapses.
If a municipality is 30 days late in filing its budget with state and federal regulators, the SEC considers that a disclosure violation, even if the delay is unlikely to harm its bondholders.
The SEC is “really naive in their understanding of what municipalities are capable of,” said Jeffrey Esser, chief executive of the Government Finance Officers Association, which has about 18,000 members in the U.S. and Canada.
In August, the SEC reached settlements with 71 municipalities and other public entities across 45 states over alleged bond-disclosure violations. Many of the parties that settled had voluntarily reported their violations, such as failing to disclose a change in tax-revenue forecasts.
The town of Fairfield was among those that self-reported, a move that tends to win leniency. It settled with the SEC without admitting or denying wrongdoing or paying a monetary penalty.
Mr. Mayer, Fairfield’s fiscal chief, is a career finance executive who left Wilkes-Barre, Pa., where he held a corporate job as a divisional chief executive, to be closer to his wife and daughters, who didn’t want to relocate.
“To keep myself a little bit busy I ended up getting into local politics,” he said. In 2012, Fairfield’s first selectman appointed him chief of staff. When the CFO job later opened up, Mr. Mayer was asked to step in. “Most good CFOs could make a positive impact,” he said of government service.
Most towns, hard-pressed to find money for such projects as pothole repair, park upgrades or a new public-transportation extension, are reluctant to spend precious cash staffing up their finance departments to ensure regulatory compliance. “The attention isn’t there, the budget isn’t there,” Mr. Mayer said.
Despite such pressures, municipalities and related entities don’t get a free pass, Andrew Ceresney, director of the SEC’s enforcement division, said at a conference last week. They have a total of over $3.7 trillion in outstanding debt, spread across about 44,000 issuers, compared with the about 8,600 corporate issuers the SEC regulates, he said.
Mason Neely, finance chief of East Brunswick, N.J., voluntarily reported to the SEC that his town failed to let investors know that S&P Global Ratings dropped coverage of the town’s sewer bonds when it decided to pay them off early. He said that while he takes responsibility for not immediately informing bondholders, the violation was minor.
Another potential pitfall for public-sector CFOs is that their predecessors often leave them with decades worth of financial information they know little about. When their town or regulators want to investigate something, “Well, I didn’t know that” is a common refrain, said J.T. Klaus, a partner at Kansas law firm Triplett Woolf Garretson LLC.
Succession planning is also nearly impossible for some towns and cities, said Mr. Klaus, who represents Andover, Kan., one of the 71 municipalities and related nonprofits that recently settled with the SEC. “There are not enough people living in the community who can do the job,” he added.
Mr. Klaus declined to discuss specifics of the town’s settlement.
To lure financial talent, towns need to modernize and be more flexible when it comes to issues like work-life balance, given they lack the pay scale to compete with the private sector, said Elizabeth Kellar, CEO of the Center for State and Local Government Excellence, a research group focused on helping municipalities meet staffing needs. “The governments that are making the best decisions are upgrading on technologies,” she said.
THE WALL STREET JOURNAL
By MAXWELL MURPHY
Oct. 17, 2016 4:21 p.m. ET
U.S. municipal market supply will likely be among the highest in a decade when an estimated $16.7 billion of bonds and notes goes up for sale next week, lead by deals from New Jersey and Alaska.
With $16.5 billion in expected bond sales and $213 million in notes, according to Thomson Reuters estimates on Friday, the week would be one of the 10 biggest for supply in the last 10 years. Looking at just bonds, it would be the biggest since December 2006.
New Jersey will sell $2.76 billion of highway reimbursement notes through Bank of America Merrill Lynch, and Alaska plans to offer $2.35 billion of taxable pension obligation bonds via Citigroup, with both deals set to price on Wednesday.
Muni supply is surging lately. This week, an estimated $15.9 billion of bonds and notes hit the market.
“We expect the issuance pipeline to remain robust over the next few weeks as some issuers look to place deals prior to the November general election and a potential (Federal Reserve) rate hike in December,” Barclays analysts said in a Friday report.
Barclays said the weakness in the muni market “is technical in nature, and as soon as supply subsides, the market should regain its footing.”
As this week’s big supply hits, U.S. municipal bond funds’ net flows turned negative for the first time since the end of September 2015, according to Lipper, a unit of Thomson Reuters Corp. Funds reported nearly $136 million of net outflows in the week ended Oct. 19.
Next week’s biggest competitive offering comes from Maryland, whose department of transportation will sell more than $690 million of new and refunded bonds in a two-part deal on Wednesday.
Reuters
Fri Oct 21, 2016 | 3:20pm EDT
By Nick Brown
(Reporting by Nick Brown and Karen Pierog; Editing by Lisa Shumaker)
There was a tremendous amount of volatility in the quarter in terms of state ratings. This is unusual because state ratings tend to be sticky – it takes major deterioration to cause a downgrade. States have vast resources and the ability to institute revenue increases and reduce budgets. States are also prohibited from filing for bankruptcy – they cannot just fold up and go away – which is true of most municipal issuers as well. States can manage spending by reducing funding to state instrumentalities and municipalities in the state as well as by reducing services provided, thus reducing the budget. However, as has been cited in our past commentaries, the factors that have caused state ratings to be weakened and eventually downgraded include (1) the severe underfunding of pensions due to overpromising and falling short on both required contributions and investment returns; (2) slow or declining revenue and economic growth combined with dipping into reserves rather than cutting budgets or raising revenues – also referred to as structural imbalance; and (3) exposure to the oil and gas industry, which has led to volatile revenue and economic growth and financial operations.
Five states were downgraded during the third quarter:
New Mexico’s Aaa rating was put under review for a downgrade by Moody’s because of an extremely large revision in 2016 and 2017 revenues, resulting in a large drawdown of reserves. The New Mexico legislature has a history of promptly addressing issues and has scheduled a special meeting. Expect a downgrade if the structural imbalance is not addressed. Although not a downgrade, the flooding in Louisiana (Aa3/AA by Moody’s and S&P, both with negative trends) devastated a state already weakened by exposure to the oil and gas industry. However, the long-term ramifications remain to be seen, as the economic stimulus from rebuilding may help the state’s revenues.
Pennsylvania received a reprieve in the form of Moody’s changing the negative trend to stable on its Aa3 rating. The revision of the commonwealth’s outlook to stable recognizes that Pennsylvania’s problems – while sure to persist – are unlikely to lead to sharp liquidity deterioration, major budget imbalances, or other pressures consistent with lower ratings for US states. After the revision to stable, Pennsylvania resorted to interfund borrowing, which is a credit negative, though Moody’s maintained the stable trend.
Alaska’s AA+ S&P rating was removed from CreditWatch negative – which indicates S&P was conducting a review that may have resulted in a downgrade; instead, it put in place a negative trend – a contrast to Moody’s downgrade action. Both agencies recognize that the state has a sizable structural imbalance, i.e., annual expenses exceed annual due to low oil prices and dependence on the oil industry; but the state still has substantial reserves. However, Moody’s views more negatively Alaska’s political instability resulting from ineffective governance and a divided legislature, which impacts long-term decision making.
States continue to be pressured, though there are bright spots.
Hawaii was upgraded by Moody’s and S&P to Aa1 and AA+, respectively, due to economic and revenue growth resulting in restoration of strong reserves and strong fiscal management. Minnesota was upgraded to AAA by Fitch – above the Moody’s and S&P ratings of Aa1 stable and AA+ positive – due to its broad-based economy, low debt, stable employee benefits, and strong, flexible finances and management.
To put this in perspective, the average rating for a state is AA and has recently been trending down. Generally, a state rating in the single-A category is considered very low.
Ten states are rated AAA by all three rating agencies. They are: Delaware, Georgia, Iowa, Maryland, Missouri, North Carolina, Tennessee, Texas, Utah, and Virginia. They stand in contrast to those states that have not been faring so well and that we have expounded on in the past. These include Illinois (rated Baa2, BBB, BBB+) – plagued by huge pension and revenue issues, New Jersey (A2/A/A) – dealing with revenue, economic, and pension issues, Kentucky (Aa2, A+, AA-) – affected mostly by pension issues, and Connecticut with all three ratings in the double A category at Aa3, AA-, AA-, but the ratings are tenuous due to the inability of the state to come up with long-term solutions as it continues to lose population.
The continuing pressure on state ratings puts other areas on our radar screen, including the increasingly visible burden of OPEB (other post-employment benefits), in addition to pension benefits, that will now need to be disclosed in a concise manner in accordance with GASB 74 and 75, to be instituted for fiscal years ending after June 15, 2016 and June 15, 2017, respectively. Many states and municipalities fund on a pay-as-you-go basis, so to estimate future obligations may add, or rather make more visible, significant liabilities. Governments can change other post-employment benefits more easily than pensions, which are constitutionally mandated; however, OPEB burdens are growing.
We will also be sensitive to state agencies and municipalities that may experience reduced funding from the state. We will evaluate credits to make sure there is financial flexibility in the form of strong reserves and revenue flexibility – which are characteristics of highly rated bonds. For example, the State of Maryland has announced it will be reducing funding to counties in the state. For the most part, Maryland counties are strong, although like most counties they have few revenues and numerous social service spending obligations. State institutions of higher education and state housing agencies have traditionally been hit by state reductions; however, these institutions are currently displaying resilience, and many should be able to handle reduced state funding.
Other developments over the quarter were:
Zika spread to the United States and may have credit implications for Puerto Rico and Miami – these situations will be watched for long-term implications. We will also watch for spread of the virus to other locales. Immediate effects may be a decline in tourism and population, while longer-term implications could be increased social service spending. These outcomes will depend on preventative measures, which may be helped by recent congressional approval of Zika funding.
Bond insurance industry strength was affirmed after rating agencies reported that bond insurers’ exposure to numerous defaulted entities in Puerto Rico would not affect their claims-paying ratings. Moody’s, KBRA, and S&P all published reports or updates in the quarter.
The City of Chicago, suffering from pension problems and political gridlock, approved a rate increase for its water and sewer utility to help prop up one of its severely underfunded pension funds. We will be watching to see if this move causes contagion risk to other city utility systems.
One reason municipal utilities have gotten stronger is limits on the ability of municipalities to use utilities as a cash cow. This trend came about at least 20 years ago when utilities needed market access to fund improvements to their systems to comply with clean water and clean drinking water acts. Rating agencies and investors looked unkindly on unlimited and unscheduled transfers, so there was pressure to make transfers predictable. Consequently, transfers to the general fund of a municipality from its utility are generally limited to something akin to a tax or a fixed percentage of revenues. This provides certainty for the utility to accumulate funds for operations, maintenance, and capital improvements as well as reserves for unexpected events – and to maintain strong credit ratings. As has been widely reported, there is considerable underfunding of our nation’s infrastructure, including water and sewer systems. Thus, we expect increased debt issuance from the sector, so any extra “tax” on the system to fund something outside of the system will be scrutinized for its overall burden on the utility involved.
Our strategy of investing in higher-rated bonds will continue as we move into a rising interest rate environment. Some pundits think that because municipal bonds are generally so safe, lower-rated and longer-dated bonds will provide enough yield to compensate; however, credit spreads tend to widen with rising interest rates. You can see the narrowing spread as interest rates decline in the following chart, which compares the yields of AAA-rated bonds with BBB bonds over time.
Source: RBC Capital Markets, LLC
Interest rate increases contribute to outperformance of higher-quality credits. Although the absolute return may be negative, the performance of AA and AAA-rated bonds will be better than that of lower-rated bonds.
This is why Cumberland Advisors invests predominantly in AA bonds and single A-rated bonds that are stable or improving.
David Kotok
Registered investment advisor, portfolio strategy
Cumberland Advisors
By Patricia Healy, CFA
Oct.23.16
Powered by P3 INGENIUM: The most comprehensive source for P3 project updates in North America
State-level debates over how to fund transportation projects continued to dominate the landscape over the past week with proposals ranging from gas and sales tax hikes to toll charges to mileage-based fees. Meanwhile, legislators continue to consider bills that would make it easier for agencies to enter into transportation P3s and one state continues to spur innovation by encouraging developers to submit original proposals for such projects.
This year has seen a boost in bonds sold by states and localities in the municipal market. Experts are predicting 2016 will be the busiest year in a half-decade. RBC Capital Markets’ Chris Mauro said this week that October will likely represent the third consecutive month of record bond issuance volume. In fact, he predicts that total issuance this year “will likely exceed the $433 billion record set in 2010 — a particularly impressive accomplishment, given that Build America Bond issuance greatly inflated 2010 volume.”
The Takeaway: A big driver of all this activity on the governments’ end is uncertainty. The biggest question mark has been over who will win the presidential election, followed closely by whether or not the Federal Reserve will raise short-term interest rates by the end of the year. Given the vastly different positions of the candidates, governments are unwilling to gamble on the tax and spending policies of a new administration. As such, Mauro predicts bond issuance could creep up to $450 billion by the end of the year.
GOVERNING.COM
BY LIZ FARMER | OCTOBER 21, 2016
If you’re a pension fund or insurer from Europe or Japan, U.S. investment-grade credit may be getting a little passe.
That’s the view of Principal Global Investors, which sees taxable municipal notes becoming a more popular alternative for some overseas-based institutional investors as they chase additional yield in a world of record-low central bank interest rates. Tax-free munis typically have little appeal for overseas buyers, who may not benefit from the securities’ exemption, although local government notes with taxed payouts do draw buyers from abroad.
“From a non-U.S. investor standpoint, taxable munis have the same yield as you get from U.S. investment-grade credit,” said Mark Cernicky, who oversees about $100 billion at Principal in London. “It’s higher credit quality, they have much lower default rates, and it’s also a play in infrastructure.”
The average yield on taxable munis due in 5-to-10 years is 3 percent and the rate on similar tenor U.S. corporate notes is 2.95 percent, Bank of America Merrill Lynch indexes indicate. While data compiled by Bloomberg show issuance of investment-grade corporate bonds in the U.S. has already topped $1.17 billion this year and is running at a record pace, Cernicky said the advanced age of the current credit cycle will spur investors to pivot more toward taxable munis.
The increasing prevalence of behavior that’s more friendly to shareholders than creditors — such as acquisitions — may also encourage that shift, as could the prospect that the European Central Bank will eventually dial back stimulus measures that have supported the corporate bond market, he said in an interview in Sydney on Thursday.
“You’re going to continue to see that diversification trend in taxable munis,” Cernicky said.
Local governments sell taxable bonds when the issues don’t meet Internal Revenue Service standards for tax-exemption, such as for pension funding because the money is invested to make a profit, or if a certain amount of proceeds goes toward commercial use.
Pension funds and other institutional buyers are also looking to do more private lending to companies as a way of diversifying the riskier part of their portfolios away from speculative-grade bonds, Cernicky said. There’s been a “significant increase” in requests for such arrangements among Japanese and European clients, he said.
“They’re reducing high-yield exposures and going into private credit, illiquid credit or private lending,” he said. “You get a similar type of return, but you get no mark-to-market volatility.”
The shift has come amid a reduction in junk bond sales this year, with new issuance in the U.S. 19 percent less than at the same point in 2015, according to data compiled by Bloomberg. Cernicky is tipping that to turn around next year, with energy, metals and mining companies leading the charge in the world’s biggest non-investment-grade note market. He also expects more industrial companies to make their debut in the European junk bond market next year.
“The story in 2017 is likely going to be about high-yield issuance, not so much the IG issuance,” he said. “In Europe, you see a lot of new companies coming into the market which is actually pretty positive.”
Bloomberg Business
by Ruth Liew
October 20, 2016 — 8:28 PM PDT
Taylor Riggs, a contributor to Bloomberg Briefs, talks with Joe Mysak about this week’s municipal market news.
October 20, 2016
Fitch Ratings will host a test teleconference on Thursday, October 13th at 11:00am EDT to discuss our recent ratings on Ontario International Airport Authority and the ownership and operational transfer:
– Ontario airport refunding financing will complete a rare government-to-government transfer of Ontario International Airport’s ownership and operation. This contrasts to efforts by other U.S. airports to engage with privatization of airport control
– Direct federal action was needed to effectuate the transfer, including unique financial arrangements for Ontario. Does this have implications to the airport’s credit?
– Ontario airport traffic trends have a history of elevated volatility. Will this continue?
Speaker
Seth Lehman, Senior Director, Global Infrastructure Group
Following prepared remarks, we will open the call for a question and answer session. Questions can also be emailed in advance to Danielle Riles at danielle.riles@fitchratings.com.
The related report/press release can be viewed here:
https://www.fitchratings.com/site/pr/101276
Contact:
Rick Kahn
Senior Director, Investor Development
Business & Relationship Management
Individual investors’ focus on higher yield and propensity to follow trends stoke volatility; for some clients, try separately managed accounts
Although retail municipal-bond mutual funds continue to be widely used by registered investment advisers as cost-effective investment vehicles for their clients, many advisers may not be aware that those funds are susceptible to hidden risks.
These funds may be significantly more costly than they first appear as they cater to retail, or individual, investors, are often focused on maximizing yield at the cost of credit quality and diversification, are subject to ill-timed flows of assets in and out of the fund, and are often susceptible to thin liquidity in the market.
A key problem with the municipal-fund market stems from the fact that the funds are typically owned by untrained individual investors. Many of those investors focus on yield rather than the riskiness of the underlying bonds in the fund, resulting in funds that are overconcentrated in risky securities.
Further, individual investors’ decisions to purchase or redeem shares largely dictate fund managers’ decisions. Managers are continuously buying and selling securities in order to provide returns or liquidity for investors, a process that makes it difficult for those managers to put their knowledge of the market to work for their clients.
Research shows that retail fund flows have historically followed past performance in the muni market, with the inflow of cash into funds typically following periods of high returns and outflows often coming in the wake of falling or negative returns. In other words, individual investors time the market poorly by buying high and selling low. As a result, as bond prices fall as interest rates rise, investment managers often find themselves forced to sell their municipal-bond holdings.
Although mutual-fund shares can be immediately liquidated, the actual liquidity of the underlying assets can vary. Often this means mutual funds sell the highest quality, most liquid securities to raise the cash for the individual investors redeeming their fund shares. For those fund investors who have a long-term buy-and-hold approach, that kind of activity lowers the overall quality of the securities in the fund and actually increases the riskiness of their investment.
For advisers of clients who are long-term investors, it is wise to explore alternatives to standard municipal-bond mutual funds. There are options that enable investors to avoid individual co-investors altogether or carefully choose co-investors whose investment behaviors more closely mirror the patience of institutional investors.
One strategy to consider is separately managed accounts with low fees and minimums that are on par with low-cost mutual funds. These accounts provide access to the muni market, but unlike a mutual fund, investors have ownership of the individual securities and control over the transactions of those securities—an important feature during times of rising rates.
Rather than selling shares of a muni-bond fund, which must be done at the net asset value of that fund, managers of separately managed accounts have the ability to sell individual securities. That allows the manager to potentially select and sell shorter duration bonds within the account, which will be less negatively affected by rising rates.
For clients with less in assets, there are also options to purchase mutual funds that are limited to approved investors only. In this case, the fund manager limits investment exclusively to institutionally minded investors and investors working with investment advisers. Without being subject to the whims of individual investors, the fund’s management can avoid frequent flows in and out of the funds.
While rates are low and markets are still liquid, it’s a good time to begin having conversations with clients about the hidden risks of municipal-bond mutual funds, and make any adjustments necessary to position them well for the future.
THE WALL STREET JOURNAL
by STEVEN SIMPSON
Oct. 20, 2016 2:42 p.m. ET
Steven Simpson has worked in the financial-services industry for more than 20 years, and was most recently president and managing partner at Gurtin Municipal Bond Management in Solana Beach, Calif. Voices is an occasional feature of edited excerpts in which wealth managers address issues of interest to the advisory community. As told to Alex Coppola.
A reform-driven rise in short-term borrowing costs is focusing attention on an often-overlooked corner of the market: municipal debt.
Three-month AAA munis are offering the equivalent of about 1.3% in taxable yield when adjusting for those who would ordinarily pay the top income tax rate, according to Ned Davis Research Group. By comparison, buying U.S. Treasury debt for five years would offer a lower annual yield of 1.24%.
Municipal borrowers, who typically issue tax exempt debt to finance state and local projects, are paying higher rates to borrow thanks to new money market reforms that went into effect last week. Prime money market funds now have the ability to charge redemption fees or stop withdrawals during times of market turbulence.
In anticipation of those reforms, investors pulled hundreds of billions of dollars from prime funds, which typically invest in high-grade corporate or municipal debt. More than $100 billion fled municipal money market funds specifically, according to Pacific Investment Management Co.
Lower demand from that traditional buyer has led to higher short-term borrowing costs for municipalities. But many are also looking at it as an opportunity, echoing, and at times exceeding, investor excitement over short-term corporate debt that has also offered higher yields due to money market reform.
The new buyers include taxable money funds, separately managed accounts, hedge funds, and longer-term bond funds, according to Colleen Meehan, the director of municipal money market fund strategies for BNY Mellon Cash Investment Strategies.
“The beauty of that product is that they can move up rates to entice non-traditional buyers,” she said. “And that’s exactly what has happened.”
The yields look attractive to those investors in an otherwise low-rate world. The yield on three-month Treasury notes, for example, was recently at 0.33% Friday.
Another benchmark for municipal yields, the SIFMA Municipal Swap Index, was recently at its highest since the financial crisis, according to Pimco. Variable rate demand notes, which have rates that float, are typically reset based on the swap index rate, making them and other floating-rate instruments attractive buys, Pimco said in research this week.
The amount of outstanding VRDNs surpassed the amount of money in municipal money-market funds in recent months, a sign that new buyers are stepping into the space to replace those which are leaving, according to Ms. Meehan.
THE WALL STREET JOURNAL
By BEN EISEN
Oct 21, 2016 2:45 pm ET
Norwalk, CT, October 18, 2016 — The Governmental Accounting Standards Board (GASB) has issued an Exposure Draft of a proposed Implementation Guide that contains questions and answers intended to clarify, explain, or elaborate on the requirements of GASB Statement No. 74, Financial Reporting for Postemployment Benefit Plans Other Than Pension Plans.
The proposed Implementation Guide provides answers to more than 150 questions about the GASB’s new standards on financial reporting for postemployment benefit plans other than pension plans. These plans are referred to as other postemployment benefit plans (OPEB plans), and the benefits they administer (primarily retiree healthcare) are referred to as other postemployment benefits (OPEB).
The Exposure Draft of Implementation Guide No. 201X-X, Financial Reporting for Postemployment Benefit Plans Other Than Pension Plans, is available on the GASB website, www.gasb.org. Stakeholders are encouraged to review and provide comments by December 19, 2016.
Kroll Bond Rating Agency (KBRA) issues a rating letter at no cost for all municipal bonds insured by a KBRA-Rated bond insurer.
Please see the links below for a sample KBRA rating letter as well an overview of our Public Finance/Financial Guaranty sector:
Sample Rating Letter
Public Finance/Financial Guaranty Overview
KBRA rates the following bond insurers:
Assured Guaranty Corp. (AGC)
(Rated AA, Stable Outlook)
Assured Guaranty Municipal Corp. (AGM)
(Rated AA+, Stable Outlook)
National Financial Guarantee Corporation (National)
(Rated AA+, Stable Outlook)
Municipal Assurance Corp. (MAC)
(Rated AA+, Stable Outlook)
A new trading platform dedicated to a niche area of the $3.8tn US municipal debt market has managed to entice the state of Ohio to issue debt on the venue, highlighting efforts to electronify even the most old-fashioned, recondite corners of the bond market.
Ohio will later this month price a “variable rate demand obligation” — a municipal bond where the interest rate resets periodically and that can be sold back to the issuer — on Clarity Bidrate Alternative Trading System, an arm of Arbor Research & Trading founded by Robert Novembre, a former Citi trader.
In a statement, Seth Metcalf, the deputy treasurer of Ohio, said: “The Treasurer’s Office is excited about the opportunity to lower interest costs for Ohio taxpayers by leveraging Clarity’s innovative technology to increase market competition through better price transparency and democratised access to Ohio paper.”
Clarity is talking to several other potential issuers to follow Ohio later this year. The platform has so far signed up 19 subscribers, mostly investors and two banks, and four more are in the process of being brought on board.
“Getting a bond issuer to step up was the final step,” said Mr Novembre “Ohio will help ignite this new market. We want to be the NYSE for variable-rate securities.”
Clarity is one of a clutch of new alternative trading venues that are attempting to revolutionise how the bond market is traded. While stocks are overwhelmingly traded on equity exchanges at hyperfast speeds, and US Treasuries are now mostly traded electronically, much of fixed income is still largely transacted via phone.
When compared with the infrastructure of corporate debt, the US municipal bond market is considered archaic.
“It’s a good market, but it falls somewhere between inefficient and broken,” Mr Novembre said. “Some people are ready to embrace change, and some are not. Are [bond] markets in need of more technology to bring more efficiency? To my mind the answer is absolutely yes.”
The details of Ohio’s VRDO issue are due to be released this month, but it will be “midsized” according to Mr Novembre. Sizes in the market typically vary from $7m to $75m.
Most of the new bond trading platforms, such as George Soros-backed Trumid, are focused on the corporate bond market, but Clarity’s technology is oriented around variable-rate securities like VRDOs. The $180bn VRDO market gives municipalities access to long-term financing at shorter-term, floating interest rates.
Short-term municipal borrowing rates have climbed sharply this year, as long-awaited regulatory changes have caused an investor exodus from money market funds that make up a big part of the investor base. The yield of the Sifma Municipal Swap Index — the market’s biggest benchmark — climbed to an eight-year high of 0.87 per cent last week, which Clarity hopes will burnish its lustre to municipal borrowers that want to attract new investors to the market.
The Financial Times
OCTOBER 10, 2016 by: Robin Wigglesworth in New York
WASHINGTON – The next president must maintain the tax exemption for municipal bonds — the “bread and butter” of infrastructure financing — or risk costing cities up to $500 billion, a group of mayors recently told Republican and Democrat campaign representatives.
The U.S. Conference of Mayors (USCM) stressed the importance of the muni exemption at its bipartisan fall leadership meeting last week in Oklahoma City, which focused on the actions that should be taken during the first 100 days of the next administration, including the development of a much-needed national infrastructure investment policy.
At the three-day conference that ran from Sept. 29-Oct. 1, the organization stressed that federal support is still needed to address infrastructure issues, such as the repair or construction of roads, bridges, power grids and water systems.
Stephen Benjamin, the mayor of Columbia, S.C. and the second vice president of USCM, said in a press conference that while Congress discusses the need for modernization of infrastructure, it continues to “play fast and loose” with the tools that will make that possible.
“The tax exemption on municipal bonds is the only thing we have left to meet the nation’s infrastructure needs,” said Benjamin, who also serves as chair of the advocacy group Municipal Bonds for America and formerly practiced public finance law at ParkerPoe. “This is not dessert – this is bread and butter, and it’s important to us that we reaffirm our position that investment in our cities is non-negotiable.”
In June 2015, USCM adopted a resolution against limiting tax-exempt bonds under proposals from Congress and the Obama administration. Obama has proposed capping the value of the muni exemption at 28% in his last few budget requests. The mayors group has warned such a cap would raise borrowing costs to issuers.
Should the incoming president adopt a measure capping the muni exemption at 28%, cities would see increased costs of almost $200 billion, Benjamin said at the press conference. If the exemption was to be removed entirely, those same costs would rise to nearly $500 billion, he added.
This would prohibit cities from making investments in infrastructure, which the U.S. has been “putting Band-Aids on” for too long, he warned.
He said USCM had unanimous support for the muni exemption, and cited the $1.65 trillion in debt issued for infrastructure by state and local governments from 2003-2012.
“We want this nation to continue to flourish,” Benjamin said. “The only way we can continue to do that is if we invest in infrastructure and we need the tax exemption of municipal bonds to do that.”
Trump does not explicitly mention municipal bonds in his tax plan, but several experts have warned that his proposal and its across-the-board tax cuts could reduce incentives for purchasing munis while increasing the federal debt. He has proposing borrowing several hundred billion dollars to spend on infrastructure.
Clinton’s plan specifically talks about bonds and has generally been more positively received in regards to its potential impact on munis because of its goal to raise taxes for those at the top, which could make tax-exempt bonds more appealing.
Her plan would increase federal funding for infrastructure by $275 billion over five years, allocating $25 billion to direct public investment and $25 billion to a national infrastructure bank to be leveraged to support an additional $225 billion in direct loans, loan guarantees and other forms of credit enhancement. She would renew and expand Build America Bonds under a program to be administered in part by the infrastructure bank.
A total of $181 billion of BABs was issued before the bonds expired at the end of 2010. The GOP tax plan released by the House Ways and Means Committee in June suggested repealing unidentified exemptions, deductions and credits, but does not mention munis directly.
Based in Washington, USCM is the nonpartisan organization of the roughly 1,400 U.S. cities with populations of 30,000 or higher.
A total of 41 mayors attended its fall meeting, including New York City Mayor Bill de Blasio, Baltimore Mayor Stephanie Rawlings-Blake, and New Orleans Mayor Mitch Landrieu, the USCM vice president.
The Bond Buyer
By Evan Fallor
October 4, 2016
Municipal bond issuance for September swelled 45% to $35.7 billion, the highest volume for the month in records going back to 1986, driven by an unexpected surge in new money deals.
The total par amount of the month’s 980 sales surpassed the previous September volume record set in 2010, when $35.6 billion of bonds were sold. Through three quarters, the market has produced $334 billion of issuance in 10,046 deals, according to data from Thomson Reuters, on pace to surpass the $400 billion mark. At this time last year volume totaled $319.4 billion in 10,359 deals.
The largest recorded issuance year was 2010, when the volume hit $433.27 billion.
“It certainly seems likely given that October should also be heavy, with more than $14 billion next week. We had [estimated] $400 billion with a possible upside surprise and it seems the surprise might actually be happening,” Mikhail Foux, director of research at Barclays Capital, said Friday.
Foux said new money deals have been the biggest surprise.
“Who would have thought that after such a slow first quarter, we are likely going to surpass last year’s number, which one of the largest ever years in terms of issuance,” he said. “A pickup in new money is the biggest story of 2016 and likely going forward. It seems that we are finally starting to address our infrastructure needs. There was a lot more issuance from the transportation sector and there is more than $200 billion of bond deals on ballots.”
For the third quarter alone, there were $109.7 billion of deals in 3,131 transactions, up from the $92.6 billion in 2,951 transactions during the third quarter of 2015.
“The sheer amount of issuance has been pretty impressive. I think the hope is that the amount of supply puts some pressure on the yields and creates a backup, which would be welcomed,” said Dawn Mangerson, managing director and senior portfolio manager at McDonnell Investment Management. “We said issuance wouldn’t wane, and we were right. We are looking good right now; we should see a decent calendar throughout the rest of the year.”
Though volume was up the past two months and third-quarter issuance increased year-over-year, volume for the three months was down from the second quarter.
“The volume hasn’t reached a point where it was too much for the market to absorb,” Mangerson said. “It has been surprising how much consistent high demand for munis we have seen all year long and also that we didn’t see any volatility this month.”
Mangerson said volume could slip toward the end of the year, when and if the Federal Open Market Committee decides to raise rates.
“The second quarter is typically the heaviest; we had a substantial slowdown in July – partially due to Brexit- but supply picked up in August and September,” Foux said, referring to the British vote to leave the European Union.
For the month, new money deals catapulted nearly 68% to $16.99 billion in 470 issues, from $22.21 billion in 799 issues during the same period last year.
Refundings, which have been strong for most of the year due to persistent low interest rates, were up 19% to $12.19 billion in 423 transactions from $10.23 billion in 353 transactions during September of last year.
Combined new-money and refunding issuance rose by 54.6% to $6.51 billion from $4.21 billion.
Negotiated deals were higher by 57.7 % to $27 billion, while competitive sales increased by 58.6% to $7.61 billion from $4.79 billion.
Issuance of revenue bonds increased 82.2% to $26.65 billion, while general obligation bond sales were down 9.1% to $9.05 billion.
Taxable bond volume increased 32.8% to $2.13 billion, while tax-exempt issuance increased by 45.2% to $32.25 billion.
Minimum tax bonds issuance gained to $1.32 million from $760 million.
Private placements sank to $1.09 billion from $2.66 billion.
Zero coupon bonds more than doubled to $360 million from $132 million.
Bond insurance increased 26% for the month, as the volume of deals wrapped with insurance rose to $1.84 billion in 140 deals from $1.46 billion in 117 deals.
Variable-rate short put bonds gained 7.7% to $1.06 billion from $986 million. Variable-rate long or no put bonds jumped to $734 million from $31 million.
“This is probably due to all the SIFMA related concerns, much higher SIFMA and libor rates are making issuing floating rate notes more costly,” said Foux.
Bank qualified bonds improved 6.4% to $1.59 billion from $1.49 billion.
Seven out of the 10 sectors saw year-over-year gains. Health care more than doubled to $5.69 billion from $1.67 billion, utilities also more than doubled to $3.32 billion from $1.36 billion, general purpose increased 34.6% to $8.44 billion from $6.27 billion, housing rose to $2.16 billion from $943 million, health care increased to $5.69 billion to $1.66 billion, environmental facilities climbed to $379 million from $76 million and electric power went up to $1.83 billion from $516 million.
On the other end of the spectrum, the education sector was barely down to $7.17 billion from $7.20 billion, development dropped 15.9% to $729 million and public facilities were down to $932 million from $1.04 billion.
As for the different types of entities that issue bonds, five were in the green: state governments, state agencies, counties and parishes, cities and towns and districts.
One other thing that Foux noted was that in general, issuers tried to bring deals before FOMC announcements, not just this month but in general.
“It seems that we see more pension obligation bonds, as issuers are trying to plug the pension funding gap.”
California is still the top state for issuance for the year to date, followed by Texas, New York, Pennsylvania and Florida. These numbers encompass all of the individual issuers within the state.
Golden State issuers this year have sold $47.53 billion, with the Lone Star State in second with $41.55 billion. The Empire State follows with $35.36 billion. The Keystone State is in fourth with $15.24 billion and The Sunshine State rounds out the top five with $15.08 billion.
“October could be solid as issuers could try to bring deals before the elections,” Foux said. “November and December should be lighter, though we have some uncertainty related to the December FOMC and issuers might try to pull deals from January to get in front of it.”
The Bond Buyer
By Aaron Weitzman
September 30, 2016
Investors piled into U.S. municipal bond funds for the 52nd straight week, a milestone for debt funds seen as an acceptable compromise between risk and reward as trillions of dollars’ worth of bonds now yield less than zero.
Muni funds took in $1.1 billion in the week through Sept. 28, the Washington-based trade group said on Wednesday. Earlier data showed muni funds took in $63 billion in the 11 months through August.
“They look pretty robust relative to the rest of the world,” said Chad Rach, a portfolio manager at Capital Group in Los Angeles, which manages American Funds. There are $10.9 trillion of negative-yielding government bonds, according to Fitch Ratings data as of Sept. 12.
Overall, ICI said U.S.-based bond funds took in $7.8 billion for the week, continuing a rotation from stocks to bond funds that has lasted the better part of the year.
Rach said that while muni bonds have some risk of issuers not repaying their debts, they lack the exposure to energy markets that have haunted high-yield bonds and other areas of the market. He expects flows to remain strong but said rising rates are a major risk for the bonds.
“It’s a risk that we’re very focused on,” he said.
U.S.-based world stock funds posted $3.7 billion in outflows, their worst week since fears about China’s economy stoked a global selloff in the week through Aug. 26, 2015. But that week’s $8.3 billion outflow was far higher.
Strong demand for domestic stock funds pushed overall stock fund flows positive for the week as they took in $4.2 billion, according to ICI.
Reuters
By Trevor Hunnicutt
Wed Oct 5, 2016 | 2:50pm EDT
‘Overlapping’ is often ignored, resulting in misleading assumptions about government liabilities.
Last year, I wrote about an emerging theory among investors known as the “new neutral.” The theory holds that for the next several years we’ll see an unprecedented combination of slow economic growth, low interest rates and paltry returns on investments. So far, the new neutral has been spot on.
To see this theory in action, look no further than state and local pensions. Investment returns have lagged, and as a result, so too have pension fund balances. Pension critics have renewed their calls for reform, saying that pensions are an existential threat to many local governments’ financial health. This is true, but it’s also incomplete.
Consider this example. At the end of fiscal year 2015, Dallas had an unfunded pension obligation of $1,371 per capita. Denver’s was barely half that at $709 per capita. From that number alone we might conclude that Denver is in much better financial shape.
But now let’s add a few crucial layers of complexity. First count up each city’s “overlapping” pension obligations. Overlapping means two or more jurisdictions share some portion of their respective property tax bases. We can think of a region’s property tax base like money in a shared savings account: When one jurisdiction takes money out, there’s less for everyone else.
Dallas shares parts of its property tax base with 20 other governments, including counties, schools, hospitals and community colleges. These other entities’ unfunded pension obligations add up to $1,362 per capita. Denver shares its tax base with just one other entity — the Denver School District — but that district’s pension obligation is a comparatively high $4,876 per capita. So Dallas’ total direct and overlapping pension obligation is $2,733 per capita; Denver’s is $5,585. Maybe Dallas is in better shape after all?
These per capita figures are basically the norm for large cities. While Chicago’s overlapping pensions alone were almost $20,000 per capita at the end of fiscal 2015, the median for the 25 largest cities (based on 2014 data) was about $3,550, according to Morningstar, a credit research company.
OK, so now that we’ve counted up all the overlapping pension obligations, let’s add in long-term debt that’s supported by a shared property tax base. Dallas has a modest $1,700 per capita of tax-supported debt. At the same time, most of its 20 neighbors can also borrow against that shared tax base. That brings its total direct and overlapping debt up to $5,520 per capita. Add in its pension liabilities and Dallas’ total obligations are $8,235 per capita. Denver has just over $1,500 per capita of its own property tax-backed debt, and its neighboring school district has around $1,200. Add that to its pensions, and Denver’s total obligations are $8,285 per capita.
Which city is in better financial shape? It depends. And that’s the point.
It’s important to think about how cities will cover their unfunded pension liabilities. But when we talk about how pensions affect financial health, the far more important question is how does a region decide to manage its tax base and the overlaps that inevitably exist?
Here Dallas and Denver are instructive. Both cities grew tremendously over the past few decades. Dallas has dealt with that growth mostly by allowing new special local districts to crop up and expand as necessary. Now it must find a way to coordinate tax policy decisions across all those governments. To do so, it will have to find a way to deal with one of the laws of local political physics: Voters live in districts, not regions.
By contrast, Denver is a comprehensive, consolidated city/county government. It can manage liabilities in a coordinated way. As a result, all of those liabilities appear on its balance sheet, and that can make investors and elected officials a bit queasy.
There are lots of regional coordination mechanisms, usually in specific policy or infrastructure areas like transit, airports and homeland security. States like California and Texas even have agencies within state government that track and occasionally coordinate when and how local governments issue debt. If we want to understand what pensions mean for our financial future, we have to account for how well those mechanisms work. To address pensions and other long-term liabilities, we need to strengthen those mechanisms.
GOVERNING.COM
BY JUSTIN MARLOWE | OCTOBER 2016
If the District of Columbia’s transit system was a public-private partnership, some say it wouldn’t be falling apart right now.
As I listened to S&P Global’s Anne Selting at a Governing event earlier this year describe how public-private partnerships work, I had a sort of epiphany. “If Metro in Washington, D.C., were a P3,” I asked her, “would it still be falling apart right now?” She replied that, while S&P’s role is not to opine on public policy, her answer would be a qualified no. Under a P3 structure, she explained, the concession grantor, typically a government, is contractually committed to a funding regime that provides for adequate maintenance.
Maintenance — the lack of it, that is — is at the heart of the crisis facing the Washington region’s transit system. In the past year it has had several serious maintenance-related smoke and fire incidents, including one that resulted in a passenger’s death. Train delays and equipment failures, such as escalators and elevators not working, are an everyday reality for riders. With the subway system facing an $18 billion capital deficit over the next 10 years, fixing these problems will be extraordinarily difficult.
Metro is not alone, of course. The maintenance backlog for the Boston region’s transit system, for example, is reported to be at least $7 billion. The Federal Transit Administration’s most recent estimate of the nationwide transit repair backlog is $85.9 billion.
The ramifications go far beyond transit, encompassing our entire nationwide infrastructure mess. As the Beeck Center at Georgetown University put it in a recent report, “There is a strong public-sector bias to invest in new capital projects rather than effectively maintaining and extending the life of public infrastructure assets meant to last 30-50 years.” In other words, these problems are not simply the result of some politicians or some governments behaving irresponsibly. They are built into the system.
This is the crux of one the most important arguments for P3s for major infrastructure. It forces policymakers to confront the true life-cycle cost of a project up front. The accepted rule of thumb for capital projects is that for every $1 of design costs, $10 will be spent for construction and $100 for maintenance over the life of the asset. But since most public discussion focuses only on the money for construction, the public is horribly misled about real long-term costs.
As I learned in my epiphany, the power of a P3 isn’t that it’s a source of money. The revenue that will support a project will always be public money, whether the capital is raised through private equity or through traditional municipal bond financing. The strongest argument for a P3 is that it forces a more honest appraisal of life-cycle costs, better aligning the incentives of the public and private partners. When we get that right, we are less likely to have Twitter feeds like @dcmetrosucks, which as of a few weeks ago had clocked more than 23,000 tweets.
GOVERNING.COM
BY MARK FUNKHOUSER | OCTOBER 2016
Whether it’s prisons in Idaho or pensions in Michigan, several states are moving their outsourced services back in-house.
Privatization is one of the hottest topics in state and local government. Google the word and you come up with around 12 million entries. But for all the articles and academic reports on the best approaches to outsourcing government services, there’s also a surprising amount of activity around insourcing.
These days, roughly the same percentage of services that are newly being contracted out are being brought back into the government fold, according to Mildred Warner, a professor of city and regional planning at Cornell University. Her examination of data accumulated by the International City/County Management Association (ICMA) for the period from 2007 to 2012 showed that new outsourcing accounted for 11.1 percent of all services and new insourcing accounted for 10.4 percent of all services.
Minneapolis, for example, has been involved in moving its IT technical support — specifically help desks and desktop support — in-house, and away from private-sector firms. Why? A misalliance of goals was part of the problem. The vendors wanted “to get a call off their docket as quickly as possible. So a lot of shortcuts were taken,” says Otto Doll, chief information officer for Minneapolis. “There was a lot of patching of things, rather than looking at systemic issues.”
Not only has quality improved with the shift, there have been significant dollar savings. Of Minneapolis’ IT outsourcing contracts, the single most profitable portion for the contractor had emanated from help desks and desktop support. With those functions now in-house, Doll estimates that the city will realize nearly $3 million annually.
Of course, the potential benefits of outsourcing are pretty widely known. A fundamental one is the notion that the private sector can deliver services more effectively and efficiently than can government. But insourcing has some advantages too.
According to Warner’s analysis of ICMA data, the two main reasons governments reverse their privatized services are inferior service quality and a lack of anticipated cost savings. Additionally, improvements in the capacity of local governments to work with greater efficiency can make them the more appealing alternative.
In 2014, for instance, Idaho reversed a prison privatization decision when it became frustrated over less-than-acceptable service delivery. Back in the late 1990s, the state built the Idaho Correctional Center, a 2,000-bed mixed security facility just south of Boise, and then outsourced the operations. “The attitude was that the private sector could do it more efficiently,” says Josh Tewalt, the Idaho Department of Correction’s budget and policy administrator.
But by 2013, inmate violence, much of it driven by a failure by the private corporation to provide adequate staffing to deal directly with inmate gang activity and other inmate practices, had resulted in a series of high-profile lawsuits and media attention. The prison became known as the “Gladiator School” for the fighting that took place inside.
When state leaders decided in 2014 to insource prison management, several positive benefits emerged. In recent years it had been difficult for the state to shift inmates from that facility to others. “When the 2,000-bed facility was privatized,” says Tewalt, “it couldn’t say, ‘This guy is a bad actor, let’s get him out of this facility and try another one.’ [It] had to manage him in that environment.” Now that it’s one system, the state has the flexibility to move inmates from one facility to another in order to best match an inmate’s needs with his surroundings.
Tewalt stresses that he’s not indicting privatized prison services as a rule. The corrections department has a number of other contracts with private contractors for such services as health, food, food service and similar functions.
One significant function of state governments that has seen a significant turn to insourcing is in the investment of funds in pension plans. The majority are still managed externally, but as Keith Brainard, research director of the National Association of State Retirement Administrators, explains, “larger funds are more likely to manage internally since they can generate the economies of scale that makes the cost of money management relatively small.”
The key equation here is that states and localities typically have to pay investment fees between .25 and 1.5 percent to external managers. At a time when many money managers have not been outperforming the market as a whole, there’s less appetite for spending on a service with minimal additional return.
The Municipal Employees’ Retirement System of Michigan, for example, has made the switch and is saving $3.2 million a year on fees, according to Jeb Burns, chief investment officer there. In 2000, only 1.5 percent of funds were managed internally. Today it’s 24 percent and growing.
Not all services lend themselves to a smooth transition from outsourcing to insourcing. With prisons, for instance, a corrections department may have outsourced a prison or two, but the state is still in the business of running and managing correctional facilities. With other functions, however, the major obstacle to insourcing is that the government no longer has the personnel or physical infrastructure to provide the service again. “If you sold your assets and fired your workers, you’ve lost most of your internal capacity,” says ICMA’s Warner. Insourcing may be nearly impossible without restarting an entire line of business.
GOVERNING.COM
BY KATHERINE BARRETT & RICHARD GREENE | OCTOBER 2016
Fitch Ratings-New York-03 October 2016: Growth for the remainder of 2016 will remain healthy for all three U.S. major transportation sectors (airports, ports and toll roads) albeit at a slightly lower rate than the first half of the year, according to Fitch Ratings in a new report.
Fitch expects passenger traffic growth to increase around 3% for the second half of 2016 (2H16), with the bulk of air passenger growth coming from international hub airports. All but one major U.S. carrier has seen positive traffic growth through the first part of 2016, though a wide range of performance continued. JetBlue (12.1%) and Southwest Airlines (7.8%) led the way with strong increases in revenue passenger miles while increases among American Airlines (1.9%) and United Airlines (-0.1%) were more marginal.
Ports nationwide will continue to benefit from a stronger dollar driving imports, with 20-foot equivalent units (TEUs) growing at a level above GDP for the 1H16. A primary focus for ports remains “big ship readiness”. That said, shippers, logistics providers and ports will be keeping close watch over the expanded Panama Canal, which opened for commercial traffic this year. While large-scale shifts in cargo are not expected, some adjustments are possible.
As for toll roads, low fuel prices have boosted growth in traffic (6.3%) and revenue (7.0%) for the 1H16. The Southeast and Southwest U.S. have and will continue to lead in traffic performance. The higher rate of growth in revenues is reflective of typical inflationary toll rate increases, which Fitch expects to average roughly 2% over time.
A degree of uncertainty always remains for the long-term direction of the broader economy.
The Transportation Trends report includes an expanded data set in its appendices, including six-month year-to-date 2016 volume and revenues, six-month percentage change year-over-year for volume and revenue, 2015 full year volume and revenues, 2010-2015 five-year compounded annual growth rates, and recessionary peak-to-trough data. ‘U.S. Transportation Trends’ is available at ‘www.fitchratings.com’.
Contact:
Seth Lehman (Airports)
Senior Director
+1-212-908-0755
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
Emma Griffith (Ports)
Director
+1-212-908-9124
Tanya Langman (Toll Roads)
Director
+1-212-908-0716
Media Relations: Sandro Scenga, New York, Tel: +1 212-908-0278, Email: sandro.scenga@fitchratings.com.
Additional information is available at www.fitchratings.com.
WASHINGTON – Democrats in the Senate and House have introduced separate bills to raise limits for both tax-exempt small issue manufacturing bonds and highway or surface freight facility bonds.
The Modernizing American Manufacturing Bonds Act (S. 3416), introduced by Sen. Sherrod Brown, DConn. on Sept. 28, would increase the maximum size of an issue of tax-exempt small issue manufacturing bonds to $30 million from $10 million.
The $10 million limit for these private activity bonds hasn’t been increased since 1979 and has never been indexed to inflation, according to the Council of Development Finance Agencies, a supporter of the measure.
The bill, which is identical to House bill H.R. 2890 that was introduced in the House on June 25, 2015 by Rep. Randy Hultgren, RIll., would also expand the types of projects that could be financed by these bonds.
It would broaden the definition of manufacturing facility so that small issues of industrial development bonds could be used to finance facilities that produce intangible property, such as software, in addition to tangible property.
The bill also would allow IDBs to be used to finance facilities that are functionally related and subordinate to the production of tangible or intangible property, such as warehouses that temporarily store materials and laboratories that test raw materials.
Facilities could also be financed with IDBs if the directly related and ancillary to a manufacturing plant as long as they were on the same site as the plant and not more than 25% of the bond proceeds were used for them.
Meanwhile, Rep. Eddie Bernice Johnson, DTexas, introduced H.R. 6085 on Sept. 20 to raise to $20.8 billion from $15 billion the national limit for tax-exempt highway or surface freight transfer facility bonds.
The $15 billion national limit was set by the Safe, Accountable, Flexible, Efficient Transportation Equity Act: A Legacy for Users, popularly known as SAFETEALU, which was signed into law in 2009.
The Bond Buyer
By Lynn Hume
October 6, 2016
The U.S. municipal bond market will be hit with a huge burst of issuance next week when states, cities, schools and other issuers will sell $15.9 billion of bonds and notes, according to Thomson Reuters estimates on Friday.
Bonds make up the lion’s share of the upcoming issuance at $15.4 billion, which would mark the biggest weekly bond supply since June 2008.
Some issuers are scurrying to refund outstanding bonds and lock in currently lower rates before the Federal Reserve acts.
“Refunding will be a major theme in the final quarter, with issuers pushing to lock in low rates ahead of a likely Fed rate hike in December,” Janney Managing Director Alan Schankel wrote in a report on Friday.
Underwriters on Tuesday will be bidding on a slew of California general obligation bonds — nearly $1.4 billion of tax-exempt refunding bonds and $255 million of taxable bonds.
Georgia will offer $881 million of GO refunding bonds for competitive bidding on Wednesday.
The Philadelphia School District will refund $561 million of lease revenue bonds through Pennsylvania’s State Public School Building Authority in a deal pricing on Wednesday.
The district also plans to sell $817 million of mostly GO refunding bonds on Wednesday. Another large refunding will come from New York’s Metropolitan Transportation Authority, which has a $627 million issue pricing on Tuesday through Jefferies.
Amid the supply surge, net flows into U.S. municipal bond funds were just $147.3 million in the week ended Oct. 12, according to Lipper, a unit of Thomson Reuters. While fund flows have been unrelentingly positive for more than a year, the latest week had the lowest inflows since the week ended Nov. 4, 2015.
High-yield muni funds reported a second-straight week of net outflows, which totaled $247.5 million.
Reuters
Fri Oct 14, 2016 | 12:53pm EDT
(Reporting By Karen Pierog)
Public policy and the water industry work like a two-way street. Yes, the former helps improve quality, funding, and infrastructure. But often distressed conditions in the industry are needed to affect policy change, which was proven at a “Financing In The U.S. Water Industry” conference panel on Sept. 8, 2016, in New York.
Tetsuo Ishihara, a strategist for Mizuho Securities in New York, started fielding phone calls a couple months ago from Japanese clients interested in U.S. municipal bonds, which usually have little allure overseas because federal tax breaks depress the yields.
But with negative interest rates on Japanese bonds due in as many as 10 years and near record-low payouts on Treasuries, he discovered that state and local debt demanded attention. Even highly rated municipals are delivering bigger returns than U.S. government bonds, without the risk that comes with corporate securities.
“The risk return looks pretty good,” said Ishihara, U.S. macro strategist for the Tokyo-based brokerage, who sent clients a report in September showing how municipals stacked up favorably against other fixed-income investments. “The default rate for munis is much lower than for corporates. All that fits with what they need.”
Increasingly, investors outside the U.S. are contributing to the cash that’s flowed for a year into the $3.8 trillion municipal market, which caters largely to Americans willing to accept low yields because the income is exempt from U.S. taxes. By the end of June, foreign buyers had increased their holdings of the securities to $89.7 billion, about triple what they held a decade earlier, even though they don’t get any of the tax benefits.
Investment firms have courted the business. Shinsei Bank Ltd. and Western Asset Management, a unit of Baltimore-based Legg Mason Inc., last year started a private fund that invests in municipals for Japanese financial institutions. In March, Eaton Vance Management’s co-director of U.S. tax-exempt bonds was among those who spoke at an investment forum the firm co-sponsored in Tokyo.
Columbia Threadneedle Investments got its first account from Japan about a year ago and within six months anticipates that it will have at least $200 million from insurers, diversified financial companies and other clients in Asia, said James Dearborn, head of tax-exempt securities at the Boston-based firm. The funds are primarily invested in taxable municipals, which carry higher yields.
“They’ve come to like the idea that munis represent a relatively stable asset class and that the default incidence is very, very low for a long period of time,” said Dearborn, whose firm manages $24 billion in state and local debt. “They’re creating demand we didn’t have before, and that’s a good thing.”
U.S. municipal bond funds have pulled in money for 52 weeks straight, the longest stretch since 2010, according to Lipper US Fund Flows. Such demand pushed municipal yields to the lowest on record by early July, before they edged back up amid speculation that the Federal Reserve will resume raising interest rates as soon as December.
Even with the influx of funds, 10-year municipal revenue bonds with an AA rating yielded about 1.94 percent by the end of trading Wednesday, or 0.23 percentage point more than Treasuries, according to data compiled by Bloomberg.
Dearborn and Ishihara expect the interest to remain strong, regardless, as investors look for havens from equity-market swings and central banks around the world hold yields near zero. After Ishihara published his report, Japanese clients peppered him with questions, showing they had already been looking closely at the market.
Considering the environment of low rates and inflation, “the credit cycle could last maybe more than two years,” he said. “It could continue for a while.”
Bloomberg Business
by Romy Varghese
October 5, 2016 — 9:01 PM PDT Updated on October 6, 2016 — 6:17 AM PDT
Taylor Riggs, a contributor to Bloomberg Briefs, talks with reporter Amanda Albright about this week’s municipal market news.
Bloomberg Briefs
October 6, 2016
While the $3.8 trillion municipal-bond market may have just posted its first negative quarterly returns since last summer, BlackRock Inc. says a buying opportunity is presenting itself.
Tax-exempt bonds lost 0.38 percent in September, the first quarterly drop since the three months ended in June 2015, and trailed Treasury bonds after another month of record-setting issuance and slowing demand.
$35.7 billion of municipal bonds were issued in September, 35 percent above the five-year average and up 51 percent from September 2015, according to BlackRock, which oversees $124 billion of municipal bonds.
Strong issuance in August and September has continued into October, said Sean Carney, director of municipal strategy in New York at BlackRock and one of the authors of a report released Monday. With uncertain political and economic events on the horizon, the issuers are “pulling deals forward.”
“Issuers are going to bring deals today rather than in uncertain times,” said Carney. “The amount of uncertainty the U.S. presidential race and the Fed rate hike are bringing to the market is causing increased issuance.”
Though recent weeks have seen weaker flows, demand for municipal bonds has remained “largely positive.” September saw nearly $4 billion enter municipal funds, bringing year-to-date inflows to $51 billion.
“This pocket of supply-induced weakness has not been followed by a pocket of demand weakness,” said Carney.
Bloomberg Markets
by Katherine Greifeld
October 10, 2016 — 1:14 PM PDT
Taylor Riggs, a contributor to Bloomberg Briefs, talks with reporter Amanda Albright about this week’s municipal market news.
Watch the video.
Bloomberg Briefs
October 13, 2016
NEW YORK — In July, investors gobbled up $1 billion of bonds from a financially-strapped Catholic hospital system in Illinois called Presence Health Network, even though it offered few contractual guarantees debt buyers typically require.
The deal, rated just above junk status, is emblematic of a fever that has swept the $3.7 trillion U.S. municipal bond market: yield-chasing investors not only piling into riskier debt, but also increasingly willing to accept less protection in the event of a default.
Some portfolio managers say it has been a decade since they have seen such a strong seller’s market.
“It’s reminiscent of right before the Great Recession, where there was a long period where high-yield rates were low and demand was high,” said William Black, senior portfolio manager for the City National Rochdale Municipal High Income Fund.
Low and negative sovereign interest rates have contributed to a scramble for relatively higher yielding U.S. municipal debt. Foreign buyers now hold more muni bonds than ever, U.S. Federal Reserve data show.
Overall, investors have poured nearly $10 billion into high-yield municipal bond funds so far this year, according to data from Lipper, a Thomson Reuters unit. That is more than any other full year in nearly the last quarter century except 2006, which had $10.1 billion of inflows. (Graphic: http://tmsnrt.rs/2dylqFl)
Taking advantage of the seemingly insatiable demand, some borrowers are offering weaker or fewer guarantees, so-called covenants, such as debt reserve funds and debt service coverage ratios.
Because they are based on many factors, credit ratings alone may not reflect the quality of covenants, so some investors may be taking on greater risks than they realize.
Such “covenant light” bonds were harder to offload after the market tumbled in late 2008, while investors who held them saw valuations swing wildly because of infrequent trading and huge price gaps, analysts said.
“Some funds got just clubbed. That was frankly very traumatic for a lot of investors, and fund managers too,” said Joseph Krist, partner at the Brooklyn-based public finance consulting firm Court Street Group.
In a default, workouts are harder. Covenant light bondholders have fewer tools to intervene, for example by requiring issuers to hire turnaround professionals or take other corrective action earlier. They also risk deeper losses in bankruptcy than those with greater protection.
HEALTHCARE AND CHARTER SCHOOLS
Sectors such as healthcare, charter schools, and senior living facilities tend to be more prevalent covenant light issuers, in part because they may struggle more to generate consistent operating margins.
Hospitals and charter schools issued 44 percent and 76 percent more debt by par amount so far this year, respectively, compared with 2015, Thomson Reuters data show. Senior living facility issuance rose 6 percent.
They come in other sectors too. The city of San Antonio, Texas, sold AA-rated junior lien water system bonds on Thursday without a reserve fund – a fact disclosed in the title of the bond documents.
But many covenant light deals are unrated or speculative grade. Issuers have sold more than 400 percent more bonds rated junk at BB and BB- by S&P Global Ratings so far this year than last year, Thomson Reuters data show.
One such example is Summit Academy North, a junk-rated Michigan charter school that missed deadlines for annual financial data in four of the last five fiscal years, according to bond disclosures.
Summit sold $22.5 million of refunding bonds on Aug. 31 with a cash on hand liquidity threshold of just 30 days, a very low level for the sector.
Even so, the top yield was just 4.75 percent on 2035 bonds – a rate that an investment-grade borrower would have likely offered only a couple of years ago.
“I cannot believe some of the deals that are getting done in the muni market right now – without a mortgage, low debt service reserve fund,” Mark Paris, head of municipal portfolio management at fund manager Invesco, said at a recent event.
Some funds say they have little choice but accept fewer safeguards in order to put clients’ cash to work.
“Money is coming in to the point where people have to buy something,” said one market professional who declined to be named.
Institutional investors have pushed back by demanding greater liquidity covenants, said Mark Taylor, a portfolio manager and head of high-yield research at Alpine Woods Capital Investors.
By September, he had a stack of rejected deals in his office that was four-feet tall, Taylor said. Nonetheless, the deals he has turned down are getting picked up by others.
“There is a plethora of deals coming to market that people probably would have rejected nine months ago.”
By REUTERS
OCT. 11, 2016, 1:03 A.M. E.D.T.
(Reporting by Hilary Russ; Editing by Daniel Bases and Tomasz Janowski)
NEW YORK — The great bull run for the municipal-bond market may be running out of juice.
For the past year, bonds issued by state and local governments have been red-hot investments. Muni-bond mutual funds have had 53 straight weeks of inflows, according to the Investment Company Institute. That’s one of the longest streaks on record, and they attracted cash at the same time that investors were leaving stock mutual funds. Even Puerto Rico’s default on its debt and Britain’s vote to exit the European Union, which roiled bond markets worldwide earlier this year, didn’t interrupt the muni market’s trajectory.
“Munis have been the darling asset class of the past two or three years,” says Chris Alwine, head of the municipal group at Vanguard.
Now there are signs that this long bull run may be coming to an end. After 10 straight months of positive monthly returns, the iShares National Muni Bond exchange-traded fund, the largest muni ETF by assets, posted a very narrow loss in July. While returns were positive in August, the fund lost about 0.6 percent in September and is on track for another loss in October.
Munis have always appealed to U.S. investors, who are attracted to their reputation for safety and the fact that their income is free of federal income taxes. It’s an incentive offered to get investors to lend to local government so they can build schools, highways and sewer systems. In some cases, income from muni bonds is also free from state or local income taxes.
Over the past 12 months, the iShares ETF has returned 4.3 percent. That beats the returns for the largest bond mutual fund, Vanguard’s Total Bond Market Index fund, which returned a nearly identical amount, after taking into account the tax savings.
In the past couple of years, low interest rates around the world and a volatile stock market have also driven investors from outside the United States into the municipal-bond market, even though non-U.S. residents don’t get the tax advantages.
Given how high prices for muni bonds have moved, some fund managers say that a pullback is inevitable. The 10-year yield on the AP Municipal Bond index, which moves inversely to bond prices, hit a low of 1.69 percent in July and has been climbing ever since. It ended last week at 1.878 percent. Even the relatively small increase in yields has put downward pressure on prices of municipal bonds, says James Kochan, chief fixed-income strategist at Wells Fargo Funds Management.
If many of the recent muni buyers have been coming with the intent of avoiding turmoil elsewhere in the bond world, a few months of negative returns for munis could spark a sell-off.
It wouldn’t be the first time that investors in munis, a historically sleepy market, have been spooked in recent years. The most recent case was in the 2013 “taper tantrum,” when investors became anxious about the possibility of an upcoming interest-rate increase. When investors dumped muni bonds during that episode, prices quickly dropped. The iShares ETF lost 8 percent in just four months.
“I think some investors are taking more risk than they are aware of,” says Chris Ryon, portfolio manager at Thornburg, who co-manages one of the largest muni bond funds.
Given the uncertainty, investors who hold munis should be looking to pare back on risk, says Ryon, who suggests sticking with higher-quality muni offerings, especially because lower-rated muni bonds aren’t offering that much more income than higher-quality muni bonds. In the parlance of bond investors, the “spread” is not that wide.
With that said, there’s no need to ditch high-yield munis entirely, says Peter Hayes, head of the municipal bonds group at BlackRock. “For the rest of the year, we think returns will be largely generated by income,” he says. “That means you need to own some amount of high-yield.”
Investors should also shorten the duration, or maturity, of their holdings, says Wells Fargo’s Kochan, because prices of longer-term bonds tend to fall more when interest rates rise.
Hayes says he favors 15-year maturities, which he calls the “sweet spot.” The good news for investors: With global interest rates still extremely low and the credit quality of munis generally stable, most experts view the recent dip as a pullback, not the start of a bear market.
Says Hayes: “The past month has created a little bit of better buying opportunity.”
By THE ASSOCIATED PRESS
OCT. 13, 2016, 12:39 P.M. E.D.T.
Municipal bond issuance for September swelled 45% to $35.7 billion, the highest volume for the month in records going back to 1986, driven by an unexpected surge in new money deals.
The total par amount of the month’s 980 sales surpassed the previous September volume record set in 2010, when $35.6 billion of bonds were sold. Through three quarters, the market has produced $334 billion of issuance in 10,046 deals, according to data from Thomson Reuters, on pace to surpass the $400 billion mark. At this time last year volume totaled $319.4 billion in 10,359 deals.
The largest recorded issuance year was 2010, when the volume hit $433.27 billion.
“It certainly seems likely given that October should also be heavy, with more than $14 billion next week. We had [estimated] $400 billion with a possible upside surprise and it seems the surprise might actually be happening,” Mikhail Foux, director of research at Barclays Capital, said Friday.
Foux said new money deals have been the biggest surprise.
“Who would have thought that after such a slow first quarter, we are likely going to surpass last year’s number, which one of the largest ever years in terms of issuance,” he said. “A pickup in new money is the biggest story of 2016 and likely going forward. It seems that we are finally starting to address our infrastructure needs. There was a lot more issuance from the transportation sector and there is more than $200 billion of bond deals on ballots.”
For the third quarter alone, there were $109.7 billion of deals in 3,131 transactions, up from the $92.6 billion in 2,951 transactions during the third quarter of 2015.
“The sheer amount of issuance has been pretty impressive. I think the hope is that the amount of supply puts some pressure on the yields and creates a backup, which would be welcomed,” said Dawn Mangerson, managing director and senior portfolio manager at McDonnell Investment Management. “We said issuance wouldn’t wane, and we were right. We are looking good right now; we should see a decent calendar throughout the rest of the year.”
Though volume was up the past two months and third-quarter issuance increased year-over-year, volume for the three months was down from the second quarter.
“The volume hasn’t reached a point where it was too much for the market to absorb,” Mangerson said. “It has been surprising how much consistent high demand for munis we have seen all year long and also that we didn’t see any volatility this month.”
Mangerson said volume could slip toward the end of the year, when and if the Federal Open Market Committee decides to raise rates.
“The second quarter is typically the heaviest; we had a substantial slowdown in July – partially due to Brexit- but supply picked up in August and September,” Foux said, referring to the British vote to leave the European Union.
For the month, new money deals catapulted nearly 68% to $16.99 billion in 470 issues, from $22.21 billion in 799 issues during the same period last year.
Refundings, which have been strong for most of the year due to persistent low interest rates, were up 19% to $12.19 billion in 423 transactions from $10.23 billion in 353 transactions during September of last year.
Combined new-money and refunding issuance rose by 54.6% to $6.51 billion from $4.21 billion.
Negotiated deals were higher by 57.7 % to $27 billion, while competitive sales increased by 58.6% to $7.61 billion from $4.79 billion.
Issuance of revenue bonds increased 82.2% to $26.65 billion, while general obligation bond sales were down 9.1% to $9.05 billion.
Taxable bond volume increased 32.8% to $2.13 billion, while tax-exempt issuance increased by 45.2% to $32.25 billion.
Minimum tax bonds issuance gained to $1.32 million from $760 million.
Private placements sank to $1.09 billion from $2.66 billion.
Zero coupon bonds more than doubled to $360 million from $132 million.
Bond insurance increased 26% for the month, as the volume of deals wrapped with insurance rose to $1.84 billion in 140 deals from $1.46 billion in 117 deals.
Variable-rate short put bonds gained 7.7% to $1.06 billion from $986 million. Variable-rate long or no put bonds jumped to $734 million from $31 million.
“This is probably due to all the SIFMA related concerns, much higher SIFMA and libor rates are making issuing floating rate notes more costly,” said Foux.
Bank qualified bonds improved 6.4% to $1.59 billion from $1.49 billion.
Seven out of the 10 sectors saw year-over-year gains. Health care more than doubled to $5.69 billion from $1.67 billion, utilities also more than doubled to $3.32 billion from $1.36 billion, general purpose increased 34.6% to $8.44 billion from $6.27 billion, housing rose to $2.16 billion from $943 million, health care increased to $5.69 billion to $1.66 billion, environmental facilities climbed to $379 million from $76 million and electric power went up to $1.83 billion from $516 million.
On the other end of the spectrum, the education sector was barely down to $7.17 billion from $7.20 billion, development dropped 15.9% to $729 million and public facilities were down to $932 million from $1.04 billion.
As for the different types of entities that issue bonds, five were in the green: state governments, state agencies, counties and parishes, cities and towns and districts.
One other thing that Foux noted was that in general, issuers tried to bring deals before FOMC announcements, not just this month but in general.
“It seems that we see more pension obligation bonds, as issuers are trying to plug the pension funding gap.”
California is still the top state for issuance for the year to date, followed by Texas, New York, Pennsylvania and Florida. These numbers encompass all of the individual issuers within the state.
Golden State issuers this year have sold $47.53 billion, with the Lone Star State in second with $41.55 billion. The Empire State follows with $35.36 billion. The Keystone State is in fourth with $15.24 billion and The Sunshine State rounds out the top five with $15.08 billion.
“October could be solid as issuers could try to bring deals before the elections,” Foux said. “November and December should be lighter, though we have some uncertainty related to the December FOMC and issuers might try to pull deals from January to get in front of it.”
The Bond Buyer
By Aaron Weitzman
September 30, 2016
Regardless of which candidate takes the oath of office next January, improving our country’s infrastructure will be on the next President’s agenda.
An Association of Equipment Manufacturers poll shows that over 70% of Americans want government to address our growing infrastructure crisis.
Turning that into reality will require a clear understanding that the need for additional investment is real.
Members of Congress, governors and mayors from across the country have advanced bipartisan solutions to broadly address this critical need. So too has the financial services sector that works with federal, state and local governments to raise capital crucial to infrastructure investment.
Nevertheless, the level of investment by government and the private sector falls short of meeting the nation’s current and future infrastructure needs, and the central question remains how to pay for it.
We need to do more with existing resources while not losing sight of the crucial need for more investment to pay for infrastructure needs. While others attempt to address the political challenge of identifying more sources of infrastructure funding, we can work toward implementing a few tangible policy ideas.
Two ways for state and local governments to achieve more with existing resources is by encouraging broader use of a construction procurement method called design-build and treating infrastructure as assets.
The traditional approach to project procurement is known as “design-bid-build,” a multi-step process that separates the design and construction functions. Design-build simplifies the process by making a single entity responsible for both and collapses the procurement into one step, saving time and delivering a better, more cost effective result.
In New York, the NYU Rudin Center for Transportation and Citizens Budget Commission completed studies projecting design-build savings of up to 20% compared with traditional methods. However, design-build is still not broadly available for public infrastructure projects in all 50 states.
State and local government should also treat infrastructure as assets through better tracking and disclosure of on-going costs. The benefits are two-fold: a healthier understanding of the true ongoing costs and greater transparency will lead to more private sector involvement.
Identifying non-essential assets that can be auctioned to the private sector and put to productive use can create new revenue for government without affecting its core mission, a win-win scenario.
Three quarters of annual infrastructure spending in the U.S. is funded through the $3.7 trillion municipal bond market, where private investors purchase tax-exempt bonds issued by state and local governments.
The key advantage of municipal bonds is that interest on them is exempt from federal and state income taxes. This means investors will accept a lower interest rate, providing state and local governments with the benefit of borrowing money at the lowest interest rate available to anyone financing infrastructure, including the U.S. Treasury. This also allows state and local governments to raise capital up front to fund long use projects like airports, roads and bridges and amortize the cost over the life of the project.
The next administration should avoid calls to curb the use of tax-exempt bonds and rather seek to create a more certain tax and regulatory environment expanding the use and easing the availability of lower cost municipal debt for public-private partnership (P3) projects that involve a government entity.
Our economic competitors are using P3s as a way to capture private sector efficiencies while providing public infrastructure and retaining government ownership.
Making tax-exempt financing available for P3 projects would allow the two models to converge, leaving state and local governments with the best of both – access to the lowest cost financing available and private sector efficiencies.
The Move America Act, bipartisan legislation sponsored by Senators Ron Wyden (D-OR) and John Hoeven (R-ND), would authorize Move America Bonds, a new category of tax-exempt bonds that would be exempt from most private use restrictions, as long as the facilities are available for public use.
Providing tax incentives for investment in targeted sectors has been an effective in low income housing development and more recently renewable energy production. The Move America Act would provide for a limited, targeted tax credit applicable to equity investments in infrastructure, and Congress should consider such an idea.
The next president and Congress should embrace these ideas and spur a new chapter of infrastructure revitalization that will strengthen our economic future.
The Bond Buyer
By Kenneth E. Bentsen, Jr., and Chris Hamel
September 26, 2016
Kenneth E. Bentsen Jr. is president and CEO of the Securities Industry and Financial Markets Association. Chris Hamel is head of Municipal Finance at RBC Capital Markets and chair of SIFMA’s Infrastructure Policy Committee.
WASHINGTON – Infrastructure projects in the U.S. are plagued by long pre-construction periods, an under-utilization of the public-private partnership financing model, and an inability to both gain public support and access capital, a panel of market participants said this week.
The four-member panel at the Securities Industry and Financial Markets Association’s annual conference here on Tuesday, entitled “Financing Infrastructure for the 21st Century,” discussed ways in which P3s could be used in order to improve roads, bridges and other struggling areas in a more effective manner.
Chris Hamel, the moderator of the panel and the managing director and head of the municipal finance group for RBC Capital Markets, said the panel’s goal was to foster a discussion on solutions rather than the underlying problems. He stressed the advantageous features of the $3.7 trillion muni market that allows for borrowing at a cost lower than Treasury rates.
The panel estimated that the U.S. is in need of $3.6 trillion of infrastructure investments by 2020, and cited a recent study that found 70% of Americans want governments at all levels to do more about infrastructure.
“We need to capture what is unique about our tax exemption and our highly decentralized government structure and combine it with the effectiveness of the private sector,” Hamel said.
“It is going to come from a collaboration of people with multiple levels of expertise.”
Several of the panel members, including Geoffrey Chatas, senior vice president and chief financial officer for Ohio State University, gave examples of how private help has been used effectively to expedite projects and help in their management after construction.
Chatas cited how his school’s airport, seven hospitals, set of energy assets and parking garages have been made possible by using the expertise of private entities. Ohio State is not shying from issuing debt, he said, adding that the school has had $3.5 billion in issuances over the last 20 years, while higher education costs have quadrupled.
The $483 million upfront payment for a 50-year lease for a campus parking lot in 2012 has allowed for an endowment distribution of $105 million over the past four-and-a-half years, he said. Those funds have been allocated toward an arts district, a campus bus system, student scholarships and faculty hirings.
Chatas said there have been “outstanding” financial results, although he did admit growing pains in managing some of the parking facilities during the culture change.
“We’re trying to think very differently,” Chatas said. “Let’s bring in partners, let them raise the capital and then manage the properties. Let us focus on teaching and learning.”
Tyler Duvall, a partner at McKinsey & Company in Washington, said that the pre-construction process for national infrastructure projects is “a major problem,” one that can often take between 40-60 months. This is often due to complex disclosure mechanisms around the environmental review process, leading to more discussions than decisions, he said.
There is no federal government entity that currently exists to accelerate both this process as well as a more effective revenue stream once construction begins. He suggested the federal government create one to have someone accountable for the end-to-end process and put the U.S. more on a par with Canada and Australia in terms of their infrastructure success.
The federal government has also been plagued by a lack of a problem statement in the highway area, he added.
“The capital is there and it’s cheaper than ever,” Duvall said. “That’s not the issue. Connecting the capital with projects is the issue.”
Suzanne Shank, chairwoman and CEO of Siebert Cisneros Shank & Co., a municipal investment bank based in New York City and Oakland, Calif., agreed Tuesday that the U.S. has some catching up to do with other countries.
“We’re not making headway and the gap is growing,” she said.
Duvall said the U.S. has “phenomenal” lending programs that need to be tweaked to create better revenue streams, a task he said can be done administratively without legislation.
“It’s all about prioritization,” he said.
Another successful P3 cited by the panel was the $4 billion renovation of LaGuardia Airport in New York, which began in June. Francis Sacr, managing director of infrastructure and transportation project finance for Societe Generale, the corporate and investment bank that served as the financial advisor to LaGuardia Gateway Partners, said it proved complicated because of the multiple financers involved.
Sacr said the project to renovate the dilapidated airport used $1 billion of passenger facility charge revenues from the Port Authority of New York and New Jersey as well as $2.5 billion from special facilities bonds and up to $500 million in taxable delayed-draw private placement bonds.
As the largest airport financing deal ever done in the U.S., the P3 structure proved especially beneficial because of the cost overruns, he said.
“Finding multiple sources of capital was the most important part of the solution,” Sacr said.
On a macro level, Sacr said an underinvestment in U.S. infrastructure comes partially as a result of what he feels is shortsightedness.
“Infrastructure is a long-term investment, while politics is a short-term focus,” Sacr said. “It really does require a long-term vision from the governments involved.”
The Bond Buyer
By Evan Fallor
September 28, 2016
PHOENIX – The DC Water and Sewer Authority closed on a historic deal Thursday, issuing the nation’s first Environmental Impact Bond (EIB) to fund the initial green infrastructure project in its DC Clean Rivers Project.
The $25 million, tax-exempt EIB was sold in a private placement to the Goldman Sachs Urban Investment Group and Calvert Foundation, netting DC Water a 3.43% interest rate that is comparable on a cost of funds basis to its historic cost.
The proceeds of the bond will be used to construct green infrastructure to absorb and slow surges of stormwater during periods of heavy rainfall, preventing an overflow of untreated sewage (known as a combined sewer overflow, or CSO) into the Potomac and Anacostia Rivers or their tributaries. The green infrastructure includes absorbent materials and gardens that mimic natural rain absorption processes.
The EIB allows DC Water to attract investment in green infrastructure through an innovative financing technique whereby the costs of installing the green infrastructure are paid for by DC Water, while the performance risk of the green infrastructure in managing stormwater runoff is shared among DC Water and the investors. As a result, payments on the EIB may vary based on the proven success of the environmental intervention as measured by a scientific evaluation of the results.
The structure of the deal includes three “tiers” of performance depending on how well the green infrastructure controls the runoff.
The investors will receive interest payments as typical for bondholders. Depending on the results, an additional payment may be due on the bonds’ mandatory tender date of April 1 2021.
If runoff reduction is greater than 41.3%, a “tier 1” outcome, the investors will receive from DC Water an “outcome payment” of $3 million. In a tier 2 outcome where runoff reduction is 18.6% or better but less than 41.3%, the investors will be due only their normal principal and interest.
In a failed tier 3 outcome where runoff reduction is less than 18.6%, the investors will owe DC Water a “risk share” payment of $3.3 million that the trustee will then factor into future payments. That would net the investors a roughly 0.5% return, and DC Water would abandon green infrastructure for traditional tunnels or “gray” infrastructure.
“This environmental impact bond represents the first time that DC Water has explicitly tied financial payments to environmental outcomes, in this case reducing stormwater runoff, which causes the CSOs that pollute the District’s waterways,” said DC Water chief financial officer Mark Kim.
Kim said the EIB is on DC Water’s subordinate lien, on par with the majority of its debt. DC Water is a regional water authority that provides services to the District of Columbia, as well as to parts of Maryland and Virginia.
“This unique bond offering is the result of DC Water’s relentless commitment to innovate and pursue every available avenue to provide the best service at the best price to our customers and to the greater community we serve,” said chief executive officer and general manager George S. Hawkins.
Kim said that a tier 2 result is thought to be most likely, and that DC Water and its nontraditional muni investors were willing to make a bet together that green infrastructure would be successful.
“We’re thrilled to partner with DC Water to help pioneer this innovative financing mechanism that will not only benefit the community environmentally, but also stimulate local job creation,” said Margaret Anadu, Goldman Sachs managing director who leads the Urban Investment Group. “This first ever environmental impact bond will finance the construction of green infrastructure and support economic development in the District.”
Beth Bafford, investments director for Bethesda, Md. based nonprofit Calvert Foundation said the foundation was excited to test how effective the green infrastructure would be and noted its potential as a national precedent for water utilities.
“This work is critical for residents in our hometown and has national implications for how to finance green infrastructure solutions to combat the effects of extreme weather on aged, vulnerable sewer systems,” Bafford said.
The White House also commented on the potential of the unique deal to create a model for other issuers. The project’s development was aided by a federal Social Innovation Fund Pay For Success Grant.
“In launching a project that is the first of its kind in the nation, DC Water has opened the door for others to follow their example,” said Dave Wilkinson, director of the White House Office of Social Innovation.
Public Financial Management is financial advisor for the deal, with Squire Patton Boggs as bond counsel and the Harvard Kennedy School Government Performance Lab providing technical advice. Quantified Ventures was the Pay for Success transaction coordinator, and Orrick, Herrington & Sutcliffe is investors’ counsel.
The Bond Buyer
By Kyle Glazier
September 29, 2016
Mayor Sylvester Turner is garnering praise for his proposal’s comprehensiveness and balance.
Earlier this month, Houston Mayor Sylvester Turner released his outline for fixing the city’s underfunded pension system, an issue that earned the city a credit rating downgrade in March.
Observers say the plan is the best effort yet at solving a problem that has eluded past city officials. If approved, the proposal would immediately cut Houston’s unfunded liability by $3.5 billion — or nearly in half — while putting Houston on a path to pay off the rest of its pension debt over the next generation.
The proposal has several moving parts, including concessions from city workers, a requirement that the city make its payments going forward and a change in some accounting assumptions as a way of making the system less exposed to the risks of the financial market. It also calls for issuing pension obligation bonds to help plug the funding hole.
What makes the effort even more remarkable is that Turner is less than a year into his first term. But Turner is no ordinary first term mayor.
Prior to being elected, he had already spent 25 years serving a portion of the Houston metro area in the state legislature. It’s his experience and the connections he’s made, both politically and in the business community, that Turner will draw on when he takes the proposal to the city council in early October. The state legislature ultimately has final approval on any changes to the pension system, but most believe that Turner will encounter little resistance there.
“The number one thing is the relationships Mayor Turner has,” said city finance director Kelly Dowe, whom Turner kept on from the previous administration. “When he says, ‘Folks, this isn’t sustainable,’ it’s different from someone else saying it.”
Indeed, Turner’s proposal appears to strike the right amount of give-and-take that’s required for all parties to get on board. First, the city is stepping up in terms of accountability, meaning it would be required to make its pension payment annually.
What’s more, the system would immediately incorporate a more realistic investment rate of return assumption in valuing its pension liabilities. Currently, Houston is an outlier among public plans and assumes its investments will earn 8 or 8.5 percent annually. That’s much higher than the national average of plans and even higher than Houston’s recent investment experience. Turner’s proposal assumes a 7 percent rate of return, which is lower than the national average and bumps up Houston’s total liabilities to a more realistic $7.7 billion (from under $4 billion as reported).
The pension plans would also switch from an open amortization period — which is like refinancing your home every year and never paying off the loan — to a closed one. That change puts the city on a path to fully pay off its pension debt over 30 years.
In terms of employee concessions, Turner is deftly leaving it up to the unions. At a press conference announcing the reform, he said the three plans in the pension system had identified a collective $2.5 billion in cuts. While not specific, that will likely mean some combination of cuts to retirees’ cost-of-living adjustments and their deferred retirement option plans benefits, which allow retirement-age employees to keep earning retirement benefits as they continue to work.
The planned issuance of pension obligation bonds would infuse another $1 billion into the system, bringing down the total unfunded liability to about $4.2 billion. Issuing bonds to plug pension funding holes can be controversial because it doesn’t eliminate debt, it simply moves it from a pension system’s balance sheets to the city’s debt ledger.
City Controller Chris Brown said at a discussion last week hosted by Rice University’s Kinder Institute that he is typically skeptical of issuing pension obligation bonds. But he added he would support the idea as long as the city doesn’t use the bonds as a replacement for making its annual payments and if Houston receives a favorable interest rate on the bonds.
Notably, Turner’s proposal doesn’t call for a new tax as has often been done in other places — such as Chicago — as a way to get a poorly funded pension plan back to health. That aspect has pleased the business community, which has said it wants the city to get its pension costs under control before discussing taxes. But Turner does plan to ask city voters next year to lift Houston’s 12-year-old revenue cap to help reinvest in needed infrastructure and parks projects.
So far, the Houston Municipal Employees Pension System and the Houston Police Officers’ Pension System have signed on to the mayor’s plan. That leaves the Houston Firefighters’ Relief and Retirement Fund, which has yet to endorse Turner’s proposal. The firefighters’ plan is directly controlled by the legislature. That means if they don’t sign on to the reform, they risk “the horrendous challenge” of the legislature making changes to their plan, said Max Patterson, the executive director of the Texas Association of Public Employee Retirement Systems.
“Generally speaking, [employees] should be happy with this,” he said at last week’s event. “Because you have to measure it against the other side of, if I don’t get this, what will I get?”
GOVERNING.COM
BY LIZ FARMER | SEPTEMBER 29, 2016
For years there have been voices writing, speaking and worrying about U.S. unfunded pension liabilities. I, for one, included. Never should investors ever buy pension obligation municipal bonds. Cities, states and counties issue POBs because their pensions are grotesquely under water and they cannot meet their liabilities. The reasons are long, but pretty simple: Poor investment results; demographic shifts due to people living longer; mismanagement; devastating union-negotiated wage and benefit increases; low retirement age; and unrealistic assumed rates of return on assets.
The numbers in many circumstances are unconscionable. California State Teachers Retirement System returned 1.4% in fiscal year end June 30. Their target was actually 7.50%. Springfield, Illinois owes $21 million to pay police and firefighter pensions. That doesn’t sound too bad until you realize the $21 million represents 98% of all property tax revenues. According to Standard & Poor’s, the city of Houston, Texas has racked up pension costs from 2012 to 2015 that rose 48%. What will they do? Issue $1 billion in POBs—a hail Mary pass if ever there was one.
You are probably wondering why pension funds don’t reduce their assumed rates of return to something realistic. Like taking their 7.50% fantasy returns to a more logical 4% to 5% return. The reason is simple. Such target rate of return reductions require real cash infusions to make up the difference.
So we find ourselves at the tail end of an equity bull market that began in March 2009 and a 30-plus year bond bull market. And yet pensions remain woefully underfunded.
The best objective source of research comes from PEW Research. Google PEW Research, unfunded pension liabilities. You’ll find analyses on states and city funding gaps, states in the worst and best shape, data on the 50 state trends, and retiree health care trends. It all adds up to dismal funding for many cities that made promises to pensioners they simply cannot keep.
So why the rant? As the problem gets worse and being we are at the tail end of this credit cycle, general obligation municipal bonds issued by these same states, cities and counties will be severely downgraded. More nails in the coffin that GOs should no longer be the darlings of your municipal bond portfolio .
Connect the dots. As pension funding takes more and more revenue from their general funds, more GO bonds will have to be issued for essential services—schools, roads, welfare, the homeless. All will create a giant revenue sucking sound while essential services deteriorate. The reasons are precisely why revenue bonds—specific revenue bonds—are more desirable than GOs.
Invest in senior airport revenue bonds from major U.S. airports—no local mini airports. Names like Atlanta Hartsfield, Los Angeles International, Dallas Fort Worth, JFK and San Francisco. Major city senior airport revenue bonds are my top pick now.
If you are seeking more yield than airport revenue bonds, then selectively buy hospital revenue bonds. Not your local hospital, but major institutional teaching hospitals like Stanford, Mayo Clinic, Mount Sinai, Cedars-Sinai, University of Colorado Hospital, to name a few.
The weather report declares an unfunded pension tsunami. Please prepare so your portfolio doesn’t drown.
Forbes
by Marilyn Cohen, Contributor
SEP 26, 2016 @ 12:39 PM
Marilyn Cohen is president of Envision Capital Management, Inc., a Los Angeles fixed-income money manager.
Opinions expressed by Forbes Contributors are their own.
New Jersey is on the brink of realizing the American Dream — if the definition is a mega-mall in the middle of a marsh.
A state agency approved $1.2 billion of tax-exempt municipal bonds for Canadian developers Triple Five Worldwide. The company plans to complete a partially built “world-class destination” of shops, restaurants and entertainment attractions in the Meadowlands, 10 miles west of Manhattan, where previous developers ran out of money.
The Sept. 15 decision to float the bonds reignites a debate in New Jersey over the use of government subsidies to foster economic development. Buyers of the bonds won’t pay federal tax on the income, making U.S. taxpayers silent partners in the project. And in addition to paying a lower interest rate than they would on taxable bonds, the developers get a $390 million state grant over time if they reach sales-tax targets.
“It’s essentially crony capitalism,” said Republican State Senator Michael Doherty, who represents a west-central New Jersey district. “Our credit rating is in the crapper and we’re going to triple down by giving more than $1 billion to a private mall developer.” The state has halted non-emergency road improvements for lack of money and faces an $80 billion pension deficit.
Boost Economy
To supporters, American Dream promises to boost New Jersey’s economy, which lagged the U.S. through most of the recovery. The state’s Economic Development Authority estimates it will generate $340 million in state tax revenue over 20 years and create about 11,000 full- and part-time jobs at the complex and 5,800 construction jobs.
“We’ve had false starts,” said James Cassella, mayor of East Rutherford, New Jersey, where the complex sits unfinished. “Hopefully this time is real.”
The 2.9 million square-foot (270,000 square-meter) American Dream, originally called Xanadu, features an indoor amusement park and water park, an 800-foot (245-meter) indoor ski slope, a 300-foot Ferris wheel, aquarium, 1,500-seat performing-arts theater, skating rink and a 1,400-seat movie theater with “wind, rain, snow, fog and scents all synchronized to the on-screen action,” the company says. It will also have 500 stores, restaurants and food shops.
MetLife Stadium
The project broke ground in 2004 across the highway from what is now MetLife Stadium. Construction was abandoned after Mills Corp. and Mack-Cali Realty Corp. and then Colony Capital LLC ran short of funding.
Every day for the last 10-plus years, hundreds of thousands of people pass by what looks to be aging, scattered hunks of metal and concrete, painted in checkerboard shades of pastel blue and orange near the New Jersey Turnpike and within sight of NJTransit commuter trains.
Now construction cranes have appeared again.
Triple Five, run by the billionaire Ghermezian family that also owns Mall of America in Minnesota and West Edmonton Mall in Canada, says it’ll succeed where the others failed. It says the development, slated to open in 2018, will offer plenty to entice an estimated 40 million annual shoppers and thrill-seekers from all over the area and the world.
Tax Dollars
“This will bring much-needed jobs and tax dollars back to our region,” said Rick Sabato, president of the Bergen County Building and Construction Trades Council.
Critics say the development will suck business away from existing enterprises. Paramus, New Jersey, 10 miles north, has three indoor malls, including the 2.1 million square foot Garden State Plaza, owned by Westfield Corp.
The nonprofit New Jersey Alliance for Fiscal Integrity asked a state court last week to stop the project, saying the New Jersey Sports and Exposition Authority, which owns the site, violated state law when it authorized the bonds.
Tax exempt
Tax-exempt bonds are normally used for roads, sewers, schools and bridges.
In order for Edmonton, Alberta-based Triple Five to be eligible, a state or local government must finance the project and the company must pay bondholders what’s called PILOT, or payment in lieu of taxes. Triple Five will pay $800 million of the bond debt in this way.
Triple Five won’t pay property taxes to its host town either. Instead, East Rutherford will receive an upfront payment of more than $20 million from the bond sale and annual payments starting at $750,000 when American Dream opens. Triple Five will also make infrastructure improvements to smooth traffic.
A Brookings Institution report this month found that, since 2000, tax-exempt financing of professional sports stadiums has siphoned $3.7 billion from federal revenue. The report didn’t mention malls.
Rather than sell bonds to the public, the Sports and Exposition Authority will sell them to the Wisconsin Public Finance Authority, which will in turn market its own debt to the public. Tony Armlin, Triple Five’s vice president of development and construction, said the Wisconsin agency charges lower issuance fees.
New Jersey officials have said New Jersey taxpayers won’t be at risk if the bonds default.
Goldman Sachs Group Inc. is managing the tax-exempt bond issue for Triple Five.
Rug Merchant
Don Ghermezian, president of Triple Five, is the grandson of Jacob Ghermezian, an Iranian rug merchant who moved to Canada in 1964. The family built a real estate empire that also includes banking and energy divisions.
Triple Five is investing $300 million in cash and borrowing another $1.5 billion through a construction loan arranged by Deutsche Bank AG.
Triple Five, which says it’s leased 70 percent of the complex, is forecasting $1.5 billion in annual retail sales, even though Bergen County is the last county in the country with a ban on Sunday shopping.
Political Contributions
Bloomberg News reported that members of the Ghermezian family and their employees contributed $40,000 to the New Jersey State Republican Committee in May and $50,000 to the Republican National Committee in June, according to campaign-finance records.
“It’s indicative of a sick economy in New Jersey that you keep having to do these special deals for connected people,” said Doherty, the state senator.
American Dream may end up providing ammunition to critics of the tax-exemption for municipal bonds, said Lisa Washburn, a managing director at Municipal Market Analytics.
New Jersey is “bending over backwards to provide tax-exempt financing along with a whole host of other sweeteners in order to get a non-essential project, benefiting a for-profit company,” Washburn said. “It just doesn’t look good.”
Bloomberg Markets
by Martin Z Braun
September 26, 2016 — 2:00 AM PDT
Investors have plowed money into municipal-bond funds for almost a year, allowing local governments to borrow at near record-low yields. That’s making it easier to ignore the cracks beneath the market’s surface.
This week may mark the 52nd straight one with inflows into state and local-government bond funds, the longest streak since 2010, according to Lipper US Fund Flows. Even with the influx, the securities are headed toward the biggest monthly loss since February 2015 on speculation the Federal Reserve may raise interest rates in December. If investors start yanking money out, that could weigh on prices because securities firms have pulled back from the market.
“There’s this anxiety that’s looming under the surface where people are saying, everything is going really well, there’s all these muni inflows but what happens if that stops suddenly?” said Katie Koster, a managing director in public finance investment banking for Piper Jaffray Cos. in Laguna Beach, California. “How will the markets react? They could seize up quite quickly.”
The municipal market has been whipsawed in the past when mom-and-pop investors dumped their bonds en masse. Prices tumbled in late 2010 amid concern the recession would trigger a wave of defaults, a fear that later proved unwarranted. The securities dropped again in 2013 during the so-called taper tantrum, when then-Fed Chair Ben Bernanke jarred investors with plans to scale back the central bank’s bond purchases.
The influx of cash for the past year has been fostered by stock-market volatility and negative interest rates overseas, which have made even rock-bottom municipal yields attractive by comparison. Foreign buyers, who don’t benefit from U.S. tax breaks tied to the debt, increased their holdings to $89.7 billion at the end of June from $74 billion three years earlier.
The streak of cash “shows strong investor demand for an income-producing asset class that has high credit quality, low volatility and continues to act as a diversifier against equity and equity-like risk,” said Sean Carney, head of municipal strategy at BlackRock Inc., which manages about $124 billion of municipal debt. “There’s no indication that flows are about to turn negative, just less robust.”
Municipals have produced a return of 4 percent in 2016, according to Bank of America Merrill Lynch data, thanks to a rally that came as the Fed held off on interest-rate increases that were anticipated this year. The central bank indicated this month that the case for tightening monetary policy has strengthened, and the securities posted a loss of 0.5 percent in September.
Despite the wall of cash that’s allowed even junk-rated borrowers to issue debt, governments continue to deal with mounting pension-fund shortfalls that are exerting a drag on their credit ratings. And the impact of a selloff could be exaggerated by the brokerage industry’s diminished role in the market since new regulations went into effect after the financial crisis: Dealers’ holdings fell to about $20 billion at the end of June, down by half from $40 billion in mid-2011, according to Fed data.
“Investors have to be careful about not lulling themselves into a false sense that this abundant liquidity in the market right now is driven by dealers,” said James Iselin, head of the municipal fixed income team in New York at Neuberger Berman, which oversees about $10 billion. “It’s really driven by investors and asset managers who have pumped a lot of money into the space.”
To prepare, he said investors should buy bonds from highly-rated governments even if they offer less yield than more speculative ones.
“Giving up a little bit more to be more flexible and nimble for an environment that could be less liquid, that’s a trade that investors should certainly think about right now,” he said.
But with the interest rates so low, investors have been doing the opposite, said Piper Jaffray’s Koster. “That could be a problem down the road.”
Bloomberg Markets
by Romy Varghese
September 28, 2016 — 2:00 AM PDT
Taylor Riggs, a contributor to Bloomberg Briefs, talks with Joe Mysak about this week’s municipal market news.
A group of U.S. senators introduced a bipartisan bill that includes municipal bonds among assets that banks need to hold to weather a financial shock.
Democratic Senators Mark Warner and Chuck Schumer and Republican Mike Rounds introduced a scaled-down version of legislation that passed the House in February that would classify investment grade municipal bonds on par with U.S. agency securities issued by Fannie Mae and Freddie Mac to meet bank liquidity rules.
The Senate measure classifies munis as “Level 2B” assets comparable to certain corporate bonds and stocks.
Level 2B assets are subject to a 50 percent “haircut,” meaning if a bank holds $1 million of a municipal bond, $500,000 counts towards its liquidity buffer. The House bill classifies munis as Level 2A assets, which have a 15 percent haircut. Level 2A and 2B assets can make up no more than 40 percent of total “high quality liquid assets,” with Level 2B assets restricted to no more than 15 percent of HQLA.
“As a former governor, I know firsthand how critical it is for states and municipalities to issue bonds that fund their basic operations, including the construction of schools, roads, and local projects,” Warner said in a news release “We must ensure a continued and reliable access to capital markets for our local governments, and this legislation represents a compromise that achieves that while appropriately balancing concerns for the long term stability of our financial system.”
Local-government officials and securities-industry lobbyists turned to Congress after regulators including the Fed adopted rules that would restrict or bar banks from including munis among high quality liquid assets. State treasurers and city finance officers said the new rules, if not changed, will saddle them with higher borrowing costs eliminating incentives banks have to purchase the bonds.
“Having bipartisan, bicameral legislation is an excellent first step,” said Emily Brock, federal liaison for the Government Finance Officers Association. “It shows a commitment on their part for what we municipal securities to be, which is high quality and liquid.”
Bloomberg Markets
bu Martin Z Braun
September 27, 2016 — 10:07 AM PDT Updated on September 27, 2016 — 1:36 PM PDT
The privately run prison in Walnut Grove, Mississippi, was besieged for years by violence and legal fights over deplorable conditions. Then last month, with local sentencing reforms keeping fewer behind bars, officials shut it down, leaving the state on the hook for $121 million of debt left behind.
“The taxpayers are paying for that building and it’s just sitting there,” said Chip Jones, an alderman for the 1,600-person town about 63 miles (101 kilometers) east of Jackson, the state capital.
The closing is part of a shift taking place nationwide among states and local governments that have sold $30 billion of bonds to build prisons and jails, some of which were leased to for-profit operators. With officials re-evaluating tough-on-crime laws that caused inmate populations to soar and the federal government moving to jettison its use of private prisons, the reduced need for such facilities is rippling through a niche of the $3.8 trillion municipal-securities market.
On Friday, a Texas prison that serves as a U.S. detention center had its credit rating cut to junk by S&P Global Ratings, joining half a dozen others that were downgraded below investment grade by the company since federal officials in August announced plans to phase out for-profit facilities. About $300 million of tax-exempt debt issued for almost two dozen prisons has already defaulted, and investors are demanding higher yields on other securities amid speculation the distress will spread.
“At any point there are only so many prisoners out there to fill the private prison beds,” said Matt Fabian, managing director for Municipal Market Analytics Inc. “It creates unequal distribution and you have prisons competing against one another.”
The number of Americans behind bars has been on a steady decline. After peaking at 1.62 million in 2009, the state and federal prison population dropped over the next five years, reducing it by 54,000, or 3 percent, by 2014, the most recent year for which figures are available, according to the U.S. Bureau of Justice Statistics.
It’s not certain that such reductions will continue, said Daniel Hanson, an analyst who follows the municipal-bond market for Height Securities in Washington. Even with the decrease, some federal prisons are still over capacity and states may already have done much of what they can to keep non-violent offenders out of their penal systems, he said.
“The low hanging fruit of criminal-justice reform is already done,” said Hanson.
At the federal level, the impact is poised to trickle down. The Department of Justice on Aug. 18 said it will cancel or scale back the scope of private prison contracts after the number of federal inmates fell by about 25,000 over the past three years. About two weeks later, the U.S. Department of Homeland Security, which houses immigration detainees in privately run facilities, said it will review whether to curb their use too.
Such a step would jeopardize the repayment of local-government bonds issued for prisons, which are typically repaid with revenue from leasing them instead of with taxpayer money. Since August, S&P has lowered to junk debt issued by, among others, the Washington Economic Development Financing Authority, the Garza County Public Facility Corp. in Texas, and the La Paz County Industrial Development Authority in Arizona.
The prices of some securities have tumbled, pushing up the yields as investors demand higher compensation for the risk. The yield on bonds issued for the Reeves County detention center in Pecos, Texas, which mature in 2021 and were among those downgraded, rose to as much as 6.4 percent last month from 4.6 percent in early August.
Additional closures could spread the impact. In Florence, Arizona, a 31,000-resident town southeast of Phoenix, the seven prisons — four of which are privately-run — are a major employer, said Jess Knudson, town spokesman. One of them is an immigration facility that could be hit if Homeland Security follows Justice’s lead.
“Our ability to influence that decision doesn’t exist,” Knudson said.
The Mississippi Department of Corrections closed the Walnut Grove prison because of budget constraints and the number of inmates, with the annual average population dropping by about 10.5 percent between fiscal 2011 and 2016, bond documents show.
The decline was driven in part by the passage of criminal-justice reform that gave judges more discretion over sentencing, according to the Pew Charitable Trusts, which partnered with a state task force to push the 2014 law. The measure is projected to save the state $266 million over 10 years while also “safely reducing” the number of inmates, the group said.
With less need for prison beds, Mississippi chose to shut down a facility that had a troubled history under former operator Geo Group. After it was sued by inmates, the Justice Department faulted it in 2012 for widespread staff misconduct and deliberate indifference to the welfare of the young offenders housed there.
A federal judge said the description of life inside painted “a picture of such horror as should be unrealized anywhere in the civilized world.”
Mississippi said it has been pleased with Management and Training Corp., the for profit company that took over Geo Group after the Justice Department investigation.
The prison was closed last month and its 900 inmates were moved to other facilities. Mississippi still owes $121 million of debt for Walnut Grove, which the department of corrections has an “absolute and unconditional” obligation to pay off, according to bond documents. There state is considering using the emptied prison for another purpose.
“Anything’s better than nothing,” said Jones, the local alderman. “The taxpayers are paying for that building, and it’s just sitting there.”
Bloomberg Markets
Amanda Albright and Darrell Preston
October 3, 2016 — 2:00 AM PDT Updated on October 3, 2016 — 7:45 AM PDT
Fitch Ratings-New York-03 October 2016: Growth for the remainder of 2016 will remain healthy for all three U.S. major transportation sectors (airports, ports and toll roads) albeit at a slightly lower rate than the first half of the year, according to Fitch Ratings in a new report.
Fitch expects passenger traffic growth to increase around 3% for the second half of 2016 (2H16), with the bulk of air passenger growth coming from international hub airports. All but one major U.S. carrier has seen positive traffic growth through the first part of 2016, though a wide range of performance continued. JetBlue (12.1%) and Southwest Airlines (7.8%) led the way with strong increases in revenue passenger miles while increases among American Airlines (1.9%) and United Airlines (-0.1%) were more marginal.
Ports nationwide will continue to benefit from a stronger dollar driving imports, with 20-foot equivalent units (TEUs) growing at a level above GDP for the 1H16. A primary focus for ports remains “big ship readiness”. That said, shippers, logistics providers and ports will be keeping close watch over the expanded Panama Canal, which opened for commercial traffic this year. While large-scale shifts in cargo are not expected, some adjustments are possible.
As for toll roads, low fuel prices have boosted growth in traffic (6.3%) and revenue (7.0%) for the 1H16. The Southeast and Southwest U.S. have and will continue to lead in traffic performance. The higher rate of growth in revenues is reflective of typical inflationary toll rate increases, which Fitch expects to average roughly 2% over time.
A degree of uncertainty always remains for the long-term direction of the broader economy.
The Transportation Trends report includes an expanded data set in its appendices, including six-month year-to-date 2016 volume and revenues, six-month percentage change year-over-year for volume and revenue, 2015 full year volume and revenues, 2010-2015 five-year compounded annual growth rates, and recessionary peak-to-trough data. ‘U.S. Transportation Trends’ is available at ‘www.fitchratings.com’ or by clicking on the above link.
Contact:
Seth Lehman (Airports)
Senior Director
+1-212-908-0755
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
Emma Griffith (Ports)
Director
+1-212-908-9124
Tanya Langman (Toll Roads)
Director
+1-212-908-0716
Media Relations: Sandro Scenga, New York, Tel: +1 212-908-0278, Email: sandro.scenga@fitchratings.com.
Additional information is available at www.fitchratings.com.
Fitch Ratings-New York-22 September 2016: Despite balance sheet contractions, State Housing Finance Agencies (SHFA) have increased overall equity, according to a Fitch Ratings report.
In FY 2015, aggregate adjusted equity rose 2.6% from FY 2014 levels and increased 15.9% from FY 2010 levels.
Marking the fifth straight year of across-the-board declines, aggregate SHFA assets decreased by 0.8%; aggregate debt fell by 2.9%; and aggregate loans declined by 1.8%. Albeit at a reduced rate of decline compared with recent fiscal years, these decreases are reflective of the economic and mortgage-lending environments during that period and the shift in SHFAs’ business model in response.
“FY 2015 contained the same challenges for SHFAs as the past several years. Low interest rates continued to suppress investment income and low conventional mortgage rates decreased the volume of SHFA-issued debt for originating new whole loan mortgages,” said Ryan Pami, Associate Director.
“SHFAs sought other ways to remain profitable, such as originating loans through the to-be-announced market, utilizing direct sales of MBS and issuing MBS pass-through instruments. Despite the challenging environment, FY 2015 results demonstrated that SHFAs are financially sound, as median ratios, such as Net Interest Spread, Net Operating Revenue and Debt-to-Equity (DTE), continued to trend positively.”
Leverage ratios continued to improve as the median adjusted DTE ratio declined to 3.1x in FY 2015 from 3.4x in FY 2014. This is significantly lower than the five-year average median and the FY 2010 median, which were 3.9x and 5.5x, respectively, and now stands as the lowest median DTE ratio in the past decade.
For more information, a special report titled “State Housing Finance Agencies – Peer Study” is available on the Fitch Ratings web site at www.fitchratings.com.
Contact:
Ryan J. Pami
Associate Director
Fitch Ratings, Inc.
+1-212-908-0803
33 Whitehall Street
New York, NY 10004
Ronald McGovern
Senior Director
+1-212-908-0513
Media Relations: Elizabeth Fogerty, New York, Tel: +1 (212) 908 0526, Email: elizabeth.fogerty@fitchratings.com.
Additional information is available at ‘www.fitchratings.com’.
ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY’S PUBLIC WEBSITE ‘WWW.FITCHRATINGS.COM’. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH’S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE ‘CODE OF CONDUCT’ SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.
WASHINGTON — A bipartisan group of senators is pushing to include municipal bonds in bank-safety rules, the latest wrinkle in a continuing fight over how safe—and salable—the debt of states and localities would be in another financial crisis.
Sens. Mark Warner (D., Va.), Charles Schumer (D., N.Y.) and Mike Rounds (R., S.D.) are set to introduce legislation on municipal bonds this week, according to Senate aides. The bill aims to open the door for big U.S. banks to count municipal bonds as liquid assets under rules completed in 2014 that were designed to ensure Wall Street firms have enough cash during a crisis to fund their operations for 30 days.
The Senate legislation would place municipal bonds on the lowest rung of the “high quality liquid assets” category. That means they would be treated on par with corporate bonds, but not as favorably as under related legislation approved by the House early this year.
“We must ensure a continued and reliable access to capital markets for our local governments,” Mr. Warner said in a written statement. “This legislation represents a compromise that achieves that while appropriately balancing concerns for the long term stability of our financial system.”
The rules, slated to go into effect next year, are aimed at making banks hold more cash or securities that are easy to sell. The Federal Reserve and two other bank regulators had originally decided debt issued by states and localities didn’t make the cut—prompting a backlash from banks, lawmakers and states and localities who warned the move would make the bonds less attractive and raise borrowing costs for municipalities.
The Fed completed amendments in April to allow some investment-grade municipal bonds to qualify. But the two other regulators involved in the rules—the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corp.—haven’t followed suit.
Aides to Senate lawmakers say their bill was scaled back from the House version to gain broad support for it in the Senate, though it is unclear if there is sufficient time in the remaining year to advance the bill.
Sen. Richard Shelby (R., Ala.), chairman of the Senate Banking Committee, indicated earlier this year that he was reluctant to second-guess banking regulators that originally excluded municipal bonds when they wrote the rules in 2014. But an aide to Mr. Shelby said he wouldn’t object to the coming bill as it incorporates changes the Fed already adopted in its version of the rules.
Banks underwrite muni bonds, buy them as investments and sell them to clients. Lenders have played an increasingly central role in the thinly traded, $3.7 trillion market and are now the biggest buyers of municipal debt, according to Municipal Market Analytics Inc., a research firm.
Municipal officials have generally applauded the Fed’s willingness to make changes to the rules but say legislation is necessary, largely because banking firms typically hold municipal debt in units that are overseen by the other policy makers involved in the rules, particularly the OCC, which regulates national banks.
Officials at the OCC remain dismissive of including the municipal bonds in the rules and don’t believe the debt is sufficiently liquid, according to people familiar with their thinking. The FDIC is waiting until the rules go into effect next year before considering amending its version, according to people familiar with that agency.
While the Senate bill would rank municipal debt similarly to the Fed’s amended rules—allowing the banks to count 50% of the bonds’ face value when including them in their funding buffers—the legislation would allow banks to include more types of municipal bonds, a Senate aide said.
These include revenue bonds, or securities backed by a specific revenue stream, that comprise the bulk of debt issued by states and local governments but that are kept out of the current Fed version of the rules.
The House bill, meanwhile, is broader than both the Senate bill and the Fed’s version of the rules, allowing banks to count 85% of the bonds’ face value.
To date, banks have by and large continued to hold lots of municipal bonds despite the rules, in part because they are seen as less risky than corporate debt and are priced competitively to other types of debt, according to bank officials. If interest rates rise this year, banks are expected to begin to pare their muni holdings.
Corrections & Amplifications:
An aide to Sen. Richard Shelby (R., Ala.), chairman of the Senate Banking Committee, said he wouldn’t object to the coming municipal bond legislation. An earlier version of this story said an aide to Mr. Shelby said he would support the bill. Also, these comments were made by an aide to Sen. Shelby. Due to an editing mistake, an earlier correction to this story erroneously cited Sen. Shelby for these remarks.
THE WALL STREER JOURNAL
By ANDREW ACKERMAN
Updated Sept. 27, 2016 10:27 a.m. ET
Write to Andrew Ackerman at andrew.ackerman@wsj.com
J.P. Morgan, Nuveen invest in school board’s bonds at big profit
The Chicago school system needed money—fast. Two Wall Street players saw an opportunity to invest.
J.P. Morgan Chase & Co. and Chicago-based Nuveen Asset Management have made realized and paper profits exceeding $110 million on purchases this year of $763 million in Chicago Public Schools bonds. The school system has said it needed the money to replenish its dwindling coffers before the new school year and to build and repair facilities.
The terms of the bond sales highlight the choices the school district faces after years of pension shortfalls and relying heavily on borrowing. The 397,000-student school district struggled to sell municipal bonds in February until Nuveen bought about one-third, and the district decided in July to borrow directly from J.P. Morgan for fear that investors might balk again, a spokeswoman for the Chicago Board of Education said.
“CPS did not have the luxury of waiting longer to demonstrate to the market that the progress we were making was real,” said Ronald DeNard, the school district’s senior vice president of finance, in an emailed statement about the bonds purchased in July by J.P. Morgan.
J.P. Morgan, the country’s largest bank by assets, made a 9.5% profit on $150 million in bonds it bought in July and sold in September, or 82% annualized. Nuveen, an investment firm managing $160 billion, has bought $613 million in bonds since February for a total return, including price gains and interest payments, of about 25%. That is almost 50% on an annualized basis, an especially large gain at a time of near-zero interest rates.
The school system’s bonds are a favorite for John Miller, Nuveen’s co-head of fixed income, who said the firm bought when the market feared a default, a concern he called overblown. “At the end of day, this school system is critically important to Chicago—to the whole country really,” he said.
Its bonds are rated B3 by Moody’s Investors Service and traded as low as 73 cents on the dollar in March before rebounding to about 90 cents in September. CPS said the bond sales facilitated much-needed fixes like lead abatement and classroom construction, though they increased the school system’s already heavy debt load and its annual interest payments.
“We took a period of market risk on behalf of our client when they needed it most and the market has recognized their improved financial position,” a J.P. Morgan spokeswoman said.
Chicago’s school district operates on a budget of $5.5 billion with a below-investment-grade, or junk, credit rating on nearly $7 billion of bonds. Its teachers union is threatening to strike, in part, over proposed changes to its pension plan, which has a nearly $10 billion funding gap. The school system’s rainy-day fund is nearly empty and relies on short-term borrowing.
“J.P. Morgan and Nuveen are taking advantage of a distressed school district at the expense of our most vulnerable students,” said Jackson Potter, staff coordinator at Chicago Teachers Union.
Nuveen held few Chicago Public School bonds in recent years but has been watching its prices closely since May 2015, when Moody’s cut its credit ratings of the school board and the city of Chicago to junk.
The investment company, which now owns about $806 million of the school district’s bonds, dedicated an analyst to cover the district full time to better understand its capacity to increase revenue and the likelihood of a bankruptcy filing.
Prices of outstanding Chicago school bonds were hit in 2013 and 2015 after defaults by Detroit and Puerto Rico. Illinois Gov. Bruce Rauner called for a state takeover of the school system and for a potential bankruptcy filing over the past year and prices fell below 75 cents on the dollar.
Nuveen determined that the default risk was far lower than that implied by the bond prices. When J.P. Morgan was struggling to find buyers of $725 million in bonds in February, the fund manager agreed to buy about 36% of the issue at about 84 cents on the dollar.
Mr. Miller continued buying after and now owns 60% of the bonds, making it the single largest investment in the $15 billion Nuveen High Yield Municipal Bond Fund. Nuveen has made unrealized gains of about $103.3 million on all the CPS bonds it owns, a company spokeswoman said.
Demand for Chicago Board of Education debt grew over the summer as investors gained confidence that the school board could plug much of its 2017 budget gap with budget cuts, state aid and new tax revenues. Market conditions also improved significantly, sending prices of municipal bonds with junk credit ratings up and pushing their yields down to about 4.6% in early July, a 17-year low, according to the S&P Municipal Bond High Yield Index.
Still, when the school district turned to J.P. Morgan for more money in July, it decided to sell the bonds directly to the bank to avoid the risk that investors would reject it. Instead, demand for the bonds rose throughout the summer, and J.P. Morgan sold all of the debt for a $12 million profit in September, Wall Street Journal analysis of data from the Municipal Securities Rulemaking Board shows.
“You’ve gone from having maybe two to three people being interested in these deals to all of a sudden having 20 investors interested,” said Mr. Miller of Nuveen.
J.P. Morgan committed to hold the $150 million in bonds it purchased for about six weeks until the board of education prepared documentation allowing them to be sold to institutional investors.
The certainty J.P. Morgan provided came with a high price: The bank paid 91 cents on the dollar for the debt at a yield of 7.25%, much higher than the approximately 6% yield on the school board’s outstanding bonds at the time. It sold the debt at prices as high as 102 cents on the dollar in early September and its trading profits, plus a $1.2 million purchaser’s fee, amount to the 9.5% return in six weeks.
J.P. Morgan has a longstanding relationship with Chicago Public Schools and is the top underwriter of its bonds over the past 10 years, according to data from Thomson Reuters. The bank views the school board as a high-priority client that it understands well and is willing to support its short- and long-term capital needs, the bank spokeswoman said.
THE WALL STREET JOURNAL
By MATT WIRZ and HEATHER GILLERS
Updated Oct. 2, 2016 11:31 p.m. ET
—Aaron Kuriloff
contributed to this article.
Write to Matt Wirz at matthieu.wirz@wsj.com and Heather Gillers at heather.gillers@wsj.com
CHICAGO — Bonds sold by U.S. states, cities, schools and other issuers in the municipal market could be held as liquid assets by banks under legislation introduced on Tuesday in the U.S. Senate, bolstering the case for purchasing the debt while helping financial institutions weather market crises.
The bipartisan measure would classify high-quality municipal bonds at the same level as corporate debt, allowing banks to use munis to comply with new 30-day federal liquidity requirements.
Federal rules approved in 2014 and effective next year are aimed at ensuring big banks will be able to access sufficient cash during a financial crisis. But the rules excluded muni bonds from the types of securities that count as high quality liquid assets, or HQLAs.
Muni debt issuers fear the exclusion would deter banks from buying muni debt, hurting their ability to fund everything from schools and bridges to water treatment plants and hospitals.
“If banks retreat from the muni-bond market, it could choke off a critical source of investment on which our cities and localities rely. This bill protects the stability of our markets while providing continued access to muni bonds for local governments,” Senator Chuck Schumer, a New York Democrat, said in a statement.
Schumer, along with Senators Mark Warner, a Virginia Democrat, and Mike Rounds, a South Dakota Republican, led a group sponsoring the legislation.
Putting munis on par with corporate debt “would be acceptable,” according to Washington State Treasurer James McIntire, president of the National Association of State Treasurers (NAST), which has been pushing for the inclusion of munis under the rules.
A House bill would also allow banks to count munis toward banks’ liquidity but at a higher face value, 85 percent, versus 50 percent in the Senate bill, according to NAST.
By REUTERS
SEPT. 27, 2016, 6:39 P.M. E.D.T.
(Reporting by Karen Pierog; editing by Daniel Bases, Bernard Orr)
The NFMA Disclosure Committee released the draft Recommended Best Practices in Disclosure: Charter School Disclosure (Primary Offering & Continuing Disclosure).
Comments will be taken through November 30, 2016.
To view the paper, click here.
To read the press release, click here.
GFOA’s Resiliency Task force has produced numerous articles, case studies, and other resources on Financial Resilience.
Wells Fargo & Co. may be forced to leave the municipal-debt underwriting business for a short period of time because of the backlash from the bank’s mishandling of client accounts, according to Court Street Group, a New York-based research and consulting firm.
by Romy Varghese
September 30, 2016 — 11:40 AM PDT Updated on September 30, 2016 — 2:24 PM PDT
Chicago Treasurer Kurt Summers plans to divest $25 million the city has invested with Wells Fargo & Co. after the company admitted to opening potentially millions of bogus client accounts, joining state officials who have pulled business from the bank because of the scandal.
Summers, whose office manages the city’s $7 billion investment portfolio, plans to “unwind these assets as expeditious as possible in a fashion that is prudent and will protect taxpayer money,’’ according to a statement from his office sent to Bloomberg News.
“The City Treasurer is proud to stand with working families from Chicago and across the nation by divesting in Wells Fargo & Co.,’’ according to the e-mailed statement. “Chicago deserves better.’’
The move comes amid mounting pressure on Wells Fargo, which is facing a national furor over the fake accounts debacle. After California’s treasurer barred the bank from bond and investment deals last week, Illinois Treasurer Michael Frerichs said he plans to take similar steps. On Monday, he said he’s suspending $30 billion in investment activity from Wells Fargo, which won’t be a broker dealer for the state for at least a year.
Illinois won’t be using Wells Fargo on any new bond sales until further notice, according to Governor Bruce Rauner’s administration, which hasn’t done any bond business with the bank.
Council Measure
“We are very sorry and take full responsibility for the incidents in our retail bank,” said Gabriel Boehmer, a spokesman for Wells Fargo. “We have already taken important steps, and will continue to do so, to address these issues and rebuild the city’s trust.”
Chicago may take further steps to sever relations with the bank. Alderman Edward Burke, chair of the city council’s finance committee, introduced a measure on Sept. 30 that would bar Chicago from doing business with Wells Fargo for the next two years. The plan, which will be considered at a finance committee meeting on Oct. 5, would prevent Chief Financial Officer Carole Brown, the comptroller and treasurer from using Wells Fargo as a municipal depository, bond underwriter, trustee in loan agreement, investment broker or financial adviser, according to a statement. The plan would also “encourage” pension funds to divest their Wells Fargo investments.
Chicago has paid Wells Fargo more than $19 million since 2005, according to Burke’s office.
Bloomberg Markets
by Elizabeth Campbell
October 3, 2016 — 7:06 AM PDT Updated on October 3, 2016 — 9:20 AM PDT
California, the nation’s largest issuer of municipal bonds, is barring Wells Fargo & Co. from underwriting state debt and handling its banking transactions after the company admitted to opening potentially millions of bogus customer accounts.
The suspension, in effect immediately, will remain in place for 12 months. A “permanent severance” will occur if the bank doesn’t change its practices, State Treasurer John Chiang said Wednesday. The state also won’t add to its investments in Wells Fargo securities. Chiang already replaced Wells Fargo with Loop Capital for two muni deals totaling about $527 million that will be sold next week.
“Wells Fargo’s venal abuse of its customers by secretly opening unauthorized, illegal accounts illegally extracted millions of dollars between 2011 and 2015,” Chiang said in a news conference in San Francisco. “This behavior cannot be tolerated and must be denounced publicly in the strongest terms.”
The move by California is the latest to punish the bank, which is facing a national furor over the fraudulent accounts. San Francisco, the home of Wells Fargo, last week removed it from a banking program for low-income residents. Authorities including the U.S. Consumer Financial Protection Bureau fined Wells Fargo $185 million on Sept. 8 for potentially opening about 2 million deposit and credit-card accounts without authorization. Chief Executive Officer John Stumpf has forfeited $41 million in pay.
Connecticut decided last week to add Morgan Stanley to serve as lead underwriter with Wells Fargo on a state bond issue planned for next month to help ensure a successful sale, according to the state treasurer’s office. Connecticut is reviewing its relationship with the bank. New York’s Metropolitan Transportation Authority voted to hold off on approving Wells Fargo as a underwriter until the agency completes its analysis of the company’s practices, according to an online broadcast of a board meeting Wednesday.
Federal prosecutors in New York and San Francisco have opened criminal inquiries, a person familiar with the matter has said. Wells Fargo already faces a raft of lawsuits by fired or demoted workers, customers and investors.
Chiang, a Democrat who’s running for governor in 2018, oversees about $2 trillion in banking transactions a year and manages a $75 billion investment pool that includes $800 million in Wells Fargo securities. Chiang said the effect on the bank is “significant” since he targeted the most profitable lines of business. Wells Fargo made $1.7 million from underwriting three bond deals, according to his office.
Gabriel Boehmer, a spokesman for Wells Fargo, said the bank has “diligently” worked with the state for the past 17 years.
Underwriter Rankings
“We certainly understand the concerns that have been raised. We are very sorry and take full responsibility for the incidents in our retail bank,” Boehmer said in an e-mailed statement. “We have already taken important steps, and will continue to do so, to address these issues and rebuild your trust.”
Wells Fargo was the second-largest underwriter of municipal debt in California in the first half of the year, according to data compiled by Bloomberg. The firm, which trailed Citigroup Inc., handled sales of $3.9 billion in securities, or 11 percent of total issuance.
The bank ranked fifth in overall municipal-bond underwriting this year through June, selling $13.7 billion in debt, for 5.9 percent market share.
Chiang, who called for the resignation of Stumpf, said other state treasurers should also withhold business from the company. “Those that have the financial wherewithal, those who have the courage, I think they ought to follow suit,” he said.
Bloomberg Markets
by Romy Varghese
September 28, 2016 — 11:40 AM PDT Updated on September 28, 2016 — 5:11 PM PDT
Illinois is joining California in suspending Wells Fargo & Co. from handling “billions” of dollars in investment work and the underwriting of state debt after the company admitted to opening potentially millions of bogus customer accounts.
Treasurer Michael Frerichs said in a statement the he will announce details of the ban during a news conference in Chicago on Monday. The suspension includes municipal-bond underwriting, according to Greg Rivara, a spokesman for the treasurer.
“In isolation, Illinois is not as significant as California, but its part of a mosaic that’s starting to take form,” Charles Peabody, a managing director at Compass Point Research LLC, said in a telephone interview, noting that it’s surprised industry watchers that the cross-selling scandal has begun to impact Wells Fargo’s corporate bank. “And the mosaic that’s being built out does not paint a bright picture for 2017 earnings.”
The pullback comes as pressure builds on Wells Fargo Chief Executive Officer John Stumpf and the bank’s board to resign because of the fake-account debacle. Stumpf told Congressional lawmakers this week that the San Francisco-based bank was working to help any customers who where hurt by its actions and is “deeply sorry” that Wells Fargo broke clients’ trust. Stumpf has forfeited $41 million in pay.
“We certainly understand the concerns that have been raised,” said Gabriel Boehmer, a spokesman for Wells Fargo. “We are very sorry and take full responsibility for the incidents in our retail bank. We have already taken important steps, and will continue to do so, to address these issues and rebuild trust with the State of Illinois.”
Authorities including the U.S. Consumer Financial Protection Bureau fined Wells Fargo $185 million on Sept. 8 for potentially opening about 2 million deposit and credit-card accounts without authorization. Federal prosecutors in New York and San Francisco have opened criminal inquiries, a person familiar with the matter has said. Wells Fargo already faces a raft of lawsuits by fired or demoted workers, customers and investors.
California Treasurer John Chiang suspended Wells Fargo for one year on Wednesday and called for Stumpf to quit. Connecticut decided last week to add Morgan Stanley to serve as lead underwriter with Wells Fargo on a state bond issue planned for next month to help ensure a successful sale. Other states such as Alaska and Oregon said they’re maintaining business with Wells Fargo.
Wells Fargo wasn’t ranked among the top four underwriters of municipal debt in Illinois during the first half of 2016, according to data compiled by Bloomberg. The company was the second-largest underwriter in California during that period, handling sales of $3.9 billion in securities, or 11 percent of total issuance.
The bank ranked fifth in overall municipal-bond underwriting this year through June, selling $13.7 billion in debt, for 5.9 percent market share, according to data compiled by Bloomberg.
Bloomberg Business
by Katherine Greifeld and Elizabeth Campbell
September 30, 2016 — 2:49 PM PDT Updated on September 30, 2016 — 5:11 PM PDT
SAN FRANCISCO — The California State Treasurer’s Office said it replaced Wells Fargo & Co as the lead underwriter on two bond sales that had originally been for scheduled for Tuesday, a day before the state announced sweeping sanctions against the company.
Management of the two sales, totaling nearly $730 million, was replaced by Jefferies LLC in one sale and by Loop Capital Markets LLC and Raymond James & Associates, Inc in the other.
On Wednesday, State Treasurer John Chiang announced the suspension of Wells Fargo as a managing underwriter on state negotiated bond sales for the next 12 months. California is the nation’s largest issuer of municipal debt.
Wells Fargo agreed on Sept. 8 to pay $190 million to settle a case by California prosecutors and federal regulators over what were potentially more than 2 million unauthorized credit card and deposit accounts opened by branch employees scrambling to meet sales quotas. The bank said it fired 5,300 employees over the issue.
Tuesday’s postponed bond sale had consisted of $200 million of general obligation index floating rate bonds. The state replaced Wells Fargo with Jefferies LLC as the senior manager, and the sale is now scheduled for Thursday.
The second sale was nearly $528 million of lease revenue refunding bonds from the State Public Works Board, issued to refund certain outstanding debts. Loop Capital and Raymond James will now manage the sale, which is scheduled to take place on Oct. 5.
Chiang, who oversees nearly $2 trillion of California’s annual banking transactions and manages a $75 billion investment pool, called for the state on Wednesday to suspend Wells Fargo’s “most highly profitable business relationships with the state of California.”
Over the past 21 months, Wells Fargo had served as senior manager in three California deals, resulting in $1.7 million of profits, according to the Treasurer’s Office.
By REUTERS
SEPT. 28, 2016, 7:21 P.M. E.D.T.
(Reporting by Robin Respaut; Additional reporting by Dan Freed in New York; Editing by Peter Cooney)
CHICAGO — Wells Fargo & Co faces possible bans from doing business with the city of Chicago and the state of Illinois in the wake of its sales scandal that erupted earlier this month.
Alderman Edward Burke, who heads the Chicago City Council’s finance committee, introduced an ordinance on Friday that would suspend the bank from acting in several capacities, including as a municipal depository, bond underwriter and financial adviser.
“The city council should not engage in any business for the next two years with this institution that has deceived, defrauded and duped its customers,” Burke said in a statement.
Illinois Treasurer Michael Frerichs set a Monday news conference to announce “plans to suspend billions of dollars in investment activity with Wells Fargo,” according to an advisory from his office on Friday.
Wells Fargo staff opened checking, savings and credit card accounts without customer say-so for years to satisfy managers’ demand for new business, according to a $190 million settlement with regulators reached on Sept. 8. The bank said it fired 5,300 employees over the issue.
On Wednesday, California State Treasurer John Chiang announced a sweeping suspension of the state’s business relationships with Wells Fargo for the next 12 months. The bank is also under pressure from Oregon’s treasurer to reform its management structure and executive compensation.
U.S. lawmakers called on Thursday for Wells Fargo chief John Stumpf to resign and a top House Democrat demanded the bank be broken up because it is too big to manage.
Chicago’s finance committee is scheduled to take up the proposed ordinance on Wednesday. The city has paid Wells Fargo $19.45 million in fees since 2005, according to the committee.
The bank served as senior underwriter on five Chicago bond issues totaling nearly $969 million since 2006, according to Thomson Reuters data.
Wells Fargo made the list of 15 senior underwriters tapped by Illinois this month for bond sales over the next three years. A spokeswoman for Governor Bruce Rauner declined to comment on whether his office is rethinking Wells Fargo’s selection.
By REUTERS
SEPT. 30, 2016, 5:42 P.M. E.D.T.
(Reporting by Karen Pierog; Editing by Matthew Lewis)
Citing Wells Fargo’s “venal abuse of its customers,” the California treasurer took the unusual step on Wednesday of suspending many of its ties with the San Francisco bank as it continues to reel from the scandal over the creation of as many as two million unauthorized bank and credit card accounts.
The state treasurer, John Chiang, said he was suspending Wells Fargo’s “most highly profitable business relationships” with the state for at least a year, including the lucrative business of underwriting certain California municipal bonds.
On Tuesday alone, he said, he had pulled Wells Fargo off two large municipal bond deals.
“How can I continue to entrust the public’s money to an organization which has shown such little regard for the legions of Californians who placed their financial well-being in its care?” Mr. Chiang wrote in a letter on Wednesday to the bank’s chairman and chief executive, John G. Stumpf, and the bank’s board members.
Mr. Chiang said he was also suspending making any additional investments in Wells Fargo securities and would suspend the bank’s work as a broker-dealer hired to buy investments on the treasurer’s behalf.
The suspensions will last for one year, Mr. Chiang said, or longer if he finds evidence that Wells Fargo has “re-engaged in the same behavior” or failed to abide by the terms of a consent order it signed with the Consumer Financial Protection Bureau and the Office of the Comptroller of the Currency.
The move could cost Wells millions of dollars in banking fees because California is the largest issuer of municipal debt in the country. A state official said the suspension did not affect Wells Fargo’s role in every municipal bond deal, but it would cut them out of a significant portion. In addition to overseeing bond deals, the state treasurer also manages $75 billion worth of investments.
But more than anything the move is symbolically hurtful for Wells, which has a large presence in California, particularly in San Francisco, where its top executives work and live.
Mr. Chiang, a Democrat who is running for governor in 2018, said his office had “long relied on Wells Fargo, our oldest California-based financial institution, as a partner to meet the state’s investment and borrowing needs.”
So far this year, California has sold about $50 billion in municipal debt out of total of about $318 billion issued nationwide, according to Municipal Market Analytics, a research firm.
Mr. Chiang noted that he sits on the board of the state’s giant public pension funds, Calpers and Calstrs, which have a combined $2.3 billion invested in Wells Fargo stock and debt securities. He said he would use his position on the pension boards to push for governance changes at Wells Fargo, including separation of the chairman and chief executive roles. Currently, Mr. Stumpf holds both positions.
In a statement, the bank responded: “Wells Fargo has diligently and professionally worked with the state for the past 17 years to support the government and people of California. Our highly experienced and proven government banking, securities and treasury management teams stand ready to continue delivering outstanding service to the state.”
Separately, on Thursday, Mr. Stumpf is scheduled to testify in Washington before the House Financial Services Committee, having already appeared last week before the Senate’s banking panel. The responses he gave to the Senate committee investigating the bank’s misdeeds were widely viewed as a disaster. Nevertheless, according to a copy of his prepared remarks, he plans to stick with the same script he used last week.
His planned testimony, which was obtained by The New York Times, is a nearly word-for-word repetition of the introduction he prepared for last week’s Senate hearing, with just one notable difference: Hastening a policy change, Mr. Stumpf plans to say that Wells Fargo will eliminate sales goals for its retail bankers by Oct. 1, three months earlier than it had planned.
Those aggressive sales goals, which pushed Wells Fargo employees to open as many accounts as possible for customers or risk losing their jobs, have been blamed for the scandal now engulfing the bank, where myriad banking and credit card accounts may have been opened without the customers’ authorization.
“We decided that product sales goals do not belong in our retail banking business,” Mr. Stumpf will say, according to the testimony.
As he did at the Senate hearing, Mr. Stumpf plans to say he is “deeply sorry” and will “accept full responsibility for all unethical sales practices.”
Under fire over the unauthorized accounts, Wells Fargo’s board announced on Tuesday that it was stripping Mr. Stumpf of unvested stock awards valued at $41 million. He will also forgo his bonus this year and a portion of his $2.8 million base salary.
The clawback of both Mr. Stumpf’s compensation and that of Carrie L. Tolstedt, who until recently ran Wells Fargo’s retail banking division, was a move that members of the Senate panel suggested last week. The fact that the board decided to do so right before the House hearing does not seem coincidental.
And the move to retract a portion of Mr. Stumpf’s lavish compensation — at the time of Wells Fargo’s latest annual disclosure, he held shares and options valued at around $247 million — has not appeased some senators who criticized Mr. Stumpf last week.
“This is a small step in the right direction, but nowhere near real accountability,” Senator Elizabeth Warren, Democrat of Massachusetts, said in a statement.
She again called for Mr. Stumpf to resign, to “return every nickel he made while this scam was ongoing” and to face a criminal investigation.
On Wednesday, in what felt a bit like a warm-up for Mr. Stumpf’s appearance on Thursday, the House Financial Services Committee grilled the Federal Reserve chairwoman, Janet L. Yellen, about the handling of the Wells Fargo scandal. Some lawmakers called for tougher punishment of big banks and their executives when they run afoul of the law.
“Will you at least seriously consider breaking up Wells Fargo?” asked Representative Brad Sherman, Democrat of California.
Ms. Yellen responded that regulators would hold financial institutions to “exceptionally high standards of risk management, internal controls, consumer protection.”
Others on the committee continued to press the issue.
“How long does this stuff have to go on before you get outraged and take action?” asked Representative Michael Capuano, Democrat of Massachusetts. He said that the $185 million fine against Wells Fargo, which has $1.9 trillion in assets, “is barely a footnote in their annual report.”
Ms. Yellen said that regulators had already begun a review of practices at all of the largest banks.
“We are undertaking a look comprehensively, not only in the consumer area but compliance generally, because there has been a very disturbing pattern of violations,” she said.
And regulators are working to complete a long-pending rule on executive compensation designed to limit excessive risk-taking at financial firms, Ms. Yellen said. “I will do everything that I can at the Federal Reserve to be ready to act on this as soon as possible,” she added.
Wells Fargo has been in crisis mode since it acknowledged this month that its employees had, over the course of several years, opened as many as 1.5 million bank accounts and 565,000 credit card accounts that may not have been approved by customers. The company has fired 5,300 employees for ethics violations.
Mr. Stumpf’s efforts to minimize these actions did not play well at last week’s Senate hearing. Facing a barrage of criticism about Wells Fargo’s leadership and what ex-employees describe as a toxic sales culture of relentless pressure to meet unrealistic goals, Mr. Stumpf maintained that the problem did not extend beyond rogue employees whose activities “did not honor our culture.”
Banking analysts were not enthusiastic about the idea of him continuing that line of argument at Thursday’s House hearing.
“Given the nearly universal assessment that Mr. Stumpf’s Senate appearance was lackluster, sticking with the script may prove imprudent,” Isaac Boltansky, an analyst at Compass Point Research & Trading, wrote in a note to clients after reading the prepared remarks.
One big question facing Mr. Stumpf is whether he will remain at the helm of the bank. Some analysts who follow the bank are beginning to openly speculate about Mr. Stumpf’s possible ouster.
“Our support for the C.E.O. is now wavering,” Mike Mayo, a banking analyst at CLSA, wrote in a research note on Monday. “His actions have been reactionary versus leading.”
THE NEW YORK TIMES
By MICHAEL CORKERY and STACY COWLEY
SEPT. 28, 2016
The Exposure Draft, Certain Debt Extinguishments, is out for public comment through October 28, 2016.
Let us hear from you!
This article explores the Omnibus Exposure Draft, the Leases project, and the forthcoming Statement on fiduciary activities.
The GASB is working toward the issuance of an initial document for public comment in its project reexamining the financial reporting model. The Invitation to Comment will seek feedback from stakeholders on elements of the existing model that the GASB’s research identified as areas of potential improvement. This article previews what the Board is preparing for issuance at the end of 2016.
Unlike other due process documents, which contain proposals from the Board for new or amended standards, an Invitation to Comment is a neutral document that seeks stakeholder input on a variety of alternatives before the Board develops a position on them.
It is important to note that the feedback received during the initial pre-agenda research indicated that much of the financial reporting model has been effective in providing information that is useful for making decisions and assessing accountability. Therefore, the Board decided that the approach of the financial reporting model reexamination will be to make improvements to the existing model, rather than start over with a clean slate.
TARGETED AREAS OF POTENTIAL IMPROVEMENT
The Invitation to Comment is expected to present a number of targeted areas of potential improvement to governmental fund financial statements, including:
The Board plans to consider other areas identified for potential improvement during the research in future due process documents.
MAPPING OUT THE INVITATION TO COMMENT
Chapter One
The first chapter will make the case for why the Board is exploring recognition approaches for governmental funds—to improve the effectiveness of governmental fund information, develop conceptual consistency, and provide a basis for establishing guidance for complex transactions.
Chapter Two
This chapter will introduce three alternatives that fall on a continuum for recognition approaches for governmental fund financial statements:
For each of these three recognition approaches, the document will describe:
Stakeholder input will give the Board additional insight as to which recognition approach yields the most understandable and useful information about the governmental funds.
Chapter Three
This portion of the document will consider a statement of cash flows for governmental funds for the short-term (working capital) financial resources and long-term (total) financial resources recognition approaches.
A cash flows statement presents a government’s receipts and disbursements into different categories—operating activities, noncapital activities, capital and related financing activities, and investing activities—based on the nature of the transaction. Currently, cash flows statements are required in the proprietary funds (funds reporting activities for which a government generally charges a fee for goods or services).
This document will seek input on whether there would be a need for a cash flows statement if the governmental funds were to use either of the recognition approaches other than near-term financial resources. It also would consider which cash flows categories are most relevant.
The chapter also will consider two presentation format alternatives for the resource flows statement for governmental funds:
Input on these very different formats will assist the Board in evaluating which provides financial statement users with the most understandable and useful information.
We welcome your input once the Invitation to Comment has been issued in December 2016.
Los Angeles – Municipal bond pros at the 26th annual Bond Buyer California Public Finance Conference expect interest rates to have the biggest impact on issuance next year.
In a live market survey Wednesday 50% of the audience said rates will have the biggest effect on the market, 25.8% picked new money, and 22% chose refunding activity.
A panel of municipal bond market influencers at the conference in Los Angeles, which attracted a record number of attendees, commented on results as the audience responses were tabulated. Led by moderator Jessica Matsumori, analytical leader, education team for S&P Global Ratings, the panel was comprised of Bill Lockyer, counsel for Brown Rudncik LLP and former Treasurer of the State of California, Andy Nakahata, managing director and head of new business development for the western region at National Public Finance Guarantee and Rep. Loretta Sanchez, D-Calif., a candidate for the U.S. Senate.
“It’s such a great way to get the pulse of the market,” Matsumori said.
The audience was nearly split about whether it matters if the Federal Reserve raises interest rates by less than 100 points, as 56.9% said yes and the remaining 43.1% said no. This question was especially timely, as it was announced Wednesday that the Fed will hold rates where they are now.
“Even if they did something in December, it would be a small move up. I think the question is, is the government going to step and build more infrastructure? These are issues that are hard to grapple with in Congress,” Sanchez said.
Defaults have been a hot topic, so it was surprising to see that 60.5% of the audience said that muni defaults have not affected the market.
“On an absolute rate level that is correct,” Nakahata said. “Credit spreads are so thin — but on the other hand, it has affected how certain people look at certain types of credits.”
Pensions are another popular topic and one that won’t be going anyway anytime soon. When asked what will happen if investment assumptions prove to be too optimistic for CalPERS pension returns, 43.5% said that employer/employee contributions will be increased, 20.1% said benefits will be cut for future employees, 1.3% said benefits will be cut for current employees and 35.1% said all of the above.
“Given the magnitude of the issue, it would be great to come up with a solution that is all of the above, where everyone would share a little bit of the pain, but I don’t see a clear path to achieve a solution like that,” Nakahata said.
Green bonds were also a topic of conversation, in the midst of a record year for their issuance. A whopping 50.9% of the audience said that green bonds are purely a marketing ploy and part of a fad that won’t last. Still, 31.3% said that the designation makes some difference to investors, 13.5% said they have the potential to drive serious environmental change and 4.3% said greenness is “The wave of the future – will soon be a requirement for most bonds.”
“It is going to take some time and I do think we have to wait and see what happens, but part of that will be if there is a greater definition of what exactly truly is a green bond. In order for it to be meaningful, there has to be a common [definition] which everyone subscribes to or … my cup of coffee could be a green bond,” Nakahata said.
The Bond Buyer
By Aaron Weitzman
September 21, 2016
US local governments are facing a jump in short-term borrowing costs in the latest example of how the reform of Wall Street’s $2.7tn money market industry is rippling through the financial system.
A key interest rate used to set the coupon payments on some short-dated municipal debt has moved up from what was in effect zero in March to 70 basis points this week.
“It’s huge,” said Jon Mondillo, portfolio manager at Alpine Funds, which invests in municipal bonds. “It’s been a double barrelled shot in the face for issuers.”
State governments and other public institutions that tap the municipal bond market in the US — which is tax exempt for domestic investors — have been beneficiaries of the long period of low interest rates.
The increase in the Securities Industry and Financial Markets Association (Sifma) rate catapults it above one week Libor, a global benchmark indicative of the cost of unsecured bank borrowing.
“It is a bit startling given where we have been the last seven or eights years,” said Tim Schaefer, deputy treasurer for the state of California. “Not unexpected I might add . . . It creates concern. But by no means should it cause us to give up on the market.”
The jump in Sifma’s rate will hit the $175bn market for variable rate demand notes (VRDNs), or shorter-dated debt carrying a floating interest rate that resets weekly. New York, California and Texas are some of the largest state issuers, according to Sifma data.
The upward move in borrowing costs stems from US regulators’ reform of money market funds, which invest in short-term debt sold by companies, banks as well as public borrowers such as states. The reforms allow fees to be imposed on investors pulling money out of funds during periods of financial stress and, in some instances, stop investors withdrawing money altogether.
Although the reforms do not take effect until next month, they have already prompted investors to move money out of so-called prime and tax-exempt funds, which buy debt sold by US municipalities.
Assets in tax exempt funds assets have fallen from $266bn at the start of 2016 to $143bn, according to data from the Investment Company Institute. That is the lowest level since the ICI began compiling records in 2002.
A drop in appetite to invest in such funds pushes up the cost of borrowing for municipal borrowers.
Karen Mills, treasurer for the Town of Cary in North Carolina, said the sharp move was a concern but that 70bp was still a cheap rate to issue debt at. “We are looking into it, trying to understand if the market will settle back to normal or if we should move the issuance [of VRDNs] into fixed-rate money,” she said.
Financial Times
September 16, 2016 7:32 pm
Joe Rennison in New York
Cities are experimenting with ways to meet the goals of affordable housing while still reaping the benefits of the sharing economy.
Home-sharing services like Airbnb are creating an awkward dilemma for cities and counties, especially in areas where housing costs are high. Municipalities are struggling to balance the economic boost from the growth of home-sharing services with the pressing need for affordable housing.
Before we go any further, let’s put the considerable growth of such services into perspective. One study found that 400,000 Airbnb guests who visited New York City in 2012 and 2013 spent $632 million, supporting 4,580 jobs. As compared to tourists staying in hotels, Airbnb guests tended to stay two days longer and spent nearly $200 more at local businesses during their visit.
But in New York as in other cities and counties, this new revenue comes with a hitch: Home-sharing services take apartments off the long-term rental market and are a factor in driving up rents to unaffordable levels. Airbnb alone has 1.5 million listings in 34,000 cities.
The problem is particularly acute in New York City, despite a state law that prohibits residential properties with three or more units from being rented for less than 30 days unless the permanent resident is present. According to a report released in June by a consortium of housing activists, 55 percent of the 51,000 Airbnb listings in New York City violate that law. (This June the New York Legislature passed a law barring the listing of such units on a home-sharing site; violators could be fined up to $7,500.)
The report contends that the number of vacant and available apartments in New York City would increase by 10 percent if “commercial profiteer” listings — listings that are booked several times per month and listed for at least three months per year by someone who advertises multiple apartments on Airbnb — were returned to the rental market. Presumably, rents would drop by an offsetting amount, making for significantly more affordable shelter for low- and moderate-income families.
The study showed that rents had risen fastest in the New York City neighborhoods where Airbnb is the most popular — including gentrifying, predominantly minority neighborhoods like Bedford-Stuyvesant. It’s only fair to note that the report was commissioned by affordable housing advocates who have long been critics of Airbnb.
New York is not alone in trying to deal with its home-sharing dilemma. Municipal leaders around the globe are increasingly torn between how to balance the goals of affordable housing and still reap the vitality and revenue from the so-called sharing economy.
In Chicago, city aldermen passed an ordinance in June, backed by Mayor Rahm Emanuel, that imposes a 4 percent surcharge on short-term rentals — that is, in addition to Chicago’s 17.4 percent hotel tax. The surtax will be used to help fund services for the homeless.
San Francisco, where rents are infamously high, requires short-term rental sites to take down any rental listing not registered with the city or be subject to fines for each one. Airbnb is attempting to block the ordinance by suing the city in federal court. It claims the city is violating the Communications Decency Act, which prevents governments from holding Internet platforms liable for content created by their users.
Meanwhile, several cities are tapping into home-sharing as a revenue stream — ignoring, for now, the issue of affordable housing. In a recent deal worth about $5 million a year to Los Angeles, Airbnb will collect lodging taxes from rental hosts who are supposed to, but often do not, pay the same kind of lodging taxes as hotels. L.A. tax officials have struggled to track down hosts and make sure they pay. Now they’ll get some help from Airbnb itself.
“There is going to be a lot of debate about how this industry is regulated,” Miguel Santana, L.A.’s top budget official, told the Los Angeles Times. “We just want to make sure that while that conversation is taking place, the city is not missing out on millions of dollars in revenues.”
GOVERNING.COM
BY FRANK SHAFROTH | SEPTEMBER 2016
School districts are under continuous pressures to provide a high quality education to their students with ever tighter budgets. GFOA has developed the Best Practices in School Budgeting and numerous related resources and supports in order to help school districts better align their limited resources with their student outcome and achievement goals.
Step 1. Plan and Prepare. The planning and budgeting process begins with mobilizing key stakeholders, gathering information on academic performance and cost structure, and establishing principles and policies to guide the budget process.
Step 2. Set Instructional Priorities. The budget needs to be rooted in the priorities of the district. Intentionally created instructional priorities provide a strong basis for developing a district’s budget and strategic financial plan, as well as presenting a budget document.
Step 3. Pay for Priorities. Current resources and expenditures must be thoroughly analyzed in order to find capacity to pay for top instructional priorities.
Step 4. Implement Plan. The “strategic financial plan” is the long-term road map for implementing the district’s instructional priorities. A “plan of action” describes how the strategic financial plan will be translated into coherent actionable steps.
Step 5. Ensure Sustainability. The planning and budgeting process should be one that can be replicated in the future in order to ensure the district remains focused and plans accordingly for reaching its student achievement goals.
The Best Practices in School Budgeting incorporate research proven practices into a cohesive budget process that is centered on aligning resources with student outcomes through strong collaboration of academic and finance staff. The following provides more information on the Best Practices and how to incorporate this process in your district.
A corner of the municipal-bond market that has quietly enjoyed near-zero borrowing costs for more than six years has seen interest rates spike by nearly 7,000 percent since February as investors flee tax-exempt-money-market funds.
And it may soon get worse with investors starting to price in higher benchmark rates in recent weeks. While the Federal Reserve isn’t seen tightening at this week’s policy meeting, U.S. central bankers may still boost rates as soon as December, futures contracts indicate.
“If the Fed hikes, you could see higher short-term rates,” said Anthony Valeri, fixed income strategist for LPL Financial in San Diego. Investors in munis with yields that reset periodically “will see higher yields,” he said.
Since the Fed raised interest rates in December for the first time since 2006, municipal-bond investors have enjoyed strong returns as most state and local governments have seen borrowing costs drop as inflation remained subdued. While another Fed hike could once again benefit the $3.7 trillion municipal-bond market, variable-rate borrowers are being hit with higher yields as investors bail out of municipal-money-market funds in advance of new regulations taking effect Oct. 14.
Since August, 10-year municipal bond rates have risen 13 basis points to 1.56 percent, already the biggest monthly increase since May 2015. The Federal Open Market Committee “appears to be split” on whether to raise rates when it’s next meeting winds up Sept. 21, Citigroup Inc. said in a report Sept. 12.
Municipal money-market assets have shrunk $110 billion year-to-date, according to Bank of America Merrill Lynch data. They’re now at the lowest since 1999 as investors shifted money into funds that buy only government debt, which are exempt from the new Securities and Exchange Commission rules that require floating net-asset values and impose liquidity fees and redemption suspensions under certain conditions.
Since the first of the year, the yields as measured by the SIFMA Municipal Swap index, a measure of tax-exempt debt with rates that reset every week, have risen to about 0.7 percent from 0.01 percent, the rate at which it had been near for about six years.
“The fact that SIFMA has increased by 70 basis points is pretty incredible,” said Matt Posner, principal with Court Street Group LLC in New York. “That’s primarily the result the the new regulations.”
The spike has made it difficult for issuers of short-term debt with rates that reset “to take advantage of lower rates” in the municipal-bond market, said Rob Novembre, chief executive officer of Clarity BidRate Alternative Trading System, a division of Arbor Research & Trading LLC that is being created to handle remarketing of such debt.
“Issuers of VRDOs are losing their ability to take advantage of low rates because they’re trading at taxable levels,” said Novembre.
Municipal issuers with short-term debt tied to swaps also have seen no benefit in the rise of short-term rates as the drop in long-term borrowing costs has flattened the yield curve, leaving issuers still owing large sums to unwind the hedge agreements many entered a decade or so ago. They “all are so deep underwater it’s horrible,” said Andrew Kalotay, a specialist on debt management and derivatives.
“Long-term rates have come down since the Fed increased rates,” said Bryan Kern, managing member of KPM Financial LLC, a swaps adviser based in Charlotte, North Carolina. “For a lot of folks with swaps on their books the liability has grown.”
Bloomberg Markets
by Darrell Preston
September 19, 2016 — 2:00 AM PDT
The $1.9 trillion shortfall in U.S. state and local pension funds is poised to grow as near record-low bond yields and global stock-market turmoil reduce investment gains, increasing pressure on governments to put more money into the retirement systems.
With the Federal Reserve deciding to hold interest rates steady at its meeting Wednesday, the funds will continue to be squeezed by rock-bottom payouts on fixed-income securities just as stocks fall overseas and post only modest U.S. gains. As a result, pensions in Illinois, Missouri and Hawaii this year have moved to roll back the assumed rate of return on their investments, joining the dozens that have taken that step over the past two years.
“There’s little light at the end of the tunnel as far as pension funding is concerned,” said Vikram Rai, head of municipal-bond strategy at Citigroup Inc. in New York. “I expect funded ratios will drop further. It’ll require increased pension contributions on the part of the states and local government, but most state and local governments don’t have the ability to do so.”
Pensions count on annual investment gains of more than 7 percent to cover much of the benefits that come due as workers retire. But public plans had a median increase of 1 percent for the year ended June 30, the smallest advance since 2009, when they lost 16.2 percent, according to the Wilshire Trust Universe Comparison Service.
The chief investment officer of the California State Teachers’ Retirement System, the nation’s second-biggest public pension, on Tuesday said it posted similar returns, falling short of its target for a third straight year.
When investments lag expectations, governments and employees can be called upon to increase annual contributions to make up for the shortfall that’s left behind. The decision by the Illinois Teachers’ Retirement System in August to cut its annual return forecast may increase the state’s pension bill by nearly half a billion dollars.
A reversal of fortune doesn’t seem imminent. The Fed Wednesday opted to hold the benchmark lending rate between 0.25 percent and 0.50 percent, which will keep yields low on mortgages, corporate bonds and other fixed-income securities.
“If there’s a real storm cloud on the horizon, then this is it,” said Dan Heckman, a senior fixed-income strategist at U.S. Bank Wealth Management, which oversees $133 billion. “The municipal-bond market at some point in time down the road will suffer from concerns over this level of underfunding. This is going to continue to be a source of problems for many municipalities, both at the state and local level.”
The decision to adopt more modest expectations from their portfolios has been welcomed by credit-rating companies, given than it will prod public officials to put more cash away instead of waiting for windfalls from the next bull run. S&P Global Ratings has praised the moves as positive, though it may lead to cutbacks in other types of spending.
“We continue to see states trying to balance their budgets and address growing long-term liabilities — which are a fixed portion of their budget — and the need to grow other areas,’’ said S&P’s John Sugden. “Some of these fixed costs are crowding out spending on some other pro-growth investment areas like transportation and education.”
The unfunded liabilities of U.S. public pensions — which measures how much more they need to cover all the benefits that have been promised — are already rising. The obligations stood at $1.95 trillion at the end of June, an increase of $510 billion since the end of 2013, according to the Fed’s figures.
The resulting strain has led to credit-rating cuts to New Jersey, Kentucky and Chicago, which in 2015 was cut to junk by Moody’s Investors Service. Illinois, the lowest-ranked state, has been downgraded twice by S&P since 2013 and three times by Moody’s.
In places like Chicago, where the pensions are short a combined $34 billion, the dwindling returns may diminish efforts to pull them out of the hole.
Mayor Rahm Emanuel last week pushed a plan through the city council to raise water and sewer levies to fund the municipal workers’ pension, its most underfunded. Chicago will now pay about $2 billion more to that pension than previously planned over the next six years.
But that doesn’t take into account the impact if investment performance falls below target. The municipal fund assumes returns of 7.5 percent, while only earning 1.8 percent in the year ended in December, according to actuaries. That’s left it at risk of running out of money, despite the injection of taxpayer money.
“If markets are flat or negative in upcoming years, we will continue to lose principal at a double digit rate,” Jim Mohler, executive director of the fund, told lawmakers in Chicago on Monday. “The projected insolvency for the fund will escalate.”
Bloomberg Markets
by Elizabeth Campbell
September 21, 2016 — 2:00 AM PDT Updated on September 21, 2016 — 11:06 AM PDT
When the Federal Reserve gets around to raising interest rates, bond buyers may find some shelter in a mainstay of the municipal market.
Investors should consider purchasing high-coupon state and local debt that governments have the right to buy back at face value in the future, Alan Schankel, a managing director at Philadelphia brokerage Janney Montgomery Scott, wrote in a report released Monday. While the securities are trading well above par — exposing holders to losses if they’re forced to sell them back for 100 cents on the dollar — the higher interest payments mean the bonds won’t fall as much as others when the central bank moves.
Such debt, known as cushion or kicker bonds, typically pays periodic interest at a rate of 5 percent, a level Schankel said has because “almost ubiquitous.” When the price is factored in, that leaves a yield of 2.14 percent for securities that are called in 9 years, amost half a percentage point more than benchmark 9-year debt, according to Schankel.
“The potential for higher yields combined with the defensive nature of cushion bonds make them worthy of consideration for most municipal-bond portfolios, especially with tax-free interest rates hovering near a 50-year low,” Schankel wrote.
Investors are expected to have time to prepare their defense. The futures market predicts there’s only a 20 percent chance that the Fed will lift its overnight lending rate when it meets on Wednesday. Policymakers have held the benchmark steady since December, when it was raised for the first time since 2006.
Bloomberg Markets
by Romy Varghese
September 19, 2016 — 10:21 AM PDT
Taylor Riggs, a contributor to Bloomberg Briefs, talks with Joe Mysak about this week’s municipal market news.
September 22, 2016
Fitch Ratings-New York-15 September 2016: The volume of public power and water utility bond refundings remains high and has provided considerable budget flexibility in recent years, as debt-service expenditures have dropped, says Fitch Ratings. However, we forecast that long-term US interest rates will rise over 100 bps by year-end 2018. In our view, a rise of that magnitude could reduce refunding volume and limit the budget headroom from which utilities have benefitted.
According to “The Bond Buyer,” which utilizes Thomson Reuters data, refunding again represents the largest use of debt proceeds so far this year. Of the $33 billion of issuance by municipal power and water utilities during first-half 2016, over $16.8 billion of the proceeds, or 51%, were used exclusively for refunding. Moreover, $7.5 billion in proceeds, or 23%, were classified as combined-use, suggesting that some portion was also used for refunding. In 2010, only 21% of issuance proceeds were used exclusively for refunding.
The replacement and refunding of debt at lower rates has allowed public power and water utility issuers to reduce interest expense, thereby creating headroom to recover increasing costs related to environmental compliance, demand-side management initiatives, resource acquisitions and the replacement of aging infrastructure, while limiting rate increases for service.
Lower debt service expenditures have also helped water issuers to address budget shortfalls and recover fixed costs, as consumption patterns have stagnated due to greater appliance efficiencies and drought curtailments. Difficulties in recovering all costs stem from rate structures that traditionally have generated the bulk of revenues from customer usage, while the vast majority of utility costs are fixed in their nature. Together, the trends of declining debt service and greater revenue flexibility have broadly resulted in sustained improvement in financial medians in recent years.
Going forward, the benefits of refunding could decline if a rise in interest rates materializes. Fitch expects the Fed to raise rates once this year and twice in 2017, and our forecast is for 10-year US Treasury yields to reach 2.2% by year-end 2017 and 2.8% by year-end 2018. These increases are manageable and would result in rates that are still low by historical standards; however, we believe the gains from refunding are finite and that even a small rise in interest rates could retard recent improvements and result in additional upward pressure on electricity and water rates.
Contact:
Dennis Pidherny
Managing Director
US Public Finance
+1 212 908-0738
Douglas Scott
Managing Director
US Public Finance
+1 512 215-3725
Rob Rowan
Senior Analyst
Fitch Wire
+1 212 908-9159
Media Relations: Alyssa Castelli, New York, Tel: +1 (212) 908 0540, Email: alyssa.castelli@fitchratings.com.
The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings.
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View and download data from SIFMA’s new interactive database, Capital Markets in Your State, including top municipal, corporate and equity issuers, securities industry employment and more.
Click here to view the database.
New York, September 13, 2016 — Moody’s Investors Service, at the request of the New York City Municipal Water Finance Authority, has reviewed a proposed change to supplemental resolutions for its variable rate demand bonds.
The change will eliminate the requirement that successor remarketing agents be rated. Remarketing agents are often capital markets subsidiaries of banks and often are not themselves rated.
Moody’s has determined that the change, in and of itself and as of this time, will not have an adverse effect on the long term credit quality of the Authority’s bonds, currently rated Aa1 (first and second resolutions) with a stable outlook, and therefore will not result in reduction or withdrawal of Moody’s ratings. Moody’s does not express an opinion as to whether the change has, or could have, other non credit-related effects.
This publication does not announce a credit rating action. For any credit ratings referenced in this publication, please see the ratings tab on the issuer/entity page on www.moodys.com for the most updated credit rating action information and rating history.
Nicholas Samuels
Lead Analyst
State Ratings
Moody’s Investors Service, Inc.
7 World Trade Center
250 Greenwich Street
New York 10007
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JOURNALISTS: 212-553-0376
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Emily Raimes
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State Ratings
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State and local governments are trying unconventional ways to fund their pension liabilities, such as offering lump-sum cash payments to employees.
When it comes to chipping away at pension liabilities, there aren’t a lot of options. In some places, lawmakers can freeze cost-of-living increases to pension payments or move back retirement dates for existing employees. But that’s not legal everywhere. So the majority of pension reforms in the past decade have targeted new employees and focused on controlling the growth of future liabilities.
But some places are getting more creative.
In Philadelphia, where the municipal pension plan is less than half-funded, Controller Alan Butkovitz is pushing a buyout of sorts aimed at the city’s most expensive workers. In exchange for taking an upfront cash payment based on their estimated lifetime benefits, the employee or retiree would accept a reduced level of pension benefits going forward. The benefits would be equivalent to what newer Philadelphia public employees are receiving now.
“We’ve settled on benefits right now that everyone agrees are reasonable and humane,” said Butkovitz. “Their survival and living standard is protected. If you’re going to give them a lump sum of money, behaviorally, people prefer that approach.”
The buyouts would be offered to 31,000 city retirees and 2,500 active employees who are members of Plan 67, the city’s oldest and most generous pension plan in which employees can receive up to 100 percent of their final salary in retirement. Plan 67 is responsible for $5 billion of the city’s roughly $6 billion in unfunded liabilities.
If every eligible plan member takes the buyout, it would reduce Philadelphia’s unfunded liability by $1 billion, according to an independent audit. And, the idea goes, those who opt for the lump-sum payment could use it as an opportunity to pay off debt or a mortgage, or start a new business.
Philadelphia isn’t the only place where hamstrung officials are considering unconventional solutions for their pension plans.
In Illinois, where courts have ruled against any changes to retirees’ payments, lawmakers have contemplated lump-sum payouts to reduce their unfunded pension liability. The state’s public employees plan is currently 34 percent funded.
In Connecticut, Gov. Dannel Malloy is pushing a plan that would split its troubled state employees’ pension fund into two, as a way of isolating the unfunded liability.
Experts say the main difficulty with these approaches is that they tend to be more complicated than they are effective. The proposal in Connecticut doesn’t reduce the actual amount the government owes its retirees — it merely pays for the more expensive pension benefits directly out of the state’s annual budget so the liabilities are not on the pension fund’s balance sheets.
“The split is a helpful accounting exercise, but it really comes down to: Are you really putting in today what you need for the future?” said Greg Mennis, director of The Pew Charitable Trusts’ public-sector retirement systems project.
Connecticut, he added, has a history of not paying its pension bills, which is why the system is so underfunded. S&P Global Ratings said last year that the split could worsen the state’s unfunded liabilities and warned it could downgrade Connecticut if it moved ahead with Malloy’s proposal.
“There are no panaceas,” said Mennis.
Pension buyouts have worked in the corporate sector where employees have taken a lump-sum payment at a slight haircut. But they haven’t been done in the public sector, thanks to the different accounting rules for public pensions that make their liabilities appear lower than comparable corporate-sector plans, said Josh B. McGee, senior fellow at the Manhattan Institute and vice president of public accountability at the Laura and John Arnold Foundation.
That can mask what a government would actually owe an employee who wants to cash out today. Indeed, an initial analysis of Bukovitz’s original idea of a straight pension buyout proved to be too expensive for the city.
The optics are also a challenge, said McGee. “Politically, you’re saying you’re going to cash out and give someone a lump sum. The public perception of that is not that great.”
As for what’s next, Butkovitz said the pension board this month is discussing a number of issues it would like to address via a member survey, including the minimum threshold for participation, the age range of people opting in and whether those who take a lump-sum payment would also agree to financial management classes.
GOVERNING.COM
BY LIZ FARMER | SEPTEMBER 15, 2016
New Census data shows some cities have a lot of residents who consume more public services than they contribute in taxes. That can cause fiscal problems down the road.
Demographic data can say a lot about who lives in a city. It can also be an indicator of that city’s finances.
Generally speaking, if a city has a high number of residents who consume more public resources than they contribute to the tax base, there will more likely be potential problems for that city’s fiscal outlook.
New 2015 estimates from the Census Bureau’s American Community Survey published Thursday provide an updated demographic snapshot for localities. We’ve compiled data on a few key measures — poverty, aging populations and employment status — for the 500 largest cities, showing places facing steeper demographic hurdles.
GOVERNING.COM
BY MIKE MACIAG | SEPTEMBER 15, 2016
The use of private financing to develop microgrids — alternative sources of power generation for use when the energy grid goes down — is on the rise and a growing level of investment is occurring through P3s.
Although 90 percent of microgrid projects had been financed entirely by their private users from 2010 to 2014, the amount of mixed investment in such projects is expected to reach 38 percent this year. Partners will include utilities and public agencies, according to an article in the Aug. 30 issue of Utility Dive.
The use of microgrids to distribute power produced diesel generators solar arrays, combustion turbines and other equipment, is increasing rapidly as well, possibly due to the infrastructure damage caused by serious weather events, such as hurricanes and western wildfires. Interest in microgrids surged in 2012 in the wake of Hurricane Sandy, for example. As a result, U.S. microgrid capacity is expected to reach 4.3 gigawatts in four years, a 116 percent increase in annual installed capacity, according to a report on microgrids published by GTM Research (paywall).
The Port of Los Angeles is also teaming up with Pasha Stevedoring & Terminals L.P. the private company that runs the port, to replace its aging electrical system by installing a $27 million rooftop solar photovoltaic system that will be supplemented by a 2.6 megawatt battery storage system, PV Magazine reported. The Green Omni Terminal Project will be a scalable model that can be used to upgrade the port’s other 26 terminals and others nationwide.
The California Air Resources Board is also providing $14.5 million for the project, which is designed to help the port meet the state’s strict air quality requirements and will incorporate electric vehicles and cargo handling equipment into port operations.
In addition to its environmental benefits, building a microgrid to distribute the energy produced could help the port keep functioning during a disaster or an attack and save a great deal of money. It has been estimated that total service disruption at the port could cost the national economy a billion dollars a day.
Examples of small-town supplemental energy P3 projects — which could lead to microgrid development — are starting to sprout up as well. The village of Minster, Ohio, which owns a local electricity distribution network, negotiated a power purchase agreement with energy and financing company Half Moon Ventures. The company financed the construction of a 3-megawatt solar array and a 7-megawatt lithium-ion energy storage system. The agreement sets electricity fees at prices comparable to those charged by the regional utility and will allow the city to store energy to prevent power disruptions to key businesses in the area should the primary power grid fail, another Utility Dive article said. The project’s success has caused Minster to begin considering building its own microgrid.
Although the ability to build a microgrid may be beyond the reach of many small communities — especially those that do not have access to private financing — large companies, such as Walmart and Ikea could benefit from the existence of this infrastructure through which they could buy renewable energy through power purchase agreements negotiated with alternative energy producers.
NCPPP
September 12, 2016
WASHINGTON – Money market mutual funds’ holdings of municipal bonds fell by nearly $42 billion dollars between the second quarter of this year and the same period last year, a change that is partially the result of soon-to-become-effective rule changes from the Securities and Exchange Commission.
The recorded drop was part of the municipal data the Federal Reserve Board released on Friday in its quarterly Flow of Funds report.
The total amount of money market fund municipal securities holdings in the second quarter of 2016, $216.2 billion, is roughly 16% less than the $257.9 billion the funds held in the same quarter last year. It is a 30% drop from the $309 billion in munis the funds held at the end of 2013.
The decline occurred in the months before a new SEC money market rule is set to take effect on Oct. 14. The rule requires certain money market funds offered to institutional investors to change their method of calculating their net asset value (NAV), or the value per share, to floating from fixed. The rule is designed to prevent investors from getting out of money market funds on a large scale, which happened to the Reserve Primary Fund during the financial crisis in 2008.
Matt Fabian, a partner with Municipal Market Analytics, said that while the SEC rule played a role, the decline can largely be attributed to the trouble tax-exempt rates have had competing with the rising LIBOR. This has happened in the case of retail money market funds, which are not subject to the SEC rule changes but are also seeing large declines.
“In my mind, a big part of the [LIBOR] increase is going to be temporary because the market doesn’t know what is going to happen on Oct. 14 when the new [SEC] rule gets fully unrolled,” Fabian said.
He added that cash managers are reallocating away from money market funds until then, but that once Oct. 14 comes, as long as “the world doesn’t end,” he expects some assets would go back into the funds while a significant portion of the allocations away from the funds will remain permanent.
In all, according to Fabian, money market fund muni holdings have decreased to just over $140 billion as of Sept. 14 from more than $500 billion in 2008.
The flow of funds data also showed the general trend of a decrease in household ownership of munis coupled with an increase in U.S. bank ownership of the securities continued in the second quarter of this year. Household holdings of munis were down 5.2% year over year, falling to $1.64 trillion in 2016 from $1.73 trillion in the same quarter last year. Over that same period, bank holdings increased 10%, rising to $524.1 billion from $474.6 billion the year before.
Household ownership of munis is now down 10.3% from its $1.83 trillion of holdings in 2013 and U.S. bank ownership of munis is up 25% from its $418.9 of muni holdings that same year.
The SEC’s Investor Advocate Rick Fleming recently addressed the narrowing of household ownership of munis in a speech he delivered at the Municipal Securities Rulemaking Board’s Securities Regulator Summit on Aug. 25. He said that data as current as December 2015 showed individuals owned approximately 70% of munis either directly or indirectly through mutual funds or other pooled investment vehicles, but added that “if you drill beneath those statistics, some interesting – and some might say troubling – patterns emerge.”
Fleming said that the wealthiest one-half percent of U.S. households now own roughly 42% of all munis. The bottom 90% of households hold less than 5%. Additionally, only 2.4% of households hold any municipal debt, he said.
The Bond Buyer
By Jack Casey
September 16, 2016
In 2015, 13 states didn’t allocate any private activity tax-exempt bond (PAB) cap to affordable rental housing, according to the Council of Development Finance Agencies (CDFA). Meanwhile, also in 2015 $65 billion in available PAB cap went unused, $54.5 billion of which was carried forward to 2016. And from about 30 states according to the CDFA, an aggregate $10.5 billion could not be carried forward and was abandoned last year. A rough estimate indicates this lost resource just in one year could have made possible 80,000 more affordable apartments. At a time when affordable housing needs throughout the United States are so great, now is the time to review how to unleash this bond cap so more affordable rental housing can be built.
Novogradac & Company LLP
Published by Michael Novogradac on Monday, September 12, 2016 – 12:00am
Executive Summary:
Continue reading.
by Christine Todd, CFA – President of Standish and Head of the Tax-Sensitive and Insurance Strategies
September, 2016
Summary
The description, versus the definition of appropriation bonds is a contradiction in terms. In a financial context, bonds imply the existence of debt. There are lenders and a borrower who is legally obligated to repay the debt under terms of a contract. If violated, bondholders have the right to seek repayment in court.
Appropriation backed municipal bondholders do not have the right to seek repayment in court. The entity that is the source of the appropriation for P&I has no legal obligation to make that appropriation resulting in near immediate monetary default.
Appropriation bonds are issued by a large number of state corporations of the most populous states. Those states have authorized many local governments to issue them as well. All to circumnavigate limits and restrictions on the issuance of legally enforceable debt.
Ironically, it is precisely the voluntary non-mandatory nature of the P&I appropriation that makes their issuance legal – the bonds do not constitute debt within the meaning of constitutional law or statute.
To the uninitiated, the above facts might seem hard to believe, but there is a rational for their large presence since first being introduced in the early 1980’s by the New York State Municipal Assistance Corporation. Originally, they were referred to as “moral obligation” bonds.
Investors are willing to buy appropriation bonds because they understand that failure to make an appropriation for P&I would have a large negative impact on creditworthiness of the appropriating entity
This is undoubtedly true, as long as the appropriating entity, most are states, does not fall on hard times or mismanage its debt or both. In either case, appropriation bonds are the first to go unpaid because the issuer has no legal obligation to repay them.
The U.S. municipal bond market is the only debt market where appropriation backed bonds exist. They account for approximately 20% of the $3.5 outstanding, or $700 billion.
States and municipalities that partake in appropriation financings aren’t the issuers of this kind of “debt”. Instead, they are the appropriating entities that support P&I, not the bond issuers. Governments create state and municipal corporations to be the issuers of all outstanding appropriation backed bonds.
There is simply no legal authorization for any state or municipality to directly issue appropriation backed bonds.
Unfortunately, standard nomenclature to identify appropriation risk does not exist. Not all state corporations issue appropriation bonds. Many constitute government sponsored essential service enterprises. Their bonds are secured by user charges and fees, not by appropriation or general taxation.
To determine whether the bond has appropriation risk, look for phrasing like the following on the cover page of the issue’s official statement.
“The obligation of the State to make financing agreement payments is subject to the State Legislature making annual appropriations for such purpose and such obligation does not constitute or create a debt of the State, and the State has no continuing legal or moral obligation to appropriate money due under any financing agreement.”
Disclosure may instead refer to pledged revenue under a lease or other form of payment agreement. Currently, certificates of participation and pension funding obligations are descriptions commonly used by localities issuing appropriation bonds.
The description of appropriation bonds can be very misleading. The above referenced disclosure quote was taken from an issue of Dormitory Authority of the State of New York Sales Tax Revenue Bonds Series 2015B. There is a high likelihood that bondholders think their investment is secured by a continuing claim on the State’s sales tax. But in fact, payment of P&I rest on voluntary annual appropriations
Appropriation bonds are issued by localities to fund delinquent retirement contributions. They have played a leading role in precipitating almost every municipal bankruptcy going back to and including the Orange County, California default in the 1980’s.
Detroit’s $1.5 billion appropriation pension funding bonds were settled under Chapter 9 at 14 cents on the dollar.
The bonds had a security interest in additionally gaming taxes that generated 14% of P&I. Had it not been for the fact the bonds had a real security interest in other revenues, a recovery value of zero cents on the dollar can be seen. I cannot see why appropriation bondholders even deserve standing in Chapter 9 proceedings. It may evolve to that.
The presence of these non-debt debts is largely the result of constitutional constraints on the issuance of enforceable state and local debt. Unlike enforceable bonds, they can be issued for any purpose and in any amount the issuer chooses and the market will accept. There is potential for misuse.
All but a handful of U.S. states are limited to the issuance of general obligation bonds by their constitutions. GO authorization requires voter approval which is not always forthcoming. That leaves appropriation bonds as the only alternative source of capital improvement funding.
From the investor point of view, I see two solutions, constitutional amendments giving states more flexibility to issue enforceable debt, or providing investors with significantly higher rates on appropriation debt to compensate for the additional risk. Personally, I would stay away from a locally issued appropriation bonds.
Seeking Alpha
Sep. 19, 2016 2:25 AM ET
Carl Dincesen
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
When one of the tiniest pension funds imaginable — for Citrus Pest Control District No. 2, serving just six people in California — decided last year to convert itself to a 401(k) plan, it seemed like a no-brainer.
After all, the little fund held far more money than it needed, according to its official numbers from California’s renowned public pension system, Calpers.
Except it really didn’t.
In fact, it was significantly underfunded. Suddenly Calpers began demanding a payment of more than half a million dollars.
“My board was somewhat shocked,” said Larry Houser, the general manager of the pest control district, whose workers tame the bugs and blights that threaten their corner of California citrus country. It is just a few miles down the road from Joshua Tree National Park.
It turns out that Calpers, which managed the little pension plan, keeps two sets of books: the officially stated numbers, and another set that reflects the “market value” of the pensions that people have earned. The second number is not publicly disclosed. And it typically paints a much more troubling picture, according to people who follow the money.
The crisis at Citrus Pest Control District No. 2 illuminates a profound debate now sweeping the American public pension system. It is pitting specialist against specialist — this year in the rarefied confines of the American Academy of Actuaries, not far from the White House, the elite professionals who crunch pension numbers for a living came close to blows over this very issue.
But more important, it raises serious concerns that governments nationwide do not know the true condition of the pension funds they are responsible for. That exposes millions of people, including retired public workers, local taxpayers and municipal bond buyers — who are often retirees themselves — to risks they have no way of knowing about.
“One of the first things I think you should do is publish that number for every city,” said William F. Sharpe, professor emeritus of finance at Stanford University’s Graduate School of Business who won the Nobel in economic science in 1990 for his work on how the markets price financial instruments. He is also a California resident who voluntarily helped his city, Carmel-by-the-Sea, crack the secret pension code — figuring out the market value of its debt to its retirees in 2011 before Calpers resolved to start divulging the information later that year.
“We just about nailed it, which made us feel very good for ourselves — but very bad for the city,” Professor Sharpe said. On a market basis, the city turned out to be $48 million short of what it owed retirees, or four times what the official numbers showed.
The two competing ways of valuing a pension fund are often called the actuarial approach (which is geared toward helping employers plan stable annual budgets, as opposed to measuring assets and liabilities), and the market approach, which reflects more hard-nosed math.
The market value of a pension reflects the full cost today of providing a steady, guaranteed income for life — and it’s large. Alarmingly large, in fact. This is one reason most states and cities don’t let the market numbers see the light of day.
But in recent years, even the more modest actuarial numbers have been growing, as populations age and many public workers retire. In California, some struggling local governments now doubt they can really afford their pension plans, and have told Calpers they want out.
In response, Calpers has calculated the heretofore unknown market value of their pension promises — and told them that’s the price of leaving, payable immediately. Few have that much cash, so it’s welcome to the Hotel California: You can check out anytime you like, but you can never leave.
Calpers says it must bill departing governments for every penny their pensions could possibly cost because once they cash out, Calpers has no way of going back and getting more money from them if something goes wrong. Calpers keeps that money in a separate “termination pool.”
Things went differently for Citrus Pest Control District No. 2. It withdrew first, before realizing the shortfall. Then, four months later, it got the unexpected bill from Calpers.
“I was opening the mail and thinking, ‘Can this be right?’ I thought they put an extra zero on it,” said Tim Hoesterey, one of the district’s two employees.
The bill came just as the district was building up a war chest to fight a virulent new citrus blight, a disease that had already devastated groves in Florida. The directors had armed themselves by raising a growers’ tax per acre fivefold. Suddenly, paying Calpers would wipe out the whole citrus blight reserve.
Some wondered if they should just declare bankruptcy.
“There are people selling their farms, trying to get out of the business, because they can’t make a profit anymore,” Mr. Hoesterey said. He called Calpers to see if the district could get a break, an extended due date, or even stay with Calpers after all. Calpers said no. It was a done deal.
A Calpers spokeswoman, Amy Morgan, said such questions suggested “a misunderstanding of the purpose of Calpers.”
“Calpers does not exist to make money,” she said. “Calpers exists to fully pay out benefits that are promised to its members.” She said the law required Calpers to perform a complete valuation after the termination date had passed, and to recover all the money needed to ensure that the retirees would be paid in full.
Today in California, both the market values and the actuarial pension values for many places are available on a website run by the Stanford Institute for Economic Policy Research. But for the 49 other states, the market numbers remain unknown.
The market-based numbers are “close to the truth of the liability,” Professor Sharpe said. But most elected officials want the smaller numbers, and actuaries provide what their clients want. “Somebody just should have stopped this whole charade,” he said.
For years, people have been trying to do just that. In 2003, the Society of Actuaries, a respected professional body, devoted most of its annual meeting to what was called “the Great Controversy” — the notion that the actuarial standards for pensions were fundamentally flawed, causing systemic underfunding and setting up a slow-moving train wreck when baby boomers retired. It drew a standing-room-only crowd.
The problem reaches far beyond pensions, and into the $3.7 trillion municipal bond market. The reason is that municipal bond ratings take into account the strength (or weakness) of government pension plans. If those numbers have been consistently wrong, as dissidents argued, then actuaries were helping mislead the investors buying municipal bonds.
Arguably, the flawed standards worsened the problem with each passing year: Actuarial values determine the annual contributions that states and local governments make to their pension plans, so if the target numbers are too low, the contributions will always be too small. Shortfalls will be compounding, invisibly.
Much of the debate surrounded the routine practice of translating future pension payments into today’s dollars, which is called discounting. The tiny pension plan at Citrus Pest Control District No. 2 shows clearly what the problem is.
With everybody either retired, or about to be (Mr. Houser will retire later this year), there is no guesswork in determining everybody’s pensions. The actuaries at Calpers project each of the future monthly payments due to Mr. Houser and the other five retirees, assuming they will live to age 90. (Mr. Hoesterey is not included because his retirement benefit is the new 401(k) plan.) Then, they translate all those future payments into today’s dollars with a rate — often called a discount rate. This is exactly how a lender would calculate a home mortgage.
The problem is, which rate should be used? An economist would say the right rate for Calpers is the one for a risk-free bond, like a Treasury bond, because public pensions in California are guaranteed by the state and therefore risk-free. And that’s what Calpers does when it calculates market values. It used 2.56 percent when it calculated the bill for the pest control district, producing a $447,000 shortfall.
But the rest of the time, Calpers and virtually all other public pension funds use their assumed annual rate of return on assets, now generally around 7.5 percent. Presto: This makes a pension appear to have a much smaller liability — or even a surplus.
That was the case with the pest control district for years. And since there seemed to be a surplus, Calpers said the district owed no annual contributions. Calpers’s numbers hid it, but the six members’ pensions were going unfunded.
“Every economist who has looked at this has said, ‘It’s crazy to use what you expect to earn on assets to discount a guaranteed promise you have made. That’s nuts!’” Professor Sharpe said.
But what he calls crazy is enshrined in the actuarial standards. And since adhering to the standards makes public pensions look affordable, there is a powerful incentive to preserve those standards.
“Actuaries shamelessly, although often in good faith, understate pension obligations by as much as 50 percent,” said Jeremy Gold, an actuary and economist, in a speech last year at the M.I.T. Center for Finance and Policy. “Their clients want them to.”
Mr. Gold was also a ringleader of that stormy professional meeting in 2003. Since then, there have been more conferences, monographs, speeches, blue-ribbon panels and recommendations — to say nothing of an unusual spate of municipal bankruptcies and insolvencies in which ailing pension plans have played starring roles. And yet little has changed.
Even as Citrus Pest Control District No. 2 was scrambling to find the cash to pay its unexpected bill this year, another fight broke out within the American Academy of Actuaries, which represents the profession in Washington, over the same issues.
An academy task force had commissioned a paper on how financial economists would measure public pensions. But during the peer review process, the opus was spiked, the task force disbanded and the four authors — Mr. Gold among them — barred from publishing the work elsewhere.
Accusations of censorship flew. The four authors said the academy’s copyright claims were false. The academy’s president, Thomas F. Wildsmith IV, said in a statement to members on the academy’s website that the paper “could not meet the academy’s publication standards.”
In a separate email message to The New York Times he said the academy was committed to helping the public understand the different measurements, and provided a position paper concluding that both measures are useful, but for different purposes.
Then the Society of Actuaries, which handles the education and testing of actuaries, joined the fray. It posted the suppressed paper on its own website, albeit with the authors’ names removed. It claimed to hold the copyright jointly with the academy. It also added a statement that the paper did not reflect the position “of any group that speaks for the profession” but called the authors “knowledgeable.”
The society’s president, Craig W. Reynolds, sent an email message citing other efforts “to develop strong funding programs that are responsive to a rapidly changing environment.”
The four authors then issued a revised version of their paper, with their names on the front — and a claim that they held the copyright. The paper, which runs 19 pages, says in brief: Use market values for public pensions.
Professor Sharpe noted that Calpers’s market-based method was “virtually the precise approach advocated in this paper.”
Almost, but not entirely.
At Citrus Pest Control District No. 2, Mr. Hoesterey said Calpers added a final twist. It took so long to calculate the district’s final payment that the bill arrived four months after the district’s withdrawal date — and then it charged four months’ interest, at 7.5 percent, on the late payment.
Ms. Morgan, the spokeswoman, said the four-month lag was “unfortunate but unavoidable.”
Mr. Hoesterey said Calpers should have warned the district well in advance how big the bill might be, to give it time to find the money. “I kept asking: ‘Does this seem fair to you? What other organization conducts business like this?’” he said.
Seeing no way out, the district paid the whole thing.
THE NEW YORK TIMES
By MARY WILLIAMS WALSH
SEPT. 17, 2016
Kate Boatright discusses some prison rating changes, in light of recent DOJ memo, and Carol Spain provides an update on the status of OPEB liabilities at the state level.
Sep. 14, 2016
In this CreditMatters TV segment, Larry Witte, Senior Director with Global Fixed Income Research, discusses findings for the second quarter of 2016, which was the 15th straight to see more ratings upgrades than downgrades in U.S. public finance.
Sep. 16, 2016
Voters will have more than Donald Trump and Hillary Clinton to consider at the polls in November; they’ll be weighing whether to approve spending for over $200 billion for roads, transit systems, schools and other projects.
For the first time since 2008, voters will see more than half a dozen so-called mega infrastructure projects on ballot measures, including $120 billion in Los Angeles; $53.8 billion in Seattle; $4.7 billion in southeastern Michigan and $2.5 billion in Atlanta. In California, voters will decide on funding housing for the homeless, $9 billion of school-facility bonds and to further finance San Francisco’s transit system. Colorado ballot measures contain $4 billion of bonds for schools in various districts.
Officials are banking on voters giving them authority to tap into near record-low municipal bond interest rates to address a backlog of projects estimated at $3.6 trillion, according to the American Society of Civil Engineers in Washington.
“Everyone’s been talking for years that interest rates are low and it’s a good time to borrow,” said Natalie Cohen, managing director for municipal-securities research with Wells Fargo Securities LLC in New York. “Lower interest rates are with us now, but there’s some expectation they will go up.”
The long list of projects is viewed as a sign of renewed confidence in many state and local governments that a stronger economy has restored revenues and made it possible to focus on new spending to address the backlog of needs including road and highways, transit systems and sewer and water works. The need for such spending has been injected into the U.S. presidential campaign, with both Clinton and Trump promising hundreds of billions of dollars for the country’s fraying infrastructure.
“What we’re seeing going on at the ballots is state and local governments acknowledging they have an infrastructure problem and are now showing a willingness to do something about it,” said Brian Pallasch, managing director government relations and infrastructure initiatives at the civil engineers society. “This problem has been building for years.”
Overall the financial health of many state and local governments continues to improve after suffering setbacks after the financial crisis that began in 2008. S&P Global Ratings said in July that increased consumer spending and housing market expansion have helped improve the credit conditions. And state spending has surpasses pre-recession peaks even as growth continues to lag and pressure state finances, BlackRock Inc. said in a report last month.
Municipalities across the country have already sold more than $294 billion of bonds this year, on pace to surpass 2010’s record amount of bond issuance. More of the bonds are going to fund new infrastructure rather than refinancing higher cost debt sold in previous years, a sign that officials are trying to catch up on needs neglected after the worst recession since the 1930s.
Projects oriented toward improving transportation got a boost this year after Congress and the president approved a $305 billion highway bill that will provide funding over five years, said Wells Fargo’s Cohen, the first long-term surface transportation legislation in a decade. The program creates matching opportunities for local projects. Transportation is the largest need of the civil engineers group’s list.
In Los Angeles, municipal officials are pushing for a new half-cent sales tax and the extension of an existing levy that could raise $120 billion for transportation infrastructure over the next four decades. The plan calls for funding transit projects, road and highway construction as well as walking and biking routes.
“We believe that we will settle once and for all the transportation challenges” in Los Angeles, Phillip Washington, chief executive officer of the Los Angeles County Metropolitan Transportation Authority, said Monday during a conference call on transportation projects.
In general, voters have shown a willingness to approve bond and tax issues. Integrated Market Systems, a San Diego company that tracked 295 bond issues on the ballots during primaries before May 25, found that 77 percent were approved by voters. In March, North Carolina voters approved $2 billion of bonds for new buildings at the University of North Carolina and community colleges, local water and sewer systems, parks and other projects.
“The success of funding ballot measures is very high,” said Michael Likosky, infrastructure principal at 32 Advisors, a New York firm that advises on investments. “Governments are getting stabilized and asking for infrastructure funding again.”
Bloomberg Markets
by Darrell Preston
September 13, 2016 — 2:00 AM PDT
New York’s transit agency is cashing in on the massive development rising from an industrial landscape on Manhattan’s far west side.
The Metropolitan Transportation Authority, which typically uses fare-box revenue and bridge and tunnel fees to secure its debt, raised $1.06 billion Wednesday by selling its first bonds backed by real-estate. The securities will be repaid from money the agency receives from leasing land in Hudson Yards, a 26-acre site whose development has triggered a surge of construction in residential towers, office space and retail near the riverside west of Eighth Avenue.
Goldman Sachs & Co., the lead underwriter on the deal, priced the bonds — which have 5 percent coupons and mature in 2046, 2051 and 2056 — at yields of 1.88 percent, 2.38 percent and 2.63 percent, respectively, according to data compiled by Bloomberg.
“People like larger names in high-tax states that are unique in their credit story,” said Sean Carney, head of municipal strategy at BlackRock Inc., which manages about $124 billion of municipal debt.
The Hudson Rail Yards Project, developed by affiliates of Related Cos and Oxford Properties Group, is transforming Manhattan’s largest tract of undeveloped land. When completed by 2029, it will have three office towers, nine residential buildings, 1 million square feet of retail anchored by Neiman Marcus, a luxury hotel, 15 acres of public space and a cultural center. Monthly rent payments will cover the bonds. Time Warner Inc., KKR & Co. and Wells Fargo & Co. are among the future occupants.
The new bonds, called Hudson Rail Yards Trust Obligations, may be a draw to New York investors looking to diversify their portfolios, said Scott Richman, chief investment officer at Whitehaven Asset Management, which oversees $110 million of assets, the bulk of which is municipal debt.
“For the mutual funds, this entity will count as a different name and for better or worse a different name is actually worth a lot in the municipal market,” Richman said. “So even though it might have a similar credit backing to a much larger issuer, that will create demand within the space.”
The sale comes amid strong demand for municipal bonds that has kept yields — which move in the opposite direction as price — near record lows. The MTA’s most actively traded securities — revenue bonds with a 4 percent coupon that mature in 2036 — changed hands Wednesday at an average yield of about 2.6 percent, down from a 2.67 percent yield when they were first sold on June 23, according to data compiled by Bloomberg.
MTA’s rail yards run from 30th to 33rd streets and between Tenth and 12th Avenues. The MTA leased the airspace above the above the rail yards to Related and Oxford. The developers are almost finished building a platform over the eastern half of the site and will do the same on the western half.
The rail yards are the center of a larger rehabilitation of the once-decrepit area, called the Hudson Yards District. A new 7 subway line station, financed by $2 billion of city bonds, opened on the site a year ago to connect the area to midtown Manhattan. To the south is the High Line, a landscaped promenade on a former elevated rail line that extends from Greenwich Village through part of Chelsea.
The MTA’s real estate consultant Jones Lang LaSalle Americas, Inc. has valued the Western Rail Yards at $3.2 billion to $3.7 billion, according to bond documents.
“With this transaction MTA is taking advantage of significant value of the Hudson Rail Yard assets and low interest rates to monetize the ground leases on the Eastern and Western Rail Yards,” Pat McCoy, the agency’s finance director, said in an e-mail.
The bulk of the bond proceeds will repay notes the MTA sold to finance capital projects ahead of the sale, according to McCoy. In the event a tenant defaults on lease payments, the agency agrees to pay interest on the bonds for up to seven years, according to McCoy. The MTA also has the option to take over a defaulted lease and make the full payments.
Moody’s Investors Service rates the bonds A2, its sixth-highest investment grade and one step below MTA’s transportation revenue bonds, citing the stability provided by the escalating ground rent payments, given the high value of the real estate. Kroll Bond Rating Agency assigned its A- rating, one step lower.
The bonds may be redeemed early if Related and Oxford elect to prepay their leases, which could leave debt due in 2056 paid off by 2026, under one scenario.
“All of a sudden you don’t have a long bond in your portfolio, you have a 10-year security,” said Robert Amodeo, head of municipals in New York for Western Asset Management Co., which holds $25 billion of the securities.
There’s also a risk that development of the Western Rail Yards may fall behind schedule and real estate values could fall, he said.
Those risks are offset by the structure of the lease payments, which are senior to mortgage payments paid by Related and Oxford and the MTA’s willingness to step in to pay interest payments if there’s a default. The developers and lenders have a strong motivation to avoid default, said Rachael McDonald, a Moody’s analyst in New York.
“Given the high potential value of the properties once completed, we believe there are strong incentives in place for the tenants to pay,” McDonald said.
Bloomberg Markets
by Michelle Kaske and Martin Z Braun
September 14, 2016 — 2:00 AM PDT Updated on September 14, 2016 — 11:16 AM PDT
Following a weak July, companies and municipalities were ready to dip their toes back in the markets for stocks and bonds last month, judging by the number of requests for unique securities codes known as CUSIP numbers that are used to identify securities.
U.S. and Canadian companies, for example, asked for 12% more CUSIPs in August than in July, although through August the requests were down 8.6% from the same period last year, according to a report from CUSIP Global Services, which administers the system.
Municipal bond requests were up 7% for the month and are up 3.4% year to date through August. CUSIPs are issued to help facilitate ordering, trading and clearing, and are required by exchanges for the listing of most public and private securities.
“We did see a slower issuance after Brexit,” said Gerard Faulkner, director of operations for CUSIP Global Services, in an interview. Issuance is often softer in the beginning of the year and picks up as the months progress, but there is no hard and fast rule. “It’s hard to say if there’s always a pattern or trend,” he said.
Companies and municipalities are sensitive to interest-rate fluctuations, Mr. Faulkner said, particularly in the bond markets.
“If market rates are coming down, we do see an uptick in corporate bond issuance,” he said.
Bond issuers often act when market sentiment is strongly predicting a Federal Reserve move at its next meeting.
Among state bond issuers, Texas is leading the way with 1,414 new CUSIP requests this year, followed by New York and California with 1,093 and 836, respectively.
“Based on the August data, we expect to see a sustained pace of new security issuance through the next several months,” Mr. Faulkner said in a statement that accompanied the report.
The U.S. market for initial public offerings has been lackluster this year, but August indicates that activity may pick up. Domestic corporate equity CUSIP orders soared to 1,078 last month, the highest monthly tally since April 2015, CGS said.
CUSIP stands for Committee on Uniform Security Identification Procedures.
THE WALL STREET JOURNAL
By MAXWELL MURPHY
Sep 14, 2016 7:10 am ET
GASB Chair David A. Vaudt recently announced the appointment of a consultative group to assist with the Board’s development of implementation guidance relating to the accounting and financial reporting standards for other postemployment benefits (OPEB). The members of the consultative group are:
ABOUT THE PROJECT
The implementation guidance developed in this GASB project will address the standards contained in Statement No. 74, Financial Reporting for Postemployment Benefit Plans Other Than Pension Plans; Statement No. 75, Accounting and Financial Reporting for Postemployment Benefits Other Than Pensions; and related pronouncements. The GASB expects to issue two drafts for public comment—one containing proposed implementation guidance for OPEB plans and governments applying Statement 74 (fourth quarter of 2016) and the other proposing implementation guidance for governments applying Statement 75 (third quarter of 2017).
WHAT DO CONSULTATIVE GROUPS DO?
The GASB assembles consultative groups at the discretion of the GASB Chair for projects expected to lead to implementation guidance. Consultative groups serve as a sounding board, providing suggestions and feedback to the GASB staff as materials are developed. As part of this process, consultative group members review drafts of materials prepared by GASB staff, commenting as appropriate.
HOW ARE PARTICIPANTS SELECTED?
Consultative groups are officially appointed by the GASB Chair after consultation with the other GASB members and GASB staff. Consultative group members typically have a particular expertise or experience with the standards being addressed and also are capable of articulating the views of other, similar constituents.
Members primarily are identified from the GASB’s database of stakeholders, including persons who have indicated a willingness to volunteer for a consultative group. In general, the GASB attempts to maintain an appropriate balance of financial statement preparers, auditors, and users on each consultative group. However, consultative groups related to the development of implementation guides generally are composed primarily of preparers and auditors because they are consulting on relatively technical accounting matters. Consultative groups for projects related to postemployment benefits also include actuaries and employee benefit consultants.
Within each group, the GASB seeks to include a variety of types of stakeholders, such as finance officers from governments, as well as employee retirement systems, and auditors in government and private practice. The GASB also tries to balance other factors that may be relevant, such as governments of various sizes and from geographic areas of the country.
Brief Overview of Green Bonds
Green Bonds raise funds for new and existing projects with environmental benefits. They are similar to mainstream bonds with the difference residing essentially in a defined use of proceeds for specific green projects. From a credit perspective, Green Bonds are indistinguishable from other bonds. Operationally, Green Bonds largely function as conventional debt instruments. They are risk-weighted and credit rated in the usual way, based on the creditworthiness of the issuer, and they are generally listed, traded and regulated in the same way as other bonds in the international bond markets. Issuers and the dealers/managers expect pricing and transaction costs to be similar to the issuer’s regular bonds.
However, there are a number of advantages to issuing a Green Bond as opposed to a regular corporate bond. From the issuer’s perspective, a Green Bond (i) results in the diversification of its investor pool (e.g. greater numbers of asset managers and insurance or pension funds), and (ii) contributes to ‘green’ investor relations and corporate social responsibility initiatives. From a dealer/manager’s perspective, Green Bonds can be marketed as premium products to their clients as many investors are required to invest in products such as Green Bonds in order to meet sustainability guidelines or criteria in their investment strategies.
Green Bond Market
The Green Bond market accounted for US$800m of issuance in 2007, but has expanded significantly every year since then. Moody’s reported in February 2016 that Green Bond issuance for 2016 could exceed US$50bn2.
The Green Bond Principles3
In order to standardise Green Bonds, the Green Bond Principles (“GBP”), the first set of principles for verifying the credentials of Green Bonds, were launched in 2014 with the latest iteration published in June 2016. The GBP are voluntary guidelines that recommend transparency and disclosure and promote integrity in the development of the Green Bond market by clarifying the approach for issuance of a Green Bond. The GBP: (i) provide issuers guidance on the key components involved in launching a Green Bond; (ii) aid investors by ensuring availability of information necessary to evaluate the environmental impact of their Green Bond investments; and (iii) assist dealers/managers by moving the market towards standard disclosure which will facilitate transactions.
As there is no standard definition of what constitutes a ‘Green Bond’, the ‘Use of Proceeds’ section of a typical Green Bond Prospectus plays a key role in allowing investors to assess whether or not a given bond is “green enough” for them. The GBP reflect this, with disclosure of use of proceeds being central to the GBP. The GBP are not, however, prescriptive as to the form such disclosure should take. As a practical matter this means that an issuer will designate a “green” use of proceeds in the prospectus or other issuing documentation and then provide summarised information about the green uses, reporting and second party opinions (if any). Typically in a basic Green Bond, the use of proceeds, reporting and second party opinions do not form part of the terms and conditions of the Green Bond and do not create specific contractual obligations. However, they typically form part of the disclosure documents or are referred to in the disclosure documents.
Types of Green Bonds
The GBP identify four types of Green Bonds (additional types may emerge as the market develops):
Green Use of Proceeds Bond – a standard debt obligation for which the proceeds are moved to a segregated account or otherwise tracked by the issuer and attested to by a formal internal process that will be linked to the issuer’s lending and investment operations for projects. The vast majority of Green Bonds currently fall within this category.
Green Use of Proceeds Revenue Bond – a debt obligation in which the credit exposure in the bond is linked to the pledged cash flows of the revenue streams, fees, taxes etc., and the proceeds of the bond are used to fund related or unrelated green project(s) such as a utility provider issuing a bond backed by fees on electricity bills.
Green Project Bond – this is a project bond for a single or multiple Green Project(s) for which the investor has direct exposure to the risk of the project(s) with or without potential recourse to the issuer.
Green Securitised Bond – a bond collateralised by one or more specific projects, including covered bonds, ABS, and other structures. The first source of repayment is generally the cash flows of the assets. This type of bond covers, for example, asset-backed securitisations of rooftop solar PV.
Investor Appetite
The initial demand in the Green Bond market was largely driven by environmentally and socially responsible investors and this segment of the market has continued to grow (e.g. dedicated Green Investment Funds are developing rapidly). However, the market has quickly become mainstream with institutional investors and Green Bonds are developing into their own asset class. With the growth in diversity of issuer type and structure, the investor base for the Green Bond product has expanded to include more pension funds, insurance companies, asset managers, and retail investors. For their investors, Use of Proceeds Green Bonds are fixed income products that meet their underlying financial requirements, but which in addition enable them to show support for initiatives they deem to be important global priorities.
For all categories of investors, providing certainty and transparency on the use of proceeds and investments are, and will continue to be, important requirements. Green Bonds are part of a wider trend toward increased focus on social and environmental responsibility among companies and financial institutions. This trend is strongly encouraged by governments, public and other regulatory authorities, NGOs and even the community at large.
Recent Developments in the Green Bond Market
The GBP provide a minimum standard of process guidelines that recommend transparency and disclosure in the Green Bond market. As a result, the environmental undertakings of Green Bonds issuers are only partially reflected in transaction documentation. A microcosm has developed around the GBP in support of the Green Bond market that involves standard providers, certifiers and assurance providers (including accountancy firms, ESG analysts and academics). Some markets and jurisdictions have begun to integrate elements of the voluntary GBP guidelines into domestic Green Bond regulations and mandatory market criteria. In many jurisdictions adopting mandatory regimes, the GBP are the minimum starting point to which additional mandatory requirements are added. The regulator in these regimes takes a more active role in setting out: (i) rules for listing Green Bonds; (ii) the liability and covenant requirements; and (iii) the Green Bond catalogue of sectors and projects which define “green” for that market.
There has been a difference in the approach to the development of Green Bond markets in different jurisdictions. They are roughly split into those markets which, for the time being, rely on a voluntary approach to criteria and reporting and those which have implemented codified criteria and/or enshrined it in legislation. There is some market debate on the need: (i) to provide greater clarity on what a Green Bond is and what distinguishes it from regular bonds; (ii) for independent certification; (iii) for green catalogues and definitions; and (iv) for green covenants and liabilities. While standardisation of disclosure will support credibility and provide criteria for independent validation in the Green Bond market, a balance has to be struck between enhancement and over-regulation. It is important nonetheless to be aware of regional differences in the developing Green Bond market.
In terms of recent market trends, we have noticed an increase in the demand for specific products, including both investment grade and high-yield corporate Green Bonds, bespoke structured deals such as project bonds and securitisations and nationally driven products (e.g. Pfandbriefe, Schuldscheine and green Sukuk). There is increased interest from emerging market issuers in developing Green Bond frameworks, for example in India, China and Mexico and we are seeing prominent global stock exchanges dedicating separate platforms to Green Bonds.
Considerations for Green Transactions
We have worked closely with a number of issuers, dealers/managers, financial intermediaries and trade bodies in the Green Finance sector and our considerable experience in this field means we are well placed to help structure your green transaction and advise you on green requirements and market expectations. These are some of the key points you will need to consider including in your Green Bond:
White & Case
by Cenzi Gargaro, Gavin McLean, Karsten Wöckener, Tallat Hussain
30 Aug 2016
White & Case is an international law firm that serves companies, governments and financial institutions. The global presence of White & Case gives us both an opportunity and a responsibility to provide legal counsel and assistance through our social responsibility programme and green initiatives.
Footnotes
1 The vast majority of which are in the area of renewable energy and energy efficiency
2 www.moodys.com/research/Moodys-Green-bond-issuance-could-exceed-50-billion-in-2016–PR_343234
3 See the latest iteration of the GBP at www.icmagroup.org/Regulatory-Policy-and-Market-Practice/green-bonds/
Mindy Hauman, a Professional Support Lawyer at White & Case, assisted in the development of this publication.
This publication is provided for your convenience and does not constitute legal advice. This publication is protected by copyright.
© 2016 White & Case LLP
They badly need to improve their ability to generate investment returns. A Canadian province’s initiative looks like a model worth studying.
For all of the angst about the burden of funding public employees’ pension funds on state and local government budgets — and on the public workers who contribute part of their paychecks to their retirement funds — the most critical factor in the equation is the funds’ ability to achieve their investment-return targets. The money the funds earn on investments pays, on average, more than 60 cents of every dollar that is disbursed to retirees.
But the news is not good on the investment front. According to the Wilshire TUCS performance tracking service, median returns in fiscal years 2014 and 2015 were 3.43 percent and 1.07 percent, respectively — nowhere close to the sector’s average assumed rate of return of 7.5 percent. And experts say that it will be even harder for public pensions to make money in stocks and bonds over the coming decades.
Yet efforts to increase the efficiency and effectiveness of investment-management practices for retirement assets, such as the Investment Modernization and Cost Reduction Act proposed by the Oregon State Treasurer’s Office or the Bloomberg Liu initiative for the New York City Retirement System, have met with great resistance.
One modernization approach in particular, pooling assets to invest on a collective basis, holds a lot of promise. But only a handful of governments have moved to pool assets to one degree or another. Most pooling proposals, such as combining the Chicago and Illinois teachers’ retirement systems or Pennsylvania’s attempt to combine its 3,200 local pension plans, have involved consolidation or mergers that would mean giving up control of the assets. This has been a non-starter for pension trustees and board members.
But a new pooled-asset entity just launched in Canada could provide a model for U.S. public pensions funds to move forward, not only in protecting retirement systems’ long-term sustainability but also in increasing their ability to compete in the global financial markets.
This $38 billon pooled platform, the Investment Management Corporation of Ontario (IMCO), is organized as a nonprofit corporation, and it provides investment management services to pension funds at cost. Seeded with assets from the Ontario Pension Board and another public agency, IMCO enables pension funds to enhance returns by lowering costs and leveraging scale while retaining control of their assets. Remarkably, pension funds join IMCO as members, on a voluntary basis, and elect board members from their own ranks. What’s more, it hasn’t cost Canada’s national government a dime.
Ontario’s initiative offers encouragement to U.S. policymakers and researchers who have recognized the benefits of asset pooling. A 2010 Government Accountability Office study found that pooling pension assets could achieve economies of scale and reduce the investment fees paid to outsourced managers. As the study suggested, that could alleviate some of the budgetary pressures on states and municipalities due to unfunded pension obligations. The GAO study cited the mandate of the Massachusetts Pension Reserves Investment Trust Fund “to reduce the state’s significant unfunded liability and to assist participating local retirement systems in meeting their future pension obligations.”
State investment boards chartMassachusetts’ investment fund is one of 15 state pooled-asset structures, which are commonly called state investment boards and often are responsible for managing several different types of funds in addition to pensions. The North Dakota State Investment Board, for example, invests the assets of the state’s sovereign wealth fund, funded by tax revenues from oil extraction and production, as well as the assets of two pension funds for public employees and teachers. As the table here shows, 12 of the 15 state investment boards already oversee pooled public pension funds.
Ontario’s approach takes the advantages of the asset pooling already being realized by the U.S. state investment boards to the next level by introducing a cost-recovery model designed to end pension funds impoverishing reliance on money managers and consultants.
American policymakers interested in ensuring the long-term sustainability of our public-sector employee retirement systems might look at what the Canadian province has done. As healthy investment returns prove tougher than ever to come by, it’s hard to see an argument for failing to modernize our struggling retirement systems’ organizational structures as a step toward maximizing their ability to make money for the benefit of retirees and taxpayers alike.
GOVERNING.COM
BY JILL EICHER | SEPTEMBER 8, 2016
If you’re an investor that follows the stock or bond markets with any diligence, you’ve surely come across some headline with a dire prediction screaming something like “stock valuations are just like before the crash of 1929!” or similar such parallels. It grabs us because it preys on the intrinsic fear of uncertainty that all investors face. Cognitively, we know it is hyperbole, but emotionally we feel a little bit of nervous twinge because, well, who knows? This time they just might be right. After all, isn’t there a pithy maxim that tells us that “those who do not remember the past are condemned to repeat it?”
This year, the headlines for municipal bonds are anything but dire. In fact, it’s been quite the opposite–everyone is predicting a great year for munis. The market is up around 4.50% year-to-date (source: Barclays Municipal Bond Index). Intermediate and long municipal bond rates are now at multi-generational lows. Thomson Reuters’ bellwether Municipal Market Data (“MMD”) benchmark curve has the 10-year and 30-year AAA yields hovering in the 1.40% and 2.15% range, respectively.
Municipalities and public authorities alike are taking advantage of the low interest rate environment to refund their higher yielding debt. As data from The Bond Buyer shows, there are more refundings than there are bonds issued for new projects. Investors getting their money back from refunded bonds are finding fewer bonds to reinvest in. This supply-demand imbalance is further fueling the market’s gains.
The rising tide is lifting all boats. Mutual funds are prospering, finding their assets under management up by more than $50 billion, enjoying 11 uninterrupted months of positive flows since October 2015 (source: Investment Company Institute). Municipal ETFs have enjoyed similar positive flows during the same period, netting $5.7 billion. Money is also flowing into separately managed accounts. Cerulli Associates reported that flows into municipal SMAs were up 33.9% in 2015. With no signs of these SMA flows abating, 2016 could well become the fifth consecutive year of asset growth nearly making or exceeding 30%. By that estimate, the top SMA tax-exempt bond managers could see upwards of $45 billion added to their AUM by year end.
There are even flows coming into the market from so-called ‘non-traditional’ buyers. Given negative rates in Europe, foreign buyers are putting money to work in municipals so as to enjoy the positive risk adjusted rates. It’s unclear what the split is between taxable and tax-exempt buy-in from the internationals, but there is 100% agreement that it’s coming in.
Not only are rates lower, credit spreads are tighter. The spread in yield between AAA general obligation bonds and A hospital bonds is about 57 basis points. At the start of 2014, the spread was 125 (source: MMD Thomson Reuters). It seems that, with all that money to put to work, investors are more open-minded about expanding their credit parameters.
I hate to be a ‘Debbie Downer’ in the midst of all this ebullience, but I have in mind another pithy maxim, this one from Shakespeare: “What’s past is prologue” (The Tempest, Act 2, Scene 1). When these conditions occurred previously—the large flows, the non-traditional buyers, the eschewing of credit standards—it never ended well, as is detailed below and in the charts.
An event occurs, usually tied to rates, which suddenly changes everyone’s perspective. Money starts flowing out as fast as it flowed in. The non-traditional buyer who had been taking advantage of the arbitrage, gets jittery or finds better opportunities in other markets. The individual investor usually just panics and sells. As investors large and small rush to the exit en masse, they quickly discover the persistent liquidity problem the municipal bond market has when faced with large outflows. Prices back-up fast in a volatile reaction.
The past here is really not that far in the past and the parallels are striking. Think back to the time period from September 2011 to the end of 2012. For 15 consecutive months, mutual fund investors poured in nearly $65 billion into the market. The trend culminated in January 2013 when investors bought an astonishing $7.1 billion of municipal bond mutual fund shares. It was the largest single month of inflows since September 2009 and would prove to be the third largest inflow over the last ten years.
Then in May 2013, Federal Reserve Chairman Ben Bernanke made what he thought was a fairly innocuous announcement regarding tapering off the Fed’s quantitative easing program. Fearing rates were about to rise, nothing short of panic ensued. Over the next few weeks, investors pulled out nearly $65 billion from the market (see When Bonds Turn Negative, Keep Your Perspective). Outflows exceeded both the Credit Crisis of 2008 and the Meredith Whitney-caused blow-out in 2011—two other recent examples when the market lost its collective reason.
The whole episode was later given the cutesy moniker of “Taper Tantrum” but it was anything but cutesy. In a few short weeks, investors lost billions of dollars of net worth in their municipal bond holdings. From the beginning of May 2013 to mid-September. Thomson Reuters’ MMD AAA 10 year yield spiked from 1.66% to over 2.80%—a nearly 115 basis point give up. The 30 year AAA yield rose from 2.79% to just shy of 4.40% over the same time, a 160 basis point roll-back.
Look, I know it’s not 2013 all over again. Yes, the parallels are there, but the circumstances are different, the facts are different, the markets are different—there are a host of reasons things aren’t ‘just like’ the prior period of disaster. Recall that other pithy maxim: “predictions are difficult—particularly about the future?”
Yet something lingers in the back of my mind. The particulars today may indeed be very different, the circumstances completely divergent—but the market’s reaction to a trigger event that precedes a crisis hasn’t changed. We don’t forget history, but we don’t necessarily learn from it either. In the heat of the moment, people are still people and people will still panic and act irrationally. An event will occur and, if history is any guide, it won’t be one anyone is anticipating. Today’s bull market in municipals will face a crisis in the months ahead. Flows will reverse and the exits will clog. When that happens, as the nearly ubiquitous saying these days goes, “Keep calm and carry on.”
Barron’s
Sep 7, 2016
by Barnet Sherman, Contributor
Barnet Sherman has managed money for and advised to mutual funds, high net worth clients, consultants and insurance companies on successful investment strategies in the municipal bond market.
WASHINGTON — A bill introduced in the Senate by Republicans would put Indian tribal governments more on a par with state and local governments for bond financings, giving them better access to capital to support infrastructure and local economic development.
The Indian Community Economic Enhancement Act of 2016 (S. 3234), introduced this summer by Sen. John Barrasso, R-Wyo., chairman of the Senate Committee on Indian Affairs, and Sen. John McCain, R-Ariz., would create an Indian Economic Development Fund to support the Bureau of Indian Affairs’ loan guarantee and the Community Development Financial Institutions bond guarantee program for Indian tribal communities.
The Senate Committee on Indian Affairs is scheduled to hold a hearing on the bill on Wednesday.
“Accessing capital is paramount for economic development in tribal communities,” Barrasso said. “This bill will break down existing barriers for growth, support loan and bond guarantee programs … and increase opportunities for tribal members.”
In a joint release, the Senators said the legislation was based on input they had received from Indian tribes and businesses. The bill would amend several pieces of existing legislation, including: the Native American Business Development, Trade Promotion, and Tourism Act of 2000; the Native American Programs Act of 1974; the Indian Trader Act; and the Buy Indian Act. The Republican Senators said the bill would also spur tribally owned businesses by improving and expanding on these current laws.
“Many Indian reservations across my home state of Arizona and the western United States continue to struggle with high unemployment rates and few business opportunities,” McCain said. “We must do more to change this.”
Kathleen Nilles, a partner at Holland & Knight in Washington, said the bill is “trying to do a lot of different things,” but added the effort to make the loan guarantee program more effective could be positive for tribal governments.
“One of the biggest problems for tribes in getting tax-exempt financing is just establishing to a regular lender their credit worthiness,” Nilles said. “Loan guarantees are really good for struggling tribal governments. They can result in getting a loan versus not.”
An area of the bill Nilles said struck her was a provision that states, “for purposes of financing and economic or community development, the essential governmental functions of an Indian tribe shall be considered to include any function that may be performed or financed by a state or unit of local government with general taxing authority.”
Indian tribal governments have long called for a repeal of tax law restrictions that limit them to only issuing governmental bonds if the proceeds are used for “essential governmental functions” such as schools or roads. Unlike state and local governments, tribes cannot issue private activity bonds. The vague nature and implicit reference to repealing the essential governmental function in the bill does raise additional questions, Nilles said.
“I’m somewhat skeptical that it would be effective since it overrides a tax code provision without even citing it,” Nilles said. “I’m wondering if it would really be that effective because it says for purposes of financing and economic or community development, yet doesn’t even mention tax-exempt financing.”
Barrasso and McCain’s bill, introduced on July 14 and referred to the Senate Committee on Indian Affairs, would establish an Indian Economic Development Fund that would allow Indian tribes to deposit funds beginning one year after the enactment of the measure.
Funding would be allocated beginning two years after the enactment of the act by the Secretary of the Treasury and administered through the Secretary of the Interior, according to the bill.
For each fiscal year, the Assistant Secretary for Indian Affairs would provide up to either $7.5 million or 40% of fund amounts in credit subsidies to the loan guarantee program of the Bureau of Indian Affairs under the Indian Financing Act of 1974.
No more than 5% of the fund can be used for administrative purposes each fiscal year. A reserve fund would also be created within the fund.
Nilles called the fund an “interesting” concept because of the access it allows tribal governments in depositing their own funds to an account.
“Tribes have gaming money, investment income on holdings or excess cash they could put into this fund and it could be used to support financing for other Indian tribes,” Nilles said. “It sounds like a really novel idea.”
In a statement put in the Congressional Record in July, Barrasso said remote locations and a lack of infrastructure are just two of the problems affecting the quality of life for tribal communities as well as the ability to build “strong sustainable economies.”
“Indian tribes could engage in more cohesive community development and infrastructure building,” Barrasso said. “Federal bureaucracy is diminished, thereby reducing the costs of economic development.”
The Barrasso bill follows the bipartisan Tribal Tax and Investment Reform Act of 2016 (H.R. 4943) introduced by Rep. Ron Kind, D-Wis., in April, which would remove the special status for tribal government and establish a volume cap for their tax-exempt bonds. That bill, which also would effectively place tribal governments more on par with state and local governments under the federal tax law, is currently before the House Education and the Workforce Committee.
Under The American Recovery and Reinvestment Act passed in 2009, Tribal Economic Development (TED) bonds were created to ease restrictions on tribes’ abilities to issue bonds.
Although TED bonds are not subject to the “essential governmental function” requirement, many tribes are hesitant to access them because they cannot be used for projects on trust land. The Kind bill would remove the location restriction that deters many tribes from utilizing TED bonds.
In August, the Internal Revenue Service published a notice saying the volume cap limit for TED bonds is $191.51 million and the amount of available cap is $957.54 million.
The Bond Buyer
By Evan Fallor
September 6, 2016
The Congressional Municipal Finance Caucus has recently launched its website.
NABL members should check the list of members of the Municipal Finance Caucus. If your representative is already a member of the caucus, contact them and thank them for joining. If your representative is not a member, contact them and ask them to join.
The website also includes news related to the caucus and additional resources, including letters from stakeholders, letters to house leadership and testimony before the House Ways and Means Tax Policy subcommittee.
The caucus’s website can be found here.
Tax-increment financing began in 1952 in California as a way to jump-start development in blighted areas.
Since then it has spread to nearly every state. Typically new property tax revenue generated by development in a TIF district is pledged to pay for public infrastructure within the district. Laws in some states also allow sales tax to be diverted and some permit TIF funds to be spent on private development costs.
New TIF bond issues in 2015 totaled nearly $700 million, according to data analyzed by Elise Lomel of the financial advisory firm PFM Group in Atlanta. That total, which excludes refinancings, was the highest yearly total since 2006, excluding California, which largely exited the TIF sector by 2012. Not all TIF projects involve the issuance of debt.
However, the numbers have bounced around in recent years, and the total in the first half of 2016 came to just $77 million, her analysis found. Counting California, the peak for non-refinancing TIF bonds since 2000 occurred in 2006, at about $3 billion.
U.S. property values began falling in late 2006 as the real estate bubble burst. That eventually led to declines in property tax receipts, sometimes below levels needed to cover debt service.
“Certainly some projects failed, or they had to be restructured or refinanced, but really what happened is nothing new could happen,” said Toby Rittner, chief executive of the Council of Development Finance Agencies. He said use of the tool “really took a back seat.”
Compared with a decade ago, “there’s absolutely more scrutiny” of TIF proposals by both the public and private sectors, he said. He estimates no more than 30% of local governments still back TIF bonds, a common practice 15 years ago.
THE WALL STREET JOURNAL
By SCOTT CALVERT
Sept. 6, 2016 2:37 p.m. ET
Write to Scott Calvert at scott.calvert@wsj.com
Total unfunded state other postemployment (OPEB) liabilities have increased, according to S&P Global Ratings’ latest survey of U.S. states. For states that have completed new OPEB actuarial studies since our last survey (which used 2013 or prior studies), total liabilities increased $59.4 billion, or 12% over a span of two years. This reverses a trend of stable to declining liabilities found in our 2014 and 2013 surveys. However, looking at recent growth in total liabilities alone would ignore that many states have taken measures to curb their liabilities, with 17 of the 41 states reporting new data showing a decline in liabilities. Also, several states, such as Alaska, have made significant contributions or changes to plans yet to be reflected in new actuarial data. Nevertheless, the growth in total state OPEB liabilities underscores the magnitude of liability growth states can experience over a short period of time absent fully funding actuarially required contributions (ARC) or implementing reforms.
Many states have favored underfunding OPEB ARC as a trade-off to address more immediate rising costs amid a slow revenue growth environment, a practice that we do not view as sustainable. A trend of underfunding and potential changes to actuarial assumptions suggests that OPEB liabilities and annual costs will continue to rise. Given the lean margins we see across many states, fully funding ARC, or even growth in pay-as-you-go expenses, could tip states into budgetary imbalance. While we view efforts to better align OPEB funding with actuarial costs as favorable, increased payments might come at the cost of other areas of budget management.
Treatment of OPEB liabilities varies widely across states, and as such, our analysis studies a variety of ratios, plan offerings, and flexibility to adjust benefits. We also recognize that changes to plan offerings and increases in funding could mitigate OPEB challenges, noting that often OPEB reform efforts produce material improvement in key metrics only as a result of sustained commitment on the part of policymakers and sometimes over many years.
Overview
07-Sep-2016
Federal and state agencies have used two types of P3 agreements to transfer ownership or control of unneeded property to private developers but a range of challenges hinder their use, the U.S. Government Accountability Office (GAO) has found.
GAO was asked by the Senate Committee on Homeland Security and Government Affairs and one of its subcommittees to review how federal and state agencies have used P3s to dispose of or arrange for private management of excess properties.
The report focuses on two types of P3s: enhanced use leases, through which a private developer manages a government-owned property for an extended length of time, and swap exchanges, through which a private developer assumes ownership of government property in return for building a new asset or completing other construction for the public partner.
The report’s authors also examined negotiated sales agreements, in which a property sale is contingent on one of the partners meeting specific property-related requirements but private developers do not generally consider these types of agreements to be P3s.
GAO found that federal agencies have used P3s to deal with excess property fewer than 10 times per year, according to the General Services Administration (GSA), and states’ use of these types of agreements seems to be even lower. For example, none of the three states that were identified as potential negotiators of P3s for this purpose — Washington, Virginia and Texas — could recall recent examples of such agreements being finalized.
GAO identified several obstacles to using P3s to deal with excess government property. They range from a lack of private sector interest in underused properties that have not been well maintained or require massive environmental remediation to difficulty in assessing both the value of such property and the costs of developing or repairing it.
GAO also pointed out that GSA, which helps agencies to acquire and manage their buildings, needs to obtain experience and expertise in conducting P3s. For example, GSA’s inspector general has expressed concern over the agency’s lack of experience in negotiating P3 agreements in connection with GSA’s proposal to swap the FBI’s dilapidated Washington, D.C., headquarters to developers of a replacement building. P3 negotiations for a similar project, involving the potential swap of several federal buildings in the southwest portion of the city in exchange for construction of a new GSA building, fell through in February.
The need to obtain political support from policy-makers and the surrounding community for private development of public assets is another potential hurdle to using P3s to manage excess government property, noted the report’s authors.
Despite these obstacles, P3s could help governments to divest themselves of underused, superfluous or obsolete properties and transfer the responsibility of maintaining and operating historic buildings and infrastructure that may be needed in the future to private developers, GAO said in its report. The report notes that the National Aeronautics and Space Administration worked with GSA to enter into an up-to-96-year lease with a private developer to rehabilitate, develop new uses for, operate and maintain Moffett Federal Airfield and the historic Hangar One in Mountain View, Calif. The Department of Transportation also is working with GSA to swap unused property near the Volpe Natural Transportation Systems Center in Massachusetts to a private developer in exchange for construction of a new facility.
NCPPP
September 8, 2016
The issuance of U.S. municipal green bonds – bonds backing projects with positive environmental effects — is increasing, joining a trend in the broader market for similarly labeled debt instruments. S&P Global Ratings estimates the municipal market will see between $6.3 billion and $7.2 billion of green bonds in 2016 (see chart 1), a meaningful step up from $4.1 billion in 2015 and $2.4 billion in 2014. Our 2016 estimate is based on actual data through July from Climate Bonds Initiative (CBI) assuming issuance stays on pace and average par remains the same.
However, we believe the market for U.S. municipal green bonds could be significantly larger. A recent HSBC report conservatively identified $30.3 billion of municipal bonds issued from 2014 to 2016 that met its green standard, only $10.9 billion of which were actually labeled green by issuers. This suggests the potential for significant growth simply by a broader acceptance of this asset classification. The same HSBC report estimates that green labeled municipals represented about 8% of the total $118 billion in labeled green bonds issued globally since 2007.
Overview
Issuance of green labeled transactions in the corporate debt market may reach $15 billion this year while they are just beginning in the real estate sector (see “The Corporate Green Bond Market Fizzes As The Global Economy Decarbonizes,” published April 15, 2016 on RatingsDirect, and “New Shoots Emerging In Green Bond Market For Real Estate,” published Aug. 22, 2016). Globally, the market for green bonds is expected to expand significantly as signatories to the December 2016 Paris climate change agreement increase efforts to reduce carbon emissions (see “The Paris Agreement: A New Dawn for Tackling Climate Change, Or More Of The Same?,” published Jan. 18, 2016).
07-Sep-2016
Abstract
This brief provides a basic overview of evaluation designs to assist pay for success (PFS) stakeholders engaged in deal development. It focuses on comparison and its relation to various designs, and it presents key questions that PFS planners should address as they participate in evaluation design discussions. In PFS projects, strong evaluations are tasked with determining what happened, if the program caused these outcomes, and if outcome payments are triggered.
Read the full Brief.
The Urban Institute
Kelly Walsh, Rebecca TeKolste, Ben Holston, John Roman
September 7, 2016
Infrastructure managers are under pressure to increase their investment in the U.S. as American investors boost infrastructure exposure and the investment climate in Europe — the top region for infrastructure deals — becomes less hospitable.
Managers are in a tough spot. They have more capital than viable deals. At the end of the first quarter, infrastructure managers were sitting on a record $124 billion in unspent capital commitments, according to London-based alternative investment research firm Preqin.
At the same time, the U.K.’s vote to leave the European Union, combined with the upcoming referendum on the Italian government and elections in Germany and France, are starting to cause some infrastructure managers and investors to steer clear of Europe.
This makes the U.S.’s infrastructure need — estimated by the American Society of Civil Engineers to total $3.6 trillion by 2020 — a tempting target. But the much lower cost of municipal bond financing and the high political cost of privatizing publicly funded infrastructure has put the bulk of these potential projects beyond managers’ reach.
However, there are signs of change.
Both U.S. presidential candidates have plans to boost infrastructure investment. Democratic nominee Hillary Clinton’s proposal is to spend $275 billion over five years for infrastructure that would be funded through business tax reform. Some $250 billion would be direct public investment with the remainder going to fund a national infrastructure bank that would offer loans, loan guarantees and other forms of credit. The bank would expand the Build America Bonds program.
Republican nominee Donald J. Trump has proposed $800 million to $1 billion in infrastructure spending, which would be financed with government bonds.
What’s more, U.S. state and local governments are beginning to increase their use of public-private partnerships for everything from roads to courthouses.
And a new IRS regulation released in August makes it easier for infrastructure to be financed with a combination of municipal bonds and private investment.
Geopolitical uncertainty
Outside of public-private partnerships, infrastructure managers increasingly are investing in renewable energy as the U.S. moves away from coal and traditional energy sources. Regulatory changes are making renewable energy investments more attractive to investors.
“A lot of institutional investors today, because of uncertainty in Europe, don’t want to take the geopolitical risk that is happening there,” said Timothy C. Ng, chief investment officer of outsourced CIO firm Clearbrook Global Advisors LLC, New York. “If anything goes sideways, it will affect your projects and they won’t get done.”
So a lot of capital is flowing to the U.S. for infrastructure, as well as for real estate and private equity investment, Mr. Ng explained.
“There’s huge money here now,” Mr. Ng said.
And that is putting more pressure on managers to seek out deals in North America.
Europe is the top region for infrastructure investment. There were 266 deals in Europe in the first half of this year compared with 178 in North America, according to Preqin. The U.S. accounted for 140 of the North American transactions.
Investors typically like to invest their money at home first, said John Sweeney, vice president of New York-based placement agency Park Madison Partners LLC.
Institutional investors globally have an increased appetite for infrastructure, Mr. Sweeney said, because of its low volatility and risk profile.
“This creates a problem for infrastructure funds and infrastructure investors because as more capital is flowing into the sector, pricing is becoming more competitive,” Mr. Sweeney said. “And the deal flow was already not as robust as it should be considering there’s a lot of need in the U.S.”
For investors, the too-much-capital-for-too-few investments is a classic recipe for lower returns, increasing the burden on managers to find viable deal sources.
This overabundance of capital is a concern for officials at longtime infrastructure investor New Mexico Educational Retirement Board, Santa Fe, said Bob Jacksha, CIO of the $11.4 billion pension fund.
“We were one of the first, perhaps the first, U.S. public pension plans to have an active infrastructure program,” Mr. Jacksha said. New Mexico ERB has invested in infrastructure since 2008.
“We have seen the demand increase as other funds have joined us and as they have allocated more and more capital to the space,” he said.
A lot of that demand is for core assets, because of the perceived safety of that category, Mr. Jacksha said. So New Mexico ERB officials have been investing in projects that involve construction.
“We are now often investing in something other than core, as that has become expensive,” and in core greenfield projects, Mr. Jacksha said. “Some other investors may not classify these as core.”
The ERB also has invested in build-to-core projects — projects sold to core buyers after they’re built.
ERB has about 73% of its $413 million in infrastructure exposure — fair value plus unfunded commitments — in the U.S.
Move to U.S.
Infrastructure manager IFM Investors Pty. Ltd. plans to invest as equally as possible in the U.S. and Europe to maintain the diversification of its open-end fund, said Julio Garcia, head of infrastructure, North America, in the New York office. Some 55% of IFM’s global open-end fund portfolio is invested in the U.S., Mr. Garcia said.
In the past 18 months, IFM invested a combined $4 billion in two toll roads: the Indiana Toll Road and the Circuito Exterior Mexiquense in Mexico City. In May, IFM sold a stake in the Indiana Toll Road to the $307.2 billion California Public Employees’ Retirement System, Sacramento, and Allstate Corp.
Mr. Garcia sees a lot of opportunity in the U.S. in energy infrastructure — especially in the midstream space, the pipes that transport oil from source to refinery to market.
Wilson Magee, New York-based director of global real estate and infrastructure securities at Franklin Templeton (BEN) Institutional LLC, said he is seeing “interesting capital investment opportunities” in water and wastewater projects as municipalities need to upgrade their systems.
Franklin Templeton’s global infrastructure funds have 30% to 35% invested in the U.S.
Over time, Mr. Magee said he expects that airports, which are mostly publicly owned in the U.S., will switch to a model that includes private ownership. “The model elsewhere around the world is long-term concession contracts,” he said.
The first big airport project in the U.S. is a public-private partnership that includes finance, design, construction, operation and maintenance of New York City’s LaGuardia Airport Central Terminal B, with a lease term through 2050.
There are other airport public-private partnerships on the drawing board. Los Angeles World Airports, the city agency that operates the City of Los Angeles’ three airports, is considering a public-private partnership to finance a modernization program for Los Angeles International Airport that would include a 2.25-mile automated people mover.
In August, the Denver City Council approved continued negotiations with a consortium led by Ferrovial, a Spanish firm that runs London’s Heathrow Airport, for a partnership to upgrade one of its terminals.
“There is increased interest in P3 in the U.S. recently,” said Justine Kastan, an attorney in law firm Rutan & Tucker LLP’s Palo Alto, Calif., office who specializes in public-private partnership infrastructure investments.
In August, the IRS made regulatory changes that increase the length and flexibility of public-private partnerships, Ms. Kastan said.
But even before the IRS rule change, governmental interest in P3s had increased, she said.
“I think there is a growing national awareness that we have infrastructure needs that aren’t being met,” Ms. Kastan said.
PENSIONS & INVESTMENTS
BY ARLEEN JACOBIUS | SEPTEMBER 5, 2016
This article originally appeared in the September 5, 2016 print issue as, “Infrastructure managers feeling the heat”.
— Contact Arleen Jacobius at ajacobius@pionline.com | @Jacobius_PI
Bond insurers — companies that provide a money back guarantee to investors on bonds sold by municipalities — were one of the biggest casualties of the 2008 financial crisis. Governments liked to insure their bonds because it typically allowed them to sell the bond with the insurer’s higher credit rating. That let governments get a lower interest rate cost on the bonds, making it worth the insurance expense. But the insurers’ effectiveness was essentially obliterated when their own credit ratings were downgraded amid the 2008 crisis. A little over a decade ago, half of new bonds issued in the municipal market were insured. Today, just 6 percent are.
While they’re down, bond insurers are far from out.
In their monthly outlook, analysts Alan Schankel and Eric Kazatsky of Janney Montgomery Scott predict insurers are biding their time for a comeback. Some existing bond insurers have restructured since the crisis while a new one — Build America Mutual — has come on the scene.
Meanwhile, insurers have been decreasing their exposure to outstanding bonds as governments have not re-upped their insurance when refinancing old debt.
The Takeaway: Low-interest rates have driven down the need for bond insurance because even low-grade governments are getting historically low rates on their bonds. But Schankel and Kazatsky say that has also provided a window for insurers to regain their financial health after losing a lot of money in municipal bankruptcies. When rates rise, more governments will turn back to insurance.
“Bond insurance plays an important role for many municipal investors,” the authors wrote. “We expect that role to expand, along with market share, if not immediately, then in coming months and years.”
GOVERNING.COM
BY LIZ FARMER | SEPTEMBER 2, 2016
Municipal-bond buyers are sticking by their mutual-fund managers, even though the chance that many of them will beat the market is no better than a coin toss.
The broad shift into low-cost index funds, which have drawn cash away from those that buy and sell stocks and bonds in a quest for outsize returns, has largely stopped at the U.S. state and local securities market, a bastion of buy-and-hold investors looking for steady, tax-exempt income. And they’re not necessarily being rewarded for their loyalty: About 50 percent of the actively-managed funds lagged a Bloomberg benchmark over the past five years, according to Morningstar Inc. data on those holding debt maturing from 5 to 12 years.
“You have some entrenched ways of investing here,” said Chris Alwine, who oversees more than $167 billion in municipal-bond assets at Vanguard Group Inc., one of the biggest providers of index funds. “You had the belief that you couldn’t index it. That’s been thrown out.”
The traditional way of investing hasn’t gone with it. As cash flooded into municipals amid turmoil in global financial markets, actively run funds took in $48.7 billion in the 12 months through July — eight times more than those built to mimic the performance of an index, according to Morningstar. As a result, the managed investment vehicles had $653 billion of assets, compared with $27 billion held by their passive competitors.
That stands in contrast to other markets over the same time period. Souring on underperforming stock and taxable-bond managers, investors withdrew almost $380 billion and put $367 billion into index funds.
While passive municipal funds are growing at a faster rate than active ones — if only because they are relatively new and had far fewer assets to begin with — there are several reasons for their slow inroad to the $3.7 trillion market, said Karen Schenone, a San Francisco-based fixed-income strategist at BlackRock Inc.’s iShares unit, a provider of exchange-traded funds, or ETFs.
Some investors prefer buying bonds issued by their local governments or, if they live in high-tax states like New York and California, state-specific funds, instead of the nationally oriented ETFs. Investors also tend to focus on the indicated yield without considering total return, Schenone and Alwine said. Active funds generally yield more than ETFs.
“Most people think, ‘I want a manager who’s doing credit research, adjusting for duration, looking for blowups,” Schenone said.
That also leads to bigger fees, though not necessarily better returns. The average expense for actively-managed open-end municipal funds is 0.91 percent, compared with 0.3 percent for ETFs, according to Morningstar. Yet over the past five years, only about half of the intermediate active funds tracked by Morningstar returned more than the Bloomberg Barclays Intermediate Index as of June 30. The index returned 6.48 percent for the 1-year period, 4.7 percent over three-years return and 4.47 percent over five.
Awaiting Opportunity
JPMorgan Chase & Co.’s $4.5 billion Intermediate Tax Free Bond Fund was among the laggards. Chloe Etsekson, a spokeswoman for JPMorgan, said more than 90 percent of the fund’s holdings were in lower-yielding AAA and AA rated bonds, a higher percentage than the index.
“VSITX is a low volatility fund for asset allocators looking to use the municipal portion of their overall fixed income allocation as the anchor and source of cash when fixed income volatility spikes,” she said in an e-mail. “It is structured to provide liquidity when other opportunities arise.”
BlackRock’s $7.6 billion, iShares National Muni Bond ETF, the biggest municipal ETF, outperformed 77 percent and 72 percent of national intermediate active managers, over 1 and 3 years, according to data compiled by Bloomberg.
The rise of “robo advisers,” that use software programs to build portfolios could give a boost to ETFs, said Schenone. Web-based financial advisers Wealthfront Inc. and Betterment are using BlackRock’s as its only municipal holding, she said.
Vanguard, a pioneer in mutual fund indexing, has been a later entrant than BlackRock to passive municipal management. The world’s largest mutual fund manager started its first fund last year. Vanguard’s $460 million index fund pales in comparison to its actively managed $52 billion intermediate fund.
This year, the passive fund’s ETF shares returned 4.13 percent, beating the 3.92 percent posted by Vanguard’s actively managed intermediate fund.
“We believe fully in low-cost active but we also believe in indexing,” Alwine said. “Ultimately, it comes down to investor preferences.”
Bloomberg Business
by Martin Z Braun
August 29, 2016 — 2:00 AM PDT
Commerce Statler Development LLC — the company created by developer Mehrdad Moayedi to redevelop the landmark hotel — sold the tax increment finance grant the city of Dallas provided for the huge downtown deal.
The Statler developer used the almost $46.5 million in city incentives that helped fund the project to back a unique $26.5 million public bond offering, filings for the bond offerings show.
Securities firm Jefferies LLC underwrote the public debt offering, which was made through the Wisconsin Public Finance Authority.
The sale of the tax-free bonds allowed the Statler developer to access funds that wouldn’t be provided from the city’s tax increment financing for years.
“This is an innovative funding tool that will allow Dallas taxpayers to realize immediate benefit of the TIF money the city of Dallas is investing,” Moayedi said in a statement. “It made sense to us to be able to utilize funds now to enhance the quality of the project.
“We are thrilled with the outcome and the citizens of Dallas are going to be impressed with the new Statler.”
The City of Dallas approved the sale of the debt based on the future payout from the TIF district.
“The city had to approve this deal because the municipal bond issuer in Wisconsin required the consent of the municipality in which the project is located,” said Karl Zavitkovsky, who heads Dallas’ economic development office.
He said other developers may have have sold their incentives in the private markets without requiring the city’s consent.
“I’ve never heard of anyone doing this,” said John Crawford with the economic development group Downtown Dallas Inc. “It’s a very unique creative concept to getting your money on the front end.
“Typically it’s paid out over several years, and you have to wait your turn because of the amount of money available,” Crawford said. “It makes a lot of sense for the developer to do this and expedites the project and reduces the liability.”
The cost of the Statler redevelopment has grown to more than $221 million, according to the SEC filings.
The original budget for the ambitious project was estimated about $175 million in early 2014 when the Dallas City Council approved redevelopment plans for the landmark downtown building.
Opened 58 years ago as one of the country’s most modern hotels, the 19-story building on Commerce Street had been empty for a decade when construction work started to transform the building in a mixed-use development.
The current construction — which is scheduled to wrap up early next year — will remake the old Statler Hotel into 219 apartments, 150 hotel rooms, and retail and office space. Originally the project had been expected to open in late 2016.
To qualify for the $46.5 million in city economic incentives, the developers must have completed the Statler redo by October of next year and have invested a minimum of $120 million in the project, according to the prospectus for the bond offerings.
The massive redevelopment has been financed in part with an $85 million EB-5 loan and $51.2 million in bridge loans based on the value of tax credits promised on the project by the federal and state governments, according to details provided to the bond buyers.
Financial data provided for the Statler project indicates that the redevelopment will cost almost $150 million. There’s more than $63 million additionally in “soft costs” for the developer’s fee, architectural and engineering fees and other items.
New York-based bond rating firm Moody’s assigned a Baa3 rating to the bonds, which pay an interest rate of about 3.8 percent.
Investors who purchased the Statler bonds were warned that the project must be completed and meet all city requirements before the public incentives will be paid.
Developer Moayedi also warned bond investors of his ties to United Development Funding, a Grapevine-based investor and lender that is being investigated by federal prosecutors.
About 40 percent of Moayedi’s projects have previously been developed with UDF funding.
“UDF is not associated with funding” of the Statler, according to the information supplied to bondholders.
The Statler developer said that it couldn’t predict what impact the federal investigation of UDF “may have on the developer or the developer’s ability to complete the project or continue funding the project.”
Other developers who have redone downtown historic buildings say they know of no other cases where the city economic incentives have been sold as a bond to investors.
It’s creative — it may set a trend,” said Larry Hamilton, whose firm has done more downtown historic building conversions than any other company. “What a great idea.”
The Dallas Morning News
By Steve Brown
Real Estate Editor
Published: 31 August 2016 12:52 PM
Updated: 01 September 2016 01:55 PM
Jenny Poree discusses how a provides a policy change by the US Department of Justice regarding federal prisons will negatively impact our rated prison portfolio and Ashley Ramchandani provides an update on higher education rating actions in Illinois.
Aug. 30, 2016
Fitch Ratings-New York-29 August 2016: The chances of a near-term improvement in funded ratios for many state-wide pension systems are remote, Fitch Ratings says, even as annual pension contributions made by state governments continue to rise. In particular, state systems that employ 30-year rolling amortization or similar methods to calculate their annual required contributions (ARC) are at greater risk of having pension sustainability problems over the long run.
Actual pension contributions have risen rapidly in recent years as governments have attempted to stem the erosion of their systems’ funded ratios and catch up with rising ARCs, the contribution benchmark calculated by actuaries as necessary to eliminate the unfunded pension liability over time. The average actual contribution in fiscal 2014 is roughly 89% greater than in 2008, the year the global financial crisis began, while the ARC has risen an average of 72% since then.
However, actual contributions remain inadequate relative to the ARC. Based on Fitch’s last state pension update, a little more than half of major state-wide systems received an annual contribution in fiscal 2014 at or above their ARC. The remaining systems received lower contributions. A shortfall in actual contributions, relative to the ARC, deprives a system of investable resources, increases its unfunded liability and elevates the future ARC that will be calculated at subsequent funding valuations.
Inadequate contributions relative to the ARC are not the only weak contribution practice. In many cases, a system’s ARC itself is a poor benchmark of contribution adequacy. The ARC is a product of multiple, separate assumptions reflecting the disparate policy priorities of each system. These priorities include cost stability, equity and certainty of achieving full funding. For many systems, progress in achieving full funding is sacrificed for short-term cost stability. This is particularly true for major systems employing 30-year rolling amortization or other amortization assumptions that create a similar outcome.
Under a 30-year rolling amortization, the ARC is an inadequate measure of contribution sufficiency because at each successive annual funding valuation the ARC is recalculated based on a new 30-year open period, much like refinancing a home mortgage loan year after year. The resulting ARC is likely to provide a higher degree of contribution stability at a lower cost than if it were calculated based on more conservative, alternative methods, such as a consistently fixed, closed-period amortization, various layered amortization approaches, or even a shorter rolling period, such as over 20-years.
For systems using a 30-year rolling amortization, the resulting ARC may too low to cover the cost of new benefits each year plus the accrued interest on the pre-existing unfunded liability — hence the unfunded liability can rise each year, even when the full ARC is paid and other assumptions are achieved. Many governments using 30-year rolling amortization while consistently paying their full ARC each year have still seen their funded ratios languish well below prerecession levels.
Implementation of GASB 67 and 68 standards, which created a new, parallel “accounting” valuation for financial reporting purposes, has not altered the challenges associated with weak pension funding practices. Although similar assumptions inform both funding and accounting valuations for the pension liability, the funding valuation remains how systems arrive at an ARC, the rough equivalent of the actuarially determined employer contribution (ADEC) under the new standards.
Given legal protections that limit the near-term positive impact of reforms and other trends affecting pensions, we expect liabilities will remain elevated and ARC increases to continue. Most governments have been able to absorb higher pension contributions, and Fitch expects this to remain the case, especially as past reforms begin to have an impact. In a smaller number of cases, pensions may result in downward rating pressure, particularly as past contribution shortfalls and limited reforms continue to drive the unfunded liability and ARC higher, reducing expenditure flexibility and straining operations.
Contact:
Douglas Offerman
Senior Director
US Public Finance
+1 212 908-0889
Rob Rowan
Senior Analyst
Fitch Wire
+1 212 908-9159
Media Relations: Elizabeth Fogerty, New York, Tel: +1 (212) 908 0526, Email: elizabeth.fogerty@fitchratings.com.
The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings.
ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY’S PUBLIC WEBSITE ‘WWW.FITCHRATINGS.COM’. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH’S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE ‘CODE OF CONDUCT’ SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.
Norwalk, CT, August 29, 2016 — The Governmental Accounting Standards Board (GASB) today proposed guidance that state and local governments would apply when extinguishing debt prior to its maturity. Specifically, the Exposure Draft, Certain Debt Extinguishment Issues, proposes guidance for transactions in which only existing resources are placed in a trust for the purpose of extinguishing debt.
Current GASB standards provide guidance on how to account for and report when the proceeds of refunding bonds are placed in a trust for the future repayment of outstanding debt. However, the standards do not apply when only existing resources (in other words, other than bond proceeds) are placed in a trust for the future repayment of outstanding debt. Consequently, governments could account for what is essentially the same transaction in two different ways.
The Exposure Draft proposes uniform accounting and financial reporting guidance for debt that is “defeased in substance,” regardless of the source of the resources that are placed in a trust.
“Whether you borrow the money to extinguish the debt or use cash you already have, the treatment ought to be the same because the economic substance of the transaction is the same,” said GASB Chair David A. Vaudt. “From a government’s perspective, the source of the money that is being used to refund debt should not matter as long as the requirements for in-substance defeasance are met.”
In this context, in-substance defeasance refers to a situation in which the debt remains outstanding but sufficient resources—in the form of essentially risk-free monetary assets—have been placed into an irrevocable trust to make payments on the debt when they come due. When debt is defeased in substance, the debt and the resources placed in trust are no longer reported in the financial statements. Governments are required, however, to disclose information in the notes to the financial statements about debt that has been defeased in substance.
The Exposure Draft also proposes guidance relating to prepaid insurance on debt that is extinguished and notes to the financial statements for certain defeased debt. One proposal would require disclosure if a government is not prohibited from subsequently exchanging the essentially risk-free monetary assets in the trust with monetary assets that are not essentially risk-free.
The Exposure Draft is available on the GASB website, www.gasb.org. Stakeholders are encouraged to review and provide comments by October 28, 2016.
The governor’s office for Illinois, a state with notoriously weak finances, this week issued a stark warning about what might happen if it reduced the assumed rate of return for its Teachers’ Retirement System.
“If the board were to approve a lower assumed rate of return taxpayers will be automatically and immediately on the hook for potentially hundreds of millions of dollars in higher taxes or reduced services,” the state’s senior adviser for revenue and pensions wrote in a memo.
Unlike corporate pensions, US public pensions discount their liabilities using the rate of return they expect to generate on their investments. Some experts complain that these rates have been set unrealistically high. Lower return expectations would push up the cost of liabilities on their balance sheet, and force Illinois to make higher contributions. If costs to the pension were to increase by $250m it would nearly equal an entire year’s appropriation for six universities.
Financial Times
Last updated: August 26, 2016 5:27 pm
Nicole Bullock in New York
Key Points
It’s that time of year when students wind down their summer breaks and start to turn their thoughts to school. Municipal bond investors may want to follow their lead.
Bonds issued by school districts—along with other highly rated general obligation bonds from cities and states and revenue bonds backed by essential services—can serve as the stable foundation of a municipal bond portfolio. School districts in most states tend to have high credit ratings, boasting A-level ratings or better. Why? One reason is that school district bonds in most states are backed by property taxes, which can be a stable and reliable revenue source. A strong property tax pledge can help support the credit quality of school district bonds, in our view.
FINANCIAL ADVISOR
AUGUST 24, 2016 • COOPER J. HOWARD AND ROB WILLIAMS
Property Assessed Clean Energy (PACE) financing can be a powerful tool for building owners. Financing an energy efficiency or renewable project in this manner enables the work to be done without immediate payment. The obligation is paid over a period of time – generally as long as 20 years – through an assessment on the property’s tax bill. If the building is sold, the obligation is assumed by the new owner.
It can be a win/win. The vendor gets the work and the home or business owner gets the upgrade. That work presumably lowers building expenses, increases performance and/or makes the structure more environmentally sound. PACE funding structures must be approved at the state and local jurisdictions.
Continue reading.
Energy Manager Today
By Carl Weinschenk
August 23, 2016
The Minnesota Supreme Court this week ruled that fees St. Paul was charging property owners for street maintenance amounted to a tax and therefore should be subject to the city’s constitutional limits on taxing authority.
The case was brought by two churches who argued they were asked to pay for a service that benefitted the public, not just the property owner. The fee applied to routine street services including street sweeping, snow plowing, streetlight maintenance and litter pick-up. It affects more than 81,000 St. Paul homes, churches, nonprofits, universities and businesses.
St. Paul’s city attorney framed the loss as a technical one, telling the Twin Cities Pioneer Press that “it’s not a question of if the city can collect assessments but how it goes about doing so.”
The Takeaway: This case is more than a technical debate. St. Paul is like many cities and counties across the country in that it’s seen an increasing share of its budgeted income come from fees rather than taxes in recent decades. Simply put, it’s easier to raise a fee — or create a new one — than it is to raise a tax.
It’s important to note that this ruling only immediately applies to St. Paul. But it could spark copycat suits in other municipalities. At a minimum, it might give municipalities pause when instituting a new fee — to consider whether they are actually charging for an individual service or a public good.
GOVERNING.COM
BY LIZ FARMER | AUGUST 26, 2016
The proposals could reshape several large U.S. cities for decades to come — if they pass.
Transit agencies in Atlanta, Detroit, Los Angeles and Seattle are appealing to voters this fall to fund new services that the cities hope could transform their metropolitan areas for decades to come.
By going to voters in a presidential election year, the agencies are betting that big turnouts will help their cause. But even though local transportation measures generally fare well at the ballot box, each of these particular metropolitan areas has had a tricky history with transit. In fact, just getting the proposals on the ballot took significant effort in Atlanta and Detroit, and opponents are already organizing to block the far-reaching efforts in Los Angeles and Seattle.
The ballot measures push for new rail lines, better bus service and more connections to destinations such as airports, universities, hospitals and job centers.
Here’s a rundown of each.
Going Regional (Finally) in Detroit
Voters in four Detroit-area counties will vote on whether to increase their property taxes by an average of $95 a year to vastly improve transit in the region. If approved, the proposal would cost $4.6 billion over 20 years.
The plan calls for building commuter rail between Detroit and Ann Arbor, adding four new bus rapid transit routes among major traffic arteries, creating bus routes that cross county borders and increasing regular bus service throughout the area. It also ensures that the region’s four existing transit providers integrate services to share a fare card and a common call center.
It would be a major development for Detroit, which, until 2012, was the only major metropolitan area without a regional transportation authority. Michigan lawmakers OK’d the authority in order to get federal funding for Detroit’s new streetcar line.
Warren Evans, the executive of Wayne County, which includes Detroit, praised the decision to put the tax hike and plan before the voters. That decision means “progress on an intractable problem that has dogged this region for 50 years,” he said.
“This is an important decision for the citizens of this region,” he added. “They will have to ask themselves a question: Should we join virtually every other urban area in the country in recognizing the importance of an efficient and effective public transportation system?”
Boosting Service in Atlanta
In another transit-starved area, Atlanta voters will decide whether to increase their sales taxes by 0.5 percent over 40 years to get better bus service, expanded rail routes and better incorporation of technology.
MARTA, Atlanta’s transit system, hasn’t specified exactly how the $2.4 billion raised would be spent. But its leaders have proposed a menu of possibilities that also includes circulator buses, new rail stations on MARTA’s existing subway lines and improvements to existing stations. The money would only come from within the city itself, not the rest of the three-county area MARTA now serves.
The vote in November, however, is complicated by the fact that the city council put another sales tax hike of 0.4 percent on the ballot for other transportation measures. That initiative would devote money to acquiring the remaining land to complete the so-called BeltLine, a 22-mile loop of parks, bicycle trails and other amenities around the city. In addition, it would pay for more bike trails, make roads more pedestrian- and bike-friendly, fix up sidewalks, and help coordinate traffic signals.
If both measures pass, it would raise Atlanta’s sales tax to 8.9 percent, far higher than it is in other counties in the metropolitan area.
Expanding Farther and Wider in Seattle
Seattle’s Sound Transit agency wants to double the size of its light rail network and expand its ability to reach the far-flung areas of Puget Sound. It’s asking voters to approve $54 billion in new funding over 25 years. The plan, known as ST3, would pay for seven light rail extensions, which would help grow the network from 54 miles to 116 miles; add commuter rail and bus rapid transit; and reach 37 new communities, bringing ridership up to 700,000 passengers a day.
All of that would cost a pretty penny, about $169 a year for an individual taxpayer or $326 annually for a typical household. It would be paid for through increases in property, sales and car-tab taxes.
Peter Rogoff, Sound Transit’s CEO and a former head of the Federal Transit Administration, said the ballot measure could change the nature of the Seattle-area transit agency. “Right now, we are a commuter bus operator with a single light rail line,” he told Progressive Railroading magazine. “The big transformation will be moving this from a light rail line to a true regional network.”
But opponents say the improvements would do little to alleviate congestion in the Seattle area. Even by Sound Transit’s own estimates, the agency would only provide 1 percent of trips in the region, according to the group Smarter Transit. “Today innovative ideas around ride sharing, driverless cars and bus rapid transit are being developed. But ST3 has little or none of these,” the group says on its website.
Doubling Down on Taxes in Los Angeles
Transportation planners in Los Angeles County want to build on previous wins at the ballot box. They’ll ask voters in November to make permanent a previous sales tax hike for transportation, plus add another half-cent sales tax hike to pay for both highway improvements and new transit projects. The tax increases would raise the cumulative sales tax in L.A. County to 9.5 percent.
The proposal, called Measure M, is expected to generate $860 million a year if it passes with the required two-thirds majority. It could be a close call. A similar measure in 2008 barely squeaked by with 67.2 percent of the vote, but a related bonding proposal fell just short in 2012. This year, Measure M will appear on a crowded ballot alongside 17 statewide ballot measures.
County supervisors voted 11-2 to put the put the proposal on the ballot, but many city officials, particularly in the southern part of the county, oppose it.
GOVERNING.COM
BY DANIEL C. VOCK | AUGUST 23, 2016
In addition to providing the financing, technical expertise and labor cities need to maintain and improve vital infrastructure projects, P3s can produce revenues that could keep municipal pension plans solvent, suggested a resident of one Florida city that is facing this dilemma.
A solid pension plan should be 80 percent to 90 percent funded but Sarasota’s general plan is only 71 percent funded and is projected to incur a $54 million unfunded liability in the years ahead, wrote Lewis Solomon, a professor emeritus at George Washington University Law School in an Aug. 8 Herald Tribune op-ed.
To keep its underfunded pension plan afloat, the city is reducing cost-of-living adjustments and other plan benefits and limiting the number of workers who can enroll. The city should instead consider investing the plan’s funds in a P3 project that can serve the dual purpose of producing good returns for the plan while rehabilitating Sarasota’s struggling water and wastewater system, Solomon suggested.
“Rather than these palliatives, Sarasota could monetize its water and sewer system by entering into a public-private partnership for these assets. By providing access to private capital, this approach would quickly help the municipality achieve the general plan’s 80 percent funding target and substantially lessen the millions in current, annual contributions to pay down the plan’s unfunded liabilities,” he wrote.
Robert Poole of the Reason Foundation recently made a similar suggestion, pointing out that pension funds looking for relatively safe investments would do well to consider buying into existing or “brownfield” infrastructure P3 projects than in new “greenfield” ones.
By leasing its water system — representing more than $100 million in water and sewer projects — to a private developer for 20 to 30 years, Sarasota could obtain private financing for and rehabilitation of 175 miles of water pipes and its deteriorating lift stations, Solomon estimated.
More than 2,000 communities use P3s to fund and conduct vital water-related infrastructure projects, Michael Deane, executive director of the National Association of Water Companies has noted.
One example is the Bayonne (N.J.) Municipal Utilities Authority, which leased its ailing water and wastewater system to Kohlberg Kravis Roberts and United Water in 2012 for 40 years, Solomon pointed out. Through the deal, the authority received $150 million from the developer, which also agreed to invest $107 million in the city’s water system and provide technical expertise to rehabilitate it.
“This infusion of capital was critically important to the city because it eliminated $130 million of existing debt and improved both the authority’s finances and Bayonne’s credit rating,” according to a June 10, 2015, article on two successful municipal water P3s published by the Wharton School at the University of Pennsylvania.
Although it is not yet common for pension plans in this country to invest in public infrastructure projects, interest is growing. For instance, the California Public Employees Retirement System announced recently its purchase of a 10 percent share — at least $330 million — of the company that operates and maintains the Indiana Toll Road.
Pension fund managers in Canada have figured this out. Several are invested in such projects internationally and the Trudeau government is encouraging them to do so domestically.
NCPPP
August 22, 2016
Geoff Buswick provides an overview of the MCDC initiative and Carol Spain discusses current economic factors impacting Pennsylvania local governments.
Aug. 23, 2016
America’s states and cities are finally seizing on record-low interest rates to finance needed work on roads, bridges and schools.
After borrowing costs tumbled worldwide as central banks sought to jump-start their economies, agencies from New York to California have sold about $272 billion of bonds this year and are funneling more into construction projects, instead of just paying off higher-cost debt. That’s put the municipal market on track to approach the record level of sales reached in 2010, when the federal government was seeking to hasten the nation’s recovery by footing some of the bills on debt issued for public works.
“That’s going to be the story for the year — rebuilding infrastructure,” said Mikhail Foux, head of municipal strategy in New York for underwriter Barclays Plc, which forecasts that issuance may reach $400 billion this year.
The spree shows how local U.S. agencies are benefiting from turbulence in global financial markets that’s kept the Federal Reserve from raising interest rates since its initial increase in December — a move that at the time spurred speculation states and cities were missing an opportunity. The need for such spending has been injected into the U.S. presidential campaign, with both Democrat Hillary Clinton and Republican rival Donald Trump promising hundreds of billions of dollars for the country’s fraying infrastructure.
While localities for years pocketed savings by refinancing, this year they’ve stepped up borrowing for planned public works — many of which were put on hold as officials struggled with budget shortfalls that persisted long after the recession ended in 2009. So-called new-money deals — which fund projects instead of paying off old debt — accounted for 40 percent of the sales through early August, compared with 35 percent for the same period last year, according to Bank of America Merrill Lynch.
The new issues this year included those for a terminal at New York’s LaGuardia Airport, improvements at Chicago’s schools and work on Texas’s roads. Next month, Alabama plans to offer $550 million of debt backed by highway funding it’s set to receive from the federal government, allowing it to begin work without waiting on Washington.
Irvine Ranch Water District, an agency serving 380,000 customers in California’s Orange County, this month issued its first new-money bonds since December 2010. The timing of its $117 million deal, some of which retired older securities, was driven partly by the market, said Rob Jacobson, the district’s treasurer. The proceeds are being used for a facility to treat waste-water remnants called biosolids, which are currently processed elsewhere.
“It turned out to be an excellent time,” Jacobson said. “The market is fantastic.”
The longest-maturing securities, which come due in March 2046, yielded 2.23 percent, 0.74 percentage point above benchmark munis. The 10-year securities yielded 1.29 percent, 0.64 percentage point less than top-rated bonds, data compiled by Bloomberg show.
The pace of new bond deals is expected to stay brisk. There were $16 billion scheduled over the next month, an increase from the $6.9 billion that were planned for 30 days out at the start of July, data compiled by Bloomberg show.
On Friday, Fed Chair Janet Yellen said the case for raising interest rates is getting stronger, and speculation has increased that the central bank will tighten monetary policy: the futures market predicts a 56 percent chance that rates will be increased in December, compared with the 45 percent odds given a month ago.
The increased supply hasn’t diminished the municipal market’s rally, which has driven yields — which move in the opposite direction as prices — to record lows. With negative rates in Japan and Germany, even the diminished payouts have been a draw to investors looking. U.S. state and local-government debt funds have taken in cash for almost a full straight year, according to Lipper US Fund Flows data.
Barclay’s Foux said more bonds may be on the way if either Trump or Clinton follow through on their promises to fix crumbling roads and bridges.
“It’s going to be a massive boost,” he said.
Bloomberg Business
by Romy Varghese
August 26, 2016 — 2:00 AM PDT Updated on August 26, 2016 — 7:24 AM PDT
Fitch Ratings-New York-19 August 2016: Maintenance problems that halted two of the US’s largest transit systems will likely spread to other systems unless funding needs are addressed and adequately managed, Fitch Ratings says, noting that long-term planning will help manage maintenance and capital requirements.
Although Washington Metropolitan Area Transit Authority’s (Metro) funding process has begun, Metro demonstrates that successful funding requires effective planning and oversight.
Following an accident in 2009, the National Transportation Safety Board recommended that Metro implement a series of costly safety improvements. In 2010, Metro began a $5 billion, six-year capital-improvement plan to address those recommendations and others. As of January 2016, the authority had spent approximately $3.7 billion of the capital plan. Despite the expenditures, safety issues remain due to lack of planning and oversight. Last month, Metro began a project that will last for the rest of the year and shut down some train lines for as long as 24 days at a time to address emergencies.
In June, Southeastern Pennsylvania Transportation Authority (SEPTA) removed one-third of its train fleet due to a defect. Last week, it announced a plan to bring some of the cars back into service on Aug. 21. The defect’s source appears to have been attributable to the manufacturer. However, SEPTA’s significant long-term capital improvement backlog could contribute to maintenance issues that may interrupt its service.
Between fiscal 2011 and 2014, SEPTA’s capital program funding fell to approximately $300 million per year on state funding cuts. In 2013, the authority estimated its repair backlog to be $5 billion, dwarfing the amount of the capital program. A rise in state funding is projected to nearly double the annual capital program by fiscal 2018. However, at that rate, the repair backlog will take many years to address, raising the likelihood of additional costly service disruptions.
The knock-on effects of the downtime to these systems will affect an increasingly large number of people and businesses. For many transit systems, increased demand has been rising as migration to US cities has increased. According to the US Census Bureau, the population of 19 of the 20 largest cities rose in 2015, while New York City saw the largest number of new residents. Reflecting the city’s growing population, the Metropolitan Transportation Authority, New York’s largest transit system, reported that it provided 1.7 billion annual rides in 2015 — the highest since 1948.
Contact:
Scott Zuchorski
Senior Director
Global Infrastructure & Project Finance
+1 212 908-0659
Michael Rinaldi
Senior Director
U.S. Public Finance
+1 212 908-0833
Rob Rowan
Senior Analyst
Fitch Wire
+1 212 908-9159
Media Relations: Elizabeth Fogerty, New York, Tel: +1 (212) 908 0526, Email: elizabeth.fogerty@fitchratings.com.
The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings.
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NEW YORK — U.S. public universities are increasingly turning to public-private partnerships to develop student housing and other campus projects, sometimes using the structure to transfer borrowing and liability risks to the private sector.
Over the last five years, there has been an “uptick” in universities and colleges leveraging the private sector to deliver housing needs, said Kevin Wayer, an international director and co-president of the Public Institutions group at commercial real estate firm Jones Lang LaSalle.
“The notion of having the private sector deliver student housing is something that has been going on for many years, but I think it has definitely increased in utilization since the financial crisis,” Wayer said.
The financing structure, known as “P3,” is being employed both by schools that are fiscally strapped and those with healthier balance sheets.
Brailsford & Dunlavey, a project management firm, has seen on average a 50 percent year-over-year growth since 2011 in P3 transaction values it has consulted on for higher education institutions, said Brad Noyes, senior vice president.
In 2011, the transaction value for such P3 projects was $320 million, he said. Year-to-date the firm “has $2.5 billion worth of transactions we’re providing advisory work on,” Noyes said.
Use of P3s can contribute to reduced debt on universities’ balance sheets, said Todd Duncan, assistant vice president of housing, food and retail services at the University of Cincinnati’s main campus.
While still only a “fraction” of the U.S. municipal infrastructure market, the P3 market is building, Moody’s Investors Service said in a report issued in March.
“Universities are also expanding their use of different types of P3s beyond privatized student housing to include other university facilities,” Moody’s said. The report added: “More local governments and higher education institutions are exploring different types of P3s with more hybrid P3s and DBF (design, build, finance) structures.”
Universities might engage in P3s for a number of different reasons, including the efficiency that developers can bring to projects, Duncan said.
Increased operating costs for institutions and decreased state contributions have led to a financing gap, said Kurt Ehlers, managing director at Corvias Campus Living, a development group.
From fiscal 2008 to fiscal year 2016, state spending per student at public two- and four-year colleges decreased 18 percent, according to Michael Mitchell, a senior policy analyst at the Washington, D.C.-based Center on Budget and Policy Priorities.
The National Council for Public-Private Partnerships, a non-profit that advocates for P3s, lists 18 types of P3 partnership structures on its website. The council did not have a national figure for how much money is being spent on higher education P3 projects.
A newer P3 structure gaining in popularity has the developer not only help finance, build or renovate a project, but also maintain the facility, sometimes for decades, Ehlers said. In return for maintaining standards, the developer can count on a fixed incentive fee.
“From a sustainability standpoint, these properties, these assets become self-sustaining,” Ehlers said.
At the University of California in Merced, developer group Plenary Properties Merced will finance, build and maintain project areas that include student housing, academic facilities and recreation spaces.
The four-year $1.3 billion project will be financed through payments from the university and through funds contributed by the developer. UC Merced plans to fund its contribution of roughly $600 million by issuing bonds, said Stuart Marks, senior vice president at Plenary Group and a leader on the 2020 Project.
The developer will fund the difference via Plenary equity and privately placed notes, he said.
The university will pay the developer over 35 years while it provides continued maintenance of the facilities, Marks said.
“You get the economies of scale and efficiencies through having one developer responsible,” he said.
By REUTERS
AUG. 26, 2016, 2:18 P.M. E.D.T.
(Reporting by Stephanie Kelly; Editing by Daniel Bases and Dan Grebler)
Norwalk, CT—August 23, 2016—A Post-Implementation Review (PIR) of Governmental Accounting Standards Board (GASB) Statement No. 49, Accounting and Financial Reporting for Pollution Remediation Obligations (issued 2006), concluded that Statement 49 accomplished its objectives of providing more consistent, timely, and complete reporting of pollution remediation obligations by state and local governments.
“The PIR report on Statement 49 tells us that, overall, the standard provides creditors and other users of financial statements with useful information,” said GASB Chair David A. Vaudt. “The GASB acknowledges the issues raised by some governments in applying certain provisions of the Statement, and will consider those issues when addressing the provisions in the future.”
The PIR team developed its final report based on input from financial statement users, preparers, and auditors. The Statement 49 PIR team reached the following overall conclusions:
The PIR team had no standard-setting process recommendations as a result of the review.
The review of Statement 49 was undertaken by an independent team of the Financial Accounting Foundation (FAF), the parent organization of the GASB and the Financial Accounting Standards Board (FASB). The team’s formal report is available here. The GASB’s response letter to the report is available here.
With the completion of the GASB Statement 49 review, the PIR team has begun its review of GASB Statement No. 54, Fund Balance Reporting and Governmental Fund Type Definitions. For more information on the PIR process and to express an interest in participating in a review, visit the FAF website.
The U.S. Federal Housing Administration (FHA) issued final guidance in the form of Mortgagee Letter 2016-11 regarding the subordination of Property Assessed Clean Energy (PACE) assessments on Tuesday, July 19, 2016. As originally announced in August of 2015, the guidelines are part of a broader initiative to expand the accessibility of clean energy financing options while simultaneously preserving the value of underlying property with PACE assessments.1 Most PACE programs permit the PACE assessment to generate a lien on the property that is pari passu with real estate taxes and other assessments on real property and comes ahead of any mortgage lien on the property; a structure for which both the FHA and the Federal Housing Finance Agency (FHFA), the conservator of Fannie Mae and Freddie Mac, have expressed concerns. To address these concerns, the FHA announced that it will begin insuring mortgages on properties with PACE assessments that meet five conditions.
FHA Guidance on PACE Assessments
Super-Priority Lien Status
The paramount condition in the FHA guidance is centered around the concern that PACE assessments could take super-priority lien status over a mortgage in the event of default or foreclosure. Under this condition, PACE assessments cannot have superior priority lien status to the mortgage, except in the event of a default. Even in the event of default, a PACE assessment can only take priority over an FHA-insured mortgage to the extent of the installment of the PACE assessment that is delinquent. The guidelines also indicate that an event of default cannot accelerate full repayment of the PACE assessment; although, the guidelines permit a notice of lien with respect to the full PACE assessment amount to be filed in the public records.2
Special Assessment Treatment
A second condition requires that PACE assessments are collected and secured in the same way as a special assessment against the property (i.e. the PACE obligation must be escrowed by the lender).3 Essentially, this condition clarifies that the FHA will insure mortgages with PACE assessments attached if such assessments are treated like a property tax under state law, but will not do so if the PACE assessment is given first priority lien status in a manner other than described under the first condition.4 Legally, the FHA cannot accept PACE assessments that would treat the entire PACE assessment as a priority lien over the mortgage, except in circumstances of default or delinquency similar to other property tax assessments.5 This condition should please mortgage lenders, however, it does raise a concern about what would happen in a scenario where the FHA-insured mortgage enters into default and the defaulted assessment amount exceeds the escrow amount. It is unclear whether the FHA would be required to pay the remaining amount owed or whether that amount would be passed along to the purchaser of the foreclosed property.
Free Transferability
A third condition requires that there are no terms or conditions of the PACE assessment that would limit the transfer of the encumbered property to a new homeowner. This requirement includes a prohibition against a restriction that could require third-party consent to transfer the property, unless such restriction could be terminated at no cost by the homeowner.6
Public Record
A fourth condition requires that the PACE assessment be readily apparent in public records to all parties involved in the mortgage transaction and must: (i) state the loan amount; (ii) include the expiration date and cause of expiration; and (iii) specify that a default cannot accelerate the expiration date.7 It is not clear how this requirement will affect PACE programs that allow for a delay in the filing of the assessments in the public records.
Continue with the Property
A fifth and final condition requires that the PACE assessment attach to the property upon sale, including foreclosure.8 This requirement ensures that, in the event of a foreclosure or deed in lieu thereof, the balance of the PACE assessment will transfer to the new property holder instead of becoming immediately due and interfering with payment of the mortgage loan.
Disclosure and Appraisal Requirements
The FHA guidance further includes disclosure and appraisal requirements.
The disclosure requirement specifies that, in the event of sale of a property with a PACE assessment, the sales contract must specify whether the PACE assessment will remain attached to the property or if it will be satisfied by the seller at or before closing.9 If the PACE assessment will remain attached, all terms and conditions of the PACE assessment must be disclosed to the buyer and further made part of the sales contract.
Lastly, if the PACE assessment will remain with the property, any appraiser must include in its analysis the impact of the PACE-related improvements (i.e. solar panels) on the value of the property, irrespective of whether such impact is positive or negative.10
Lingering Questions and Concerns
While the FHA’s guidance is certainly a step in the right direction, there are still loose ends that need to be tied up. First, it is unclear from the guidelines who will be charged with enforcing the various conditions and requirements therein. For example, who will ensure that an appraiser is considering the impact of the PACE-related improvements on the value of the property? Will someone at the FHA scrutinize the appraisal, or will the program administrators be stuck with this task?
Second, the FHA’s previously-issued guidance in 2015 stated that the FHA intended to coordinate with the Consumer Financial Protection Bureau (CFPB) to address consumer disclosure requirements, yet the final guidance does not refer to any such collaboration. Additionally, though the Department of Energy’s Best Practices Guide for Residential PACE Financing (Best Practices Guide) stresses the importance of property owner education and disclosures,11 the utilization of the Best Practices Guide is not mandatory. The FHA explicitly states that it may be used to align state and county PACE programs with consumer protection goals; however, state and local legislatures are not required to utilize the Best Practices Guide.
Lastly, we note that under the “Fair Housing and Equal Opportunity” resources section at the end of the Best Practices Guide, there is a link to the U.S. Department of Housing and Urban Development’s website for the purpose of providing more information on “program structure, operation and evaluation to ensure equal access under the Fair Housing laws.”12
FHFA’s Position Remains Unchanged
The FHFA, the conservator of Fannie Mae and Freddie Mac (who collectively represent roughly 80% of the residential mortgage market), has a long-standing objection towards the “super-priority lien” status of PACE assessments, citing lack of knowledge on behalf of lenders as well as the lenders’ inability to account for additional risk and potential decline in the value of the property.13 Indeed, the FHFA recently stood by its objection to PACE assessments receiving super-priority lien status, stating that it does not intend to allow Fannie Mae or Freddie Mac to purchase mortgages on properties encumbered by PACE assessments.14
Conclusion
The guidelines promulgated by the FHA are a positive development and will allow property owners with existing PACE obligations—or those who wish to obtain them— to receive FHA-insured mortgage loans. Any positive impact will be mitigated, however, by the fact that the guidelines will affect roughly only 15% of the residential mortgage market. To have a more resounding and pervasive impact, the FHFA would have to release similar guidelines, yet it remains unclear whether they will do so.
Footnotes
1) U.S Department of Housing and Urban Development, Guidance for Use of FHA Financing on Homes with Existing PACE Liens and Flexible Underwriting through Energy Department’s Home Energy Score, (August 2015).
2) U.S Department of Housing and Urban Development, Mortgagee Letter 2016-11, (July 2016).
3) Id.
4) U.S. Department of Housing and Urban Development, FHA to Insure Mortgages on Certain Properties with PACE Assessments, Real Estate Rama, (July 2016).
5) Id.
6) U.S. Department of Housing and Urban Development, Mortgagee Letter 2016-11, (July 2016).
7) Id.
8) Id.
9) Id.
10) Id.
11) See Department of Energy, Best Practices Guidelines for Residential PACE Financing, Page 5 (July 2016).
12) Id. Page 14.
13) U.S Department of Housing and Urban Development, Statement of Alfred M. Pollard, General Counsel, FHFA, before the California Legislature, Keeping Up with Pace, (June 2016).
14) FHFA Won’t Budge on PACE LOANS, Asset-Backed Alert, (July 29, 2016).
Dechert LLP – Patrick D. Dolan, Kira N. Brereton and Noah Tischler
USA August 17 2016
PACENation applauds and strongly supports guidance for residential PACE issued today by the U.S. Department of Housing and Urban Development (HUD). The guidance clearly shows the Obama Administration’s strong commitment to Property Assessed Clean Energy financing, a bipartisan initiative adopted by 18 states thus far that encourages home owners to make energy efficiency and renewable energy upgrades to their properties. To date, over 100,000 households have made their homes more valuable, healthier and comfortable using PACE. The nearly $2.25 billion spent has created 22,000 jobs, many of them in the communities that offer PACE, and will save the equivalent of 12.5 billion kWh’s over the life of the measures.
The guidance issued today by HUD’s Federal Housing Administration (FHA) sets standards that will allow qualifying homes with PACE assessments to be purchased or refinanced with mortgage products provided by FHA.
“This is another critical step forward to make PACE financing available for more home owners so we can achieve our nation’s energy goals”, said Jeff Tannenbaum, PACENation’s founder.
PACE uses a financing mechanism that state and local governments have relied on for decades to promote improvements to private property that meet a public purpose. With PACE, home owners work with local contractors to decide which measures make sense. Funding is provided by private sector investors and repaid by each participating home owner as a charge on their property tax bill. PACE is completely voluntary and only impacts home owners who choose to participate.
Today’s release also includes an update to the U.S. Department of Energy’s PACE best practices guidelines. Strong consumer protection policies already adopted by PACENation and its members may make PACE financing the safest way for households to pay for investments they need and want to make in their homes.
David Gabrielson, PACENation’s Executive Director, said “We are thrilled by today’s announcement and appreciate the hard work that went into producing this guidance. We look forward to continued work with all market stakeholders on solutions that will make PACE available for more homes.”
PACENation is a national not-for-profit organization that is supported by foundations and in part by its members: organizations and individuals that recognize the power of PACE financing and seek to make it available as a financing option for all property owners that want to make clean energy (and in many places, water conservation) upgrades to their buildings. To learn more and find out how you can get involved, visit us at www.pacenation.org
PACENation
July 19, 2016
PHOENIX Public finance startup Neighborly is offering municipal issuers a chance to win a free bond financing.
The San Francisco-based financial services company is launching what it calls the “Neighborly Bond Challenge,” which will offer winning municipalities the opportunity to sell up to $10 million of bonds on Neighborly’s platform free of charge. Orrick, Herrington & Sutcliffe will be bond counsel. Applications will be accepted through Sept. 9, and the winners will be announced Sept. 21 at The Bond Buyer’s California Public Finance Conference.
Neighborly, which has a registered broker-dealer arm, aims to “democratize” the muni market be encouraging local investment from millennials and others who wouldn’t typically invest in muni bonds directly.
“In modernizing public finance, Neighborly is looking forward to financing innovative public projects being conceived right now by governments throughout the United States,” said Jase Wilson, Neighborly’s chief executive officer. “We are extremely excited about the opportunity to work with municipal finance thought leaders and to have Orrick as bond counsel for the Neighborly Bond Challenge. Neighborly’s goal is to reduce complexity and use data to create transparency in the municipal finance industry. Neighborly provides the same market accessibility for a parent buying a $100 muni bond for their child’s graduation as the world’s
largest bond funds. ”
James McIntyre, Neighborly’s head of public finance, cited the success of Denver, Colo.’s 2014 “mini-bonds,” which were sold in $500 denominations, and said Neighborly is looking to produce more small-investor triumphs like that.
“We just want to build upon their success and get people thinking about muni bonds,” he said.
Issuance of the five winning selections is targeted for between the fourth quarter of this year and the fourth quarter of 2017. Interested municipalities can apply on Neighborly’s website, where they are invited to fill out information about their proposed financing including how the bonds would be used, what their current ratings are, and who is on their finance team. Neighborly says ideal projects for the challenge would be those with a direct positive impact on the issuer’s local community.
“Ideal financings include those that support schools, create microgrids, tackle water scarcity, create resiliency, or benefit those in need,” the company’s website reads. “Think sustainable or green projects that would benefit from our technological economies of scale.”
Burlington, Vt. Mayor Miro Weinberger said he is strongly considering applying to the challenge as the city is planning some financings to improve its infrastructure.
“We are regular participants in the municipal bond market,” Weinberger said. “I think there’s a quite good chance we’re going to put in an application.”
Weinberger said he is often struck by the cost of a bond issuance, and feels that what Neighborly is offering could offer significant savings. He said he also likes the idea of the company’s mission of fostering more direct and local muni investment.
“It would be great if more of the public would get to participate,” he said.
The Bond Buyer
By Kyle Glazier
August 11, 2016
Municipal issuers have retail buyers in mind when they take a trip to the primary market to sell their tax-exempt bonds.
They say they have recently been delivering the 4%-or-less coupons that are in high demand by traditional buy-and-hold investors who have a growing appetite for cost-efficiency in the current low yield climate.
“We are giving investors the coupons they are looking for, hoping to increase the number of buyers interested and hoping to improve the pricing,” Tim Rosnick, deputy controller of the Los Angeles, Calif., Unified School District told The Bond Buyer in an interview on Wednesday.
He said the district incorporated the preferred 4% coupons into two bond issues totaling $1.2 billion it sold earlier this month as a means of being flexible and accommodating of buyers’ growing demand for sub-5% coupons.
The greater the demand, the lower the yields, which enhances cost savings, Rosnick said, as the district prepared to return to market with a competitive sale of $455 million refunding of GO dedicated unlimited ad valorem property tax bonds on Thursday.
While the deal is restricted from having zero coupon bonds or coupons higher than 6%, Rosnick said the structure will be at the discretion of the winning bidder.
“Other than the minimums and maximums, they have a great deal of flexibility in terms of coupons,” he said. However, he said he expects 4% coupons to surface on some of maturities given the recent trend for the lower coupon product.
Retail demand for sub-5% couponing is increasing, other issuers and financial advisors confirmed.
“We are aware of retail demand and routinely look at alternative couponing structures,” Jorge Rodriquez, managing director and head of public finance at Coastal Securities, said in an interview on Thursday.
As a co-financial advisor for the city of San Antonio earlier this month, Rodriguez said it made sense to structure some of the general improvement and refunding bonds and combination tax and revenue certificates of obligation from a $306.44 million sale with 4% coupons to benefit the hearty investor demand.
At the same time, that structure was advantageous for the city as some of the maturities with 4% coupons were oversubscribed – even though they were priced at a premium.
For instance, 4% coupons were structured in 2034, 2035, and 2036, to yield 2.43%, 2.48%, and 2.53% at the pricing.
Final decisions, according to Rodriguez, are often determined by a series of criteria, including investor demand, credit, size of the maturity, and yield to maturity calculations.
“All of those drive how you have to coupon it,” he said.
Rodriguez said his firm consults with the underwriters to get price indications by maturity on a variety of coupon levels, including 3%, 4%, and 5%, and then chooses the coupons that will grab the most investor attention.
“You have to be able to move the bonds and also want to price them at the lowest possible kick to the issuers,” he said.
Using lower coupons typically means a lower yield to maturity, which results in a lower cost to the issuer, Rodriguez said. For instance, structuring a maturity with a 4% coupon versus a 5% coupon may translate into 10 basis points of yield to maturity savings. That is very attractive for issuers selling a large transaction, Rodriguez said. On the city’s recent deal, 5% coupon bonds due in 2033 had a yield to maturity of 2.996%, versus the 4% coupons due in 2034, which had a yield to maturity of 2.981%, according to Municipal Market Data.
New York City is also among issuers around the country aiming to please retail buyers with preferred couponing to meet their investment needs.
As a large and frequent issuer of municipal debt, New York City wants to keep abreast of the changing patterns of investor demand and try to meet that demand, according to the New York City Comptroller’s office.
“Individual investors – who often live or work in our city – have always been important to the success of our bond sales,” New York City Comptroller Scott M. Stringer told The Bond Buyer in a prepared statement.
“We will continue to make a concerted effort to give individuals a fair chance to purchase bonds and invest in New York City’s success.”
The city recently drew substantial demand for 4% coupons that were included in its Aug. 2 GO sale of tax-exempt bonds totaling $800 million, according to data provided by the New York City comptroller’s office.
The 4% coupons generated 51% of the $215 million taken during the two-day retail order period, while 37% were for the 5% coupons, and 12% were for the sub-4% coupons.
The strong demand for 4% coupons comes in response to the absolute low level of interest rates, the comptroller’s office said. There is a particular effort by professional retail investors, such as money managers, financial advisors, and trust departments acting on behalf of individuals, to avoid the higher dollar prices associated with 5% coupons, which was the dominant coupon structure up until three to four months ago, the comptroller’s office said.
On the city’s GO sale, retail investors veered from recent buying patterns and participated in longer maturities in order to get higher yields – even if it meant accepting lower than the 5% coupons they previously favored, an underwriter involved in the deal said after the pricing.
The retail crowd chased the 3% and 4% “handles” available in 2029 with a 2.07% yield and 2036 with a 2.78% yield. They even participated in the 2039 maturity, which had a split 3% and 4% coupon yielding 2.90% and 2.71%, respectively, he said.
“The market acceptability of sub 5% is becoming more and more prevalent,” the underwriter added. “With absolute yields as low as they are people are sacrificing a little less coupon to pick up a little more yield to the call.”
Since 5% coupons once dominated the market, retail investors also have an increased need for coupon diversify away from the previous market standard, the comptroller’s office noted.
At the same time, the city benefits from having lower coupons, such as 4% coupons, which are priced as premiums to a call date with a slightly higher yield, and act as a natural hedge against rising interest rates versus the 5% coupons, the comptroller’s office said.
Other issuers around the country are also tailoring their coupon structures for retail, while also achieving some cost savings of their own.
“The Connecticut State Treasurer’s Office structures its bond sales to meet the preferences of a variety of investors and to strike a balance between current and future debt service costs for the general obligation program,” Deputy State Treasurer Lawrence A. Wilson said in an email on Wednesday.
“We also are mindful that many retail customers prefer to purchase bonds with coupons of 4% or lower in order to avoid the higher prices associated with 5% coupons,” he said. “Some institutional customers also prefer to purchase bonds with lower coupons,” he added. “We structure our bond sales with a variety of coupons accordingly.”
For instance, he said Connecticut’s recent new issues have been structured with lower coupons to both accommodate retail investors’ cost efficient strategy, as well as to manage the state’s future debt costs.
“The lower coupons also allow us to balance current and future debt service costs, particularly for our general obligation bond program, for which premium must be used to cover near-term interest costs,” Wilson explained. “Because of this, the budget impact of selling 5% coupon bonds at a premium is lower debt service in the short-term, but higher debt service in the future.”
Therefore, selling lower coupon bonds for the GO program helps the state manage future debt costs, Wilson added.
For example, of the $250 million in tax-exempt GO bonds the state sold earlier this month via competitive bid at record low rates, he said $100 million, or 40%, of the bonds were assigned coupons of 4% or less by the winning bidder.
Additionally, when the state sold GOs back in May, of the $57 million in orders from retail investors during the retail order period, $29.1 million, or 51%, of those orders were for 4% or lower coupon structures, according to Wilson.
Of the total $501.4 million of bonds sold, $114.6 million, or 23%, of the bonds were sold with 4% or lower coupons to both retail and institutional investors, he added.
Wilson noted that Connecticut two decades ago was one of the first states to pioneer the now widely-used retail order period as a marketing technique and still gives its in-state residents priority status on bond issues.
Like Connecticut, New York City makes frequent use of retail order periods and makes an effort to offer a variety of coupons to their loyal, mom and pop investors, while also giving their orders preference over institutional orders when it comes to new issues, the comptroller’s office said.
The Bond Buyer
By Christine Albano
August 18, 2016
The U.S. Department of Transportation (USDOT) announced the establishment of the Build America Bureau, “which will drive transportation infrastructure development projects in the United States by streamlining credit and grant opportunities while providing technical assistance and encouraging innovative best practices in project planning, financing, delivery and monitoring.”
“The Build America Bureau will be a one-stop shop to help develop projects and provide financing in a single streamlined, effective and comprehensive manner,” said U.S. Transportation Secretary Anthony Foxx. “It will allow USDOT to be responsive to America’s changing transportation needs and opportunities, so we can deliver real, tangible infrastructure development for local, regional and national population centers.”
The Build America Bureau combines the following USDOT programs: the Transportation Infrastructure Finance and Innovation Act (TIFIA), the Railroad Rehabilitation & Improvement Financing (RRIF), the private activity bond (PAB), the Build America Transportation Investment Center (BATIC) and the new $800 million Fostering Advancements in Shipping and Transportation for the Long-term Achievement of National Efficiencies (FASTLANE) grant program.
The bureau will utilize the full resources of all the modes within USDOT and continue to promote a culture of innovation and customer service. To the customer, there will be a single entity in charge of USDOT credit, large scale and intermodal project development and a single point of contact for working with USDOT on infrastructure finance and development.
The Bureau Outreach and Development team, continuing the work of the BATIC, will work with the project sponsors to support them on how they can best combine credit, funding and innovative project delivery approaches, such as public-private partnerships (P3s) and then offer project-level technical assistance to get them ready to pursue it.
The department’s credit team will be able to underwrite loans from multiple sources together, so that the customer is no longer getting a TIFIA loan or a RRIF loan, but instead a single credit package from USDOT to help them build the infrastructure they need. Also, the bureau will manage the application and evaluation process for the FASTLANE grant program, which funds high-impact projects that address key challenges affecting the movement of people and freight.
BATIC, which was announced in 2014, has expanded the department’s ability to meet the needs of the nation’s transportation system. BATIC serves as a single point of contact and coordination for states, municipalities and project sponsors looking to utilize federal transportation expertise, apply for federal transportation credit programs and explore ways to access private capital in P3s. Since BATIC’s formation, USDOT has closed more than $10 billion in financing to support $26 billion in projects.
Railway Age
Thursday, July 21, 2016
Often-uninformed city leaders struggle with the decision, and taxpayers pay the price for their lack of financial knowledge.
These days it’s not hard to convince people to live downtown, or, for that matter, to get developers to build places for them to live. Increasingly, both millennials and baby boomers want urban amenities. They want to live close to work, parks and restaurants, and they want to be able to walk or bike to them. As a result, downtown populations have soared: 65,000 people now live in downtown Seattle, downtown Los Angeles — traditionally not a residential area — is home to 52,000 people, downtown Philadelphia has 57,000, and Boston has 17,000 (a 50 percent increase since 2000).
Needless to say, these cities aren’t subsidizing downtown development. In some cases, they’ve actually started to extract fees and concessions from developers to build downtown. But that’s not the case everywhere.
In Houston, where I live, 150,000 people work downtown, but fewer than 5,000 people live there. Clearly, it has room to grow — and there are takers. Several thousand luxury units are currently under construction. Rentals can go for close to $5,000 per month, while condominiums can go for as little as $300,000 or as much as $1 million or more. But the market for downtown living isn’t as robust as in other cities. So Houston is paying developers $15,000 a unit to build there.
Which raises some pretty basic questions: How much should cities spend to buy downtown residents? And when should they stop?
Yes, I said “buy” residents. When city leaders provide a financial subsidy for a development, that’s what they are doing — paying money to acquire residents or stores or offices that wouldn’t otherwise be built in a certain place.
The obvious answer to when a city should stop buying residents is when developers stop asking for subsidies. But we know all too well that this never happens. Urban real estate developers always ask for subsidies whether they need them or not, and cities often provide them even when they’re not needed. Why else would cities subsidize billion-dollar sports stadiums to house teams that are worth billions and that are owned by sports tycoons worth billions?
That’s why cities need to know a lot about the economics of private real estate development deals, specifically when and why projects pencil out or don’t. It’s something that, amazingly, cities know little about. If you’re going to subsidize a developer, for example, you should only do it when you know you can’t get the project you want done any other way. Alternatively, if you’re going to soak a developer for impact fees or other community benefits, you should do so only when you know it won’t kill a project you otherwise want. That’s why cities should have a lot of financial analysis capacity — not just to balance their own budgets, but to understand whether developers are balancing their own budgets on the backs of the taxpayers.
So perhaps the real question is: How do cities ensure they have the financial IQ to decide when and when not to subsidize development?
GOVERNING.COM
BY WILLIAM FULTON | AUGUST 2016
Tax incentives aren’t always the best way to lure businesses. Many are simply going where the talent is.
Ryan Woodings owns a 15-person tech startup in Boise, Idaho.
His company, MetaGeek, specializes in helping businesses fix and maintain their Wi-Fi systems. Or, as the website puts it, “making Wi-Fi more awesome for more people.” A decade ago, MetaGeek was a side project out of Woodings’ house. His mom was his first hire. Eventually, the company grew and moved into an actual office in a suburban neighborhood on the outskirts of Boise.
The location posed some problems. Foremost among them was what might be termed the “intern dilemma.” Each semester, MetaGeek seeks the help of a handful of student interns from Boise State University. “Being 20 minutes away from campus,” Woodings says, “we could only get students who had a car and had certain class schedules.”
So MetaGeek did what a lot of companies are doing these days. It moved downtown. The student interns are now able to bike over to the office between classes. In the afternoons, MetaGeek employees can take walks on the nearby greenbelt that runs through town along the Boise River. If they want to bike home, the city runs a bicycle rental program and has an expanding network of dedicated bike lanes. “Downtown Boise is where everything is,” Woodings says. “When you have a lunch meeting, or get coffee with a client, it’s always downtown.”
MetaGeek is one of several tech companies that have put down roots recently in the center of Boise. Last summer, Boise State moved its computer science department downtown so that it could be closer to students’ potential employers. And Boise isn’t unusual. In cities across the country, businesses are trying to capitalize on the increasing density of tech talent clustered in the heart of cities. In Massachusetts, General Electric is setting up its new headquarters along the central Boston waterfront. In Rhode Island, Hasbro has moved 350 jobs to downtown Providence. In Illinois, nearly 50 companies, from Kraft Heinz to Motorola Solutions, have reestablished their headquarters in or near Chicago’s loop. According to the U.S. Census Bureau, the number of metro area jobs located within three miles of downtowns increased seven percentage points between 1996 and 2013. The suburbs still have about three-quarters of metro area jobs, but downtowns are luring quite a few employers back.
Much of that has to do with the tastes of the millennial generation, adults 34 and younger, many of whom continue to express a preference for walkable neighborhoods with bike lanes, public transit and a mix of recreational amenities. Last year, millennials became the largest component of the American workforce. For many companies, attracting and retaining millennial workers seems to require having a downtown office. “Probably for the first time in history, instead of people moving where jobs are,” says Tom Murphy, a senior fellow at the Urban Land Institute, “jobs are moving where the talent is.”
The most talked about move of this kind in recent years is GE’s decision to move from Fairfield, Conn., in the suburbs of New York City, to its new location in the center of Boston. A mix of $145 million in tax breaks from the city and the state of Massachusetts made the relocation cost-neutral, but that wasn’t the main reason for the switch. If it had been, GE would have moved to New York, where Gov. Andrew Cuomo had brokered a deal offering more in tax incentives.
At the time of the announcement, Jeffrey Immelt, the CEO of GE, explained the move in terms of the company’s changing identity. He pointed out that the global industrial conglomerate is getting into software, and its location in the Seaport District of downtown Boston puts GE employees in the same neighborhood as dozens of venture capital firms and tech startups. Immelt noted that GE should have no problem finding and hiring local talent, as the Boston metro area is home to 55 colleges and universities and Massachusetts spends more on research and development than any other region in the world.
But the company’s decision to move was also based on a desire to be in an environment with sidewalks, ample transit and other amenities that would appeal to younger employees. GE executives boasted about the industrial feel of the site, which includes two historic brick warehouses overlooking the Fort Point Channel.
The reasons why GE moved are the reasons a lot of companies are moving back downtown. “Municipalities used to offer the lowest tax rates and the biggest subsidies to attract companies. That’s no longer the case,” says Murphy, who was mayor of Pittsburgh for 12 years before joining the Urban Land Institute. “People want a sense of place with good public transit and a good mix of activities. Cities that are making those kinds of investments are probably going to be the winners.”
Last year, the urbanist advocacy group Smart Growth America studied nearly 500 companies that added jobs downtown between 2010 and 2015. About half moved in from the suburbs; others were moving from another downtown location, or expanding their existing downtown presence. What they had in common was a relocation of jobs to areas that were more bikeable, walkable and transit-accessible.
That’s what happened with Red Hat, a software company in North Carolina. In 2011, Red Hat had outgrown its headquarters in a research park in southwest Raleigh. When management surveyed workers about what they were looking for in a new location, “the pretty much unanimous feedback was that [they] wanted to be in a more urban environment,” says Simon George, a senior director at Red Hat. “That factored heavily into our decision-making.” Ultimately, the company took over a former Duke Energy building in downtown Raleigh, adding more than 250 jobs to the downtown core. “The expectations of employees have changed,” George says. “They want to be able to walk from home to work. They want to be able to walk to restaurants. They don’t want to be driving everywhere.”
All across the country, suburban office parks are less economically competitive than they once were, says Stephen Friedman, a development adviser and urban planner in the Chicago area. “The times have changed and the attitudes have changed,” he says. It isn’t just that millennials want to work downtown. It’s that so many of them want to live there.
In 2013, the Urban Land Institute found that 62 percent of millennials preferred a home close to shops, restaurants and offices. In another survey by the institute, millennials in the Boston metro area were more concerned with the ease of their commute and the proximity of public transit than the quality of schools or public safety. Nearly 80 percent said it was very important to be near public transit while only 30 percent said it was very important to have free or discounted parking.
As recently as a decade ago, “the sheer amount of space available in the suburbs might have been a positive attribute,” says Bethany Schneider, an analyst with the commercial real estate firm Newmark Grubb Knight Frank (NGKF). “Now, more companies aren’t looking for room to grow. If anything they’re looking to be more efficient.”
Schneider was part of a team at NGKF that last year studied suburban office parks near five major cities: Chicago, Denver, New York, San Francisco and Washington, D.C. They found that between 14 percent and 22 percent of the suburban office inventory was “obsolete.” It didn’t meet at least two of six common features that prospective tenants said they wanted, especially proximity to transit. Tenants in obsolete suburban office parks “are facing a losing battle to retain their best workers,” the study’s authors concluded, and “owners of such spaces are facing an even greater challenge — how to keep their investments attractive to tenants.”
In June, Friedman gave a presentation about the growth of downtown jobs to a group of Chicago area real estate professionals. He noted that the retail and office vacancy rates were lower in the city than the suburbs, and he named some of the big companies everyone knew were setting up shop in downtown Chicago. (That very week, McDonald’s was the latest to announce a new central Chicago headquarters.) Midway through his presentation, however, Friedman got to an important slide. At the top it said, “The Suburbs Are Hardly Dead!”
“The companies that need the young millennial labor force have moved some functions downtown,” Friedman says. “But it’s not like everything is lost in the suburbs.”
Indeed, the flight from suburban office sites can be overstated. When companies move downtown, they get press. When they change locations within the suburbs, they don’t draw the same attention. Right now in the Chicago area, about two-thirds of total regional employment is in the suburbs, where rent is about half of what it is in the city. Downtown vacancy rates are trending downward, but that’s true in the suburbs as well. The rate of employment growth is expected to be faster in the city, but the total number of added jobs will be higher in the suburbs.
Still, suburban communities worried about long-term trends are looking for ways to adapt and become more competitive with urban downtowns. The optimal solution, according to Friedman and his colleague Ranadip Bose, is to “sub-urbanize” — to provide enough urban-style amenities to be able to compete for city-minded millennials.
One place attempting such a reinvention is Research Triangle Park (RTP) in the Raleigh-Durham area. The campus is half the size of Manhattan, and boasts several global science and tech companies, notably IBM and Cisco Systems, but it’s also an artifact of 1950s community planning. The fact that tech companies like Red Hat are choosing downtown Raleigh over nearby research parks illustrates the problem RTP currently faces: It has no housing, no light rail, and no main street with cafes, restaurants and shops. The RTP’s layout inhibits the kind of informal socialization and networking between tech workers that is increasingly common in urban innovation districts.
That will soon change. With $50 million in public and private investment, the Research Triangle Foundation has plans to redevelop a 50-acre site, adding apartment buildings, a central marketplace and public gathering spaces, including an amphitheater, dog park and sculpture garden. Like many downtowns, the redrawn Research Triangle Park will have a bike rental program and a circulator bus to get around campus. The foundation’s CEO, Bob Geolas, is also hoping for a regional dedicated rail system, with the park as the central hub, so that RTP’s 40,000 workers don’t have to commute by car.
Geolas says that about eight years ago, the park’s tenants started to express anxiety that the campus was a liability in recruiting talent. “The suburban park model really isolates and separates out what the companies are doing from the general public,” Geolas says. “When you visit a traditional urban center, there’s an energy there. Downtowns have a sort of personality that does not exist in a suburban research park like ours. A big part of what we’re doing is building a personality that people can relate to and be inspired by.”
The foundation calls the redevelopment a “park center,” but it does envision many of the trappings of a traditional downtown: pedestrian walkways, transit, housing, coffee shops and lunch spots. The difference would be the natural ambience, with plots of grass and rows of trees woven throughout the campus. “What we really want,” Geolas says, “is the most urban park experience that you can imagine.”
Such an extensive overhaul might be out of reach for the typical suburban community, but villages outside Chicago are already contemplating small ways that they can become more urban. The village of Schaumburg, which lost the Motorola Solutions headquarters last year, is looking to update that site by breaking up so-called “superblocks” into smaller 600-foot-long blocks with more foot paths. The village is getting its first new apartment complex in more than 15 years, a 180-unit building catering to young professionals working in town. And the village is adding bike trails that connect Schaumburg to a nearby community college and forest preserve.
Of course, some places don’t see a need to change, and won’t. Last year, when Kraft Heinz opened a new headquarters in Chicago, it closed its offices in the village of Northfield. “We were disappointed to see them leave. We weren’t worried economically,” says Stacy Sigman, the village manager. “We have a great campus. Immediately we were inundated with calls to take over the space.” Technically, the office Kraft left behind was vacant for 15 days, but a medical supplies company, Medline Industries, had already secured the lease, adding 1,800 jobs — more than the number that had left.
Northfield has an array of advantages. It’s an inner-ring suburb with about 6,000 residents, less than 30 minutes’ driving time from downtown Chicago on a light traffic day. It has some of the best public schools in Illinois. Sigman says Northfield doesn’t have plans to adopt urban-like features. “It’s contrary to who we are,” she says. “We like the small quaintness. I think that’s what makes us special.”
Some places don’t have a choice. They have to change. Geolas, the Research Triangle CEO, would like to see suburban research parks evolve into something more attractive to millennial workers, and he finds a source for optimism in the history of downtowns. “I’m old enough to remember when [magazines] ran stories about how downtowns were dead,” he says. Eventually developers and city planners found a formula to reinvigorate urban business districts with density and a diversity of uses. Now the same process needs to happen in the suburbs, he says. “We have to reimagine what those places can be.”
GOVERNING.COM
BY J.B. WOGAN | AUGUST 2016
Abstract
Evaluations are a key feature of pay for success (PFS) projects, and rigorous evaluation designs are important for building the evidence base of effective programs by determining whether a project’s outcomes can be attributed to the program. Randomized controlled trials (RCTs) are considered the most rigorous evaluation design and give us the best approximation for what would have happened without the program. However, PFS stakeholders often don’t know about RCTs or consider them too expensive, difficult, or controversial. This brief outlines RCTs, their advantages, and solutions to overcoming perceived and real challenges to their use in the context of PFS.
The Urban Institute
by Justin Milner and Kelly Walsh
August 10, 2016
Abstract
Pay for success (PFS) projects offer governments opportunities to invest in outcomes and employ new capital to meet the needs of their communities. But PFS projects also carry risks. For investors, the risks relate to the project failing to meet its outcomes or the government reneging on its commitment to pay. Investors’ perceptions of risk matter. Projects with high or unclear risk may discourage investors and prevent the project from launching. This brief helps project partners understand the risks investors perceive when entering PFS contracts and familiarize themselves with measures that have been used or proposed to manage this risk.
Download the full report.
The Urban Institute
by Rebecca TeKolste, Matthew Eldridge, and Rayanne Hawkins
August 18, 2016
Detroit left a bitter aftertaste for bondholders.
Under the city’s plan to shed $7 billion in debt, Detroit reached settlements with its pensioners that left intact public safety monthly checks and cut 4.5% for general employees. Their cost-of-living increases were reduced or eliminated. They did see a big cut in the form of retiree health-care benefits, which were trimmed by nearly 90%, allowing the city to shed a $4 billion obligation.
Unlimited-tax general obligation bondholders, meanwhile, agreed to a 26% cut – with the money going to pensioners – and limited-tax GO holders took a 66% cut. Holders of $1.5 billion of certificates of participation saw a 14% cash recovery as well as a groundbreaking package of vacant land, asset leases, and development deals.
Former U.S. Bankruptcy Judge Steven Rhodes who oversaw Detroit’s historic Chapter 9 called the city’s plan of adjustment reasonable, fair and equitable, key benchmarks under federal bankruptcy law. The decision to treat its pensioners more favorably than other creditors was fair and justified in part because of state constitutional protections of the retirement obligation, Rhodes said.
The treatment Detroit’s bondholders relative to pensioners was typical, as pension funds have flexed political muscle in bankruptcy cases across the nation. As bankruptcy specialist David Dubrow of Arent Fox LLP put it in a published piece:
“While bondholders, pensioners and workers can all be impaired in a bankruptcy as a general matter, public policy and politics determine outcome more than any other factor given the limited legal precedents in Chapter 9.”
In California, the Vallejo, Stockton and San Bernardino bankruptcies all pitted the bond investors – whether they held pension bonds or other bonds – against the nation’s largest pension fund, the mammoth California Public Employees’ Retirement System.
While California’s pension funds received a 100% recovery in the trio of bankruptcies, bondholders did not fare as well. In California, bondholders received anywhere from a 40% to 60% recovery, though San Bernardino’s bankruptcy plan has yet to be approved.
In Detroit, the pension funds received an 82% recovery, according to a 2015 Moody’s Investors Service report, while bondholders received only 25% on a “weighted-average basis” that factored in the impact on LTGO, ULTGO, and COP holders.
Behind the protections built into Detroit’s exit plan for pensioners was the city’s so-called “grand bargain.” A philanthropic consortium collectively pledged $366 million to offset the city’s massive pension burden and avert any move to sell off the assets of the city-owned Detroit Art Institute museum.
The funds leveraged support from corporations and the state to bring the package to more than $800 million and in turn brought the city’s public unions to the table to agree to concessions. The funds are to be set aside over a 20-year period and handled by special entity that will direct them to pay benefits.
Under the plan, the state also agreed to provide $195 million to Detroit pensioners in exchange for pensioners dropping the right to sue the state to recover the unfunded pension debt that the city cannot pay. That debt could have been as high as $3 billion. The pension restructuring is central to the city’s recovery plan, as it was freed of the need to make pension payments for 10 years as well as the liability for other post-employment benefits, or OPEB.
“The most emphatic message of the Detroit and Stockton plans of adjustment is their intent to protect work force sustainability at the expense of bondholder repayment,” Fitch wrote in a special report on those bankruptcy outcomes.
“In each case, the bankruptcy judge agreed that this goal was more important than repaying investors. The issue then becomes one of public policy rather than legal constraint, and it appears likely that many governments would similarly favor retaining pensions over the good faith of bondholders.”
Detroit’s bankruptcy contributed to the burgeoning debate over the potential cracks in general obligation pledges and the use of statutory liens for GO bonds to strengthen bondholders’ positions in a municipal workout.
But the politics behind cutting a public employee’s benefits remain a strong deterrent for elected officials and courts. At the same time, there’s also been a growing discussion of the use of a bankruptcy threat to get labor unions to the table as a distressed municipality looks to cut.
“The standing of bondholders versus pensioners in a municipal bankruptcy can be ambiguous because pensioners may have additional legal and political protections that are superior to bondholders. A municipal government wrestling with politically difficult pension funding or reform may therefore have an incentive to accelerate bankruptcy primarily to reduce its debt,” Moody’s Investors Service said in the municipal bankruptcy report last year.
Steps taken by California in the wake of its trio of Chapter 9 bankruptcies over the past several years have given bondholders some reassurance when it comes to general obligation bonds issued by cities, but left investors wary about pension obligation bonds.
Pension liabilities – and pension obligation bonds issued to deal with that liability — were issues in the trio of California bankruptcies and in Detroit as well.
In Stockton, Franklin Templeton continued to fight the city for a better recovery even after the bankruptcy judge approved the city’s exit from bankruptcy. The company said in its court filings that the bankruptcy court that confirmed Stockton’s plan erred in approving a plan that was “discriminatory and punitive” to Franklin, paying it roughly 1% on $35 million of bonds while leaving pensions untouched and paying other creditors who had settled with the city earlier between 52% and 100%.
Stockton’s attorneys said in their own filing that Franklin’s total recovery rate on secured and unsecured claims is roughly 17.5%. The city countered that any further relief awarded to Franklin would fall squarely on the city’s residents in the form of “reduced services, infrastructure investment, and essential reserves.”
Franklin finally announced in December 2015 that it would not pursue further appeals in Stockton’s bankruptcy.
In San Bernardino, City Attorney Gary Saenz said in April of the agreement with pension obligation bondholders that the city was able to give the bondholders 40% of what is owed, rather than the more severe 1% originally proposed, because the agreement allowed them to stretch out payments 20 years.
The city has drafted a 20-year business plan that found it would be able to feasibly make those payments without the city ending up in bankruptcy again down the road, he said.
“One thing Judge Meredith Jury will look at is the feasibility of the confirmation plan,” he said. “We believe we found a model that is dependable.”
The pension obligation bond agreement continues a trend of bonds faring worse than pensions in Chapter 9 cases.
Under the settlement, COMMERZBANK Finance & Covered Bond S.A., formerly Erste Europäische Pfandbrief-Und Kommunalkreditbank AG, and municipal bond insurer Ambac Assurance Corporation, agreed to drop their opposition to the city’s bankruptcy plan.
The holders of $50 million in pension obligation bonds will receive payments equal to 40% of their debt on a present value basis, discounted using the existing coupon rate, according to city officials.
Though San Bernardino reached an agreement with bondholders earlier this year in its bankruptcy, its bankruptcy exit plan is slated to be voted on in September by creditors. The current hope is that the city could exit bankruptcy by October – if creditors approve the plan and the bankruptcy judge deems the plan good enough to prevent the city from returning to bankruptcy court down the road.
The Bond Buyer
By Yvette Shields and Keeley Webster
August 17, 2016
CUSIP Global Services reported that the 30% drop in July marks the end of five consecutive months of growth. The number of municipal bond CUSIP orders that were handled was 1,218. This was the second-lowest order count of the year.
According to CUSIP Global Services, this was likely due to states beginning a new fiscal year last month, rather than a softening in demand.
However, thanks to strong activity in the bond market in the first half of the year, overall municipal bond CUSIP requests are still up 1% on a year-by-year basis.
Most municipal requests were reported in Texas with 1,211 so far in 2016, followed by New York with 960, and California with 734.
Gerard Faulkner, director of operations for CUSIP Global Services said that recent issuance data suggested that capital markets activity was still solid, “despite a lot of uncertainty”.
“Based on July’s data, the second half of the year is off to a good start,” he said.
Also, the report showed that requests for international debt and equity dipped in July. Requests for international equity fell from 188 in June to 168 in July. Meanwhile, international debt requests dropped from 241 to 213. Year-on-year, equity requests were down 60% and debt requests were down 27%.
Richard Peterson, senior director, S&P Global Market Intelligence, said: “With ongoing economic and political instability, particularly in Europe, it makes sense this pre-capital markets activity would continue to show softness, in comparison to the US.”
“Given that governments have a ways to go before settling on solutions, we expect issuance to remain weak for the foreseeable future,” he added.
Public Finance International
By: James Richards
17 Aug 16
Fitch Ratings-New York-12 August 2016: Fitch Ratings has updated its rating criteria for solid waste revenue bonds. The updated report replaces the existing criteria published on Aug. 4, 2015.
No changes to the ratings of existing transactions are anticipated as a result of the application of the updated rating criteria.
Contact:
Kevin Dolan
Director
+1-212-908-0538
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
Amy Laskey
Managing Director
+1-212-908-0568
Media Relations: Elizabeth Fogerty, New York, Tel: +1 (212) 908 0526, Email: elizabeth.fogerty@fitchratings.com.
Additional information is available at ‘www.fitchratings.com’.
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As the world’s second-largest economy falters, pensions and tax revenues here are feeling the pinch.
Earlier this summer, New York state’s pension fund announced a mediocre year. Investment earnings were essentially flat, and as a result the fund lost $5 billion because its other receipts — contributions from government and from current employees — didn’t cover retiree payouts.
The New York pension system was the victim of a global event that began halfway across the world a year ago this month. In August 2015, the world’s second-largest economy officially began to stumble. China’s central bank stunned investors by devaluing the yuan, lending credence to what outsiders had long been suspecting: China’s years of astounding annual economic growth — at times cresting at double digits — was slowing down.
Toward the end of that month, China’s stock market endured its biggest one-day fall since 2007. The state media dubbed it “Black Monday” and the result shocked the world. Emerging market currencies slumped, commodity prices fell and Western financial markets reeled. At one point, General Electric’s stock was down by more than 20 percent. The markets seemed to recover just in time for a January report from China that the country’s growth rate for 2015 — 6.9 percent — was the weakest in a quarter-century. Although robust by U.S. standards — GDP growth in the United States last year was 2.4 percent — the bad news from Beijing once again sparked market volatility here and abroad.
In short, China has made it a difficult year for institutional investors, public pension plans prominent among them. But financial markets aren’t the only way China’s economy can impact states and localities.
For the last decade, with China a reliable engine for economic growth, other countries around the world have been feeding off it. China is the leading destination for a handful of states’ exports and accounts for more than $115 billion in goods shipped annually from the U.S. The country is a key consumer of U.S.-made airplanes, cars and medical equipment. Meanwhile, Chinese companies have stepped up their investment in U.S. cities and industries, building auto plants, investing in oil fields and buying real estate — a Beijing-based company now owns the Waldorf-Astoria hotel in New York. There is essentially no region in the U.S. without some connection to China, and at least some vulnerability to a downdraft.
U.S. economists and state development officials are familiar with the ways negative economic events in Europe, such as Britain’s recent vote to leave the European Union, can have an effect here at home. And for the near future, events in Western Europe and some other developed powers, such as Japan, will continue to have the greatest impact on states and localities. But if things in China worsen, the economic pain for governments in this country could be severe.
Even before China’s crisis rattled the U.S. stock market, state and local pension plans were struggling. Last year, annual investment returns were meager. Because of the 2015 market plunge in China, most pension plans in the United States will likely report even worse returns for 2016. The two-year hit, says a Moody’s Investors Service analysis, will effectively wipe out the funding improvements seen in 2013 and 2014.
Under Moody’s most optimistic scenario, according to which U.S. investment returns average 5 percent for this year, overall pension plan liabilities will increase by 10 percent. Under the credit rating agency’s most pessimistic outlook, where investment losses are 10 percent for the year, Moody’s sees liabilities growing by more than half. In that case, governments would be faced with demands to put significantly more general fund money into pension plans than was previously forecast.
Market volatility doesn’t just affect pension plans. A number of state governments find their tax base is significantly exposed when investment income — capital gains revenue — has a bad year. California, Connecticut and New York all tend to “get clobbered” when financial markets have a down year, says Donald Boyd, the Rockefeller Institute of Government’s fiscal studies director. These three states and Oregon (which banks heavily on personal income tax payments in general), have the highest reliance in the nation on capital gains revenue. “If you have a lot of rich people and you tax them relatively heavily,” Boyd says, “then you’re going to be most affected by this kind of scenario.”
While there’s unlikely to be anything like the 20 percent revenue drops seen during the U.S. financial crisis in 2008 and 2009, states are already starting to feel the revenue impact of the past year’s stock market reactions to China’s slowdown. Income tax collections make up about one-third of the average state’s total revenue. In April, the single biggest income tax collection month for states, the average state’s income tax revenue was down nearly 10 percent from the previous year, according to a Reuters analysis.
It’s a taste of what could happen if China falters further. California had to trim its overall income tax revenue expectations for the 2016 fiscal year by nearly $2 billion, thanks to an April shortage of about $1 billion in collections. Connecticut, Massachusetts, New Jersey and Pennsylvania also announced declines in actual or projected income tax receipts after April.
What made this issue doubly challenging was that the news came in around the time state lawmakers were in the midst of the tricky business of drawing up the next year’s budgets. “This throws a monkey wrench into it,” Boyd says, noting that it creates future problems as well. “When you’re dealing with a budget shortfall with only a few weeks to go in the fiscal year, there’s a good chance lawmakers aren’t going to find some kind of [permanent] solution. So that sets them up a year down the road for more trouble.”
Over the past decade, states and localities have jumped at chances to increase their business with fast-growing China. U.S. merchandise exports to China increased by 177 percent between 2005 and 2015. Chinese investment in U.S. companies and properties went up exponentially over the same time period, from $2.5 billion in total investment across 24 states to nearly $63 billion spread over all but three states.
Admittedly, the growth represents only a tiny slice of overall U.S international business. Exports to China account for less than 8 percent of overall outbound U.S. shipments. Chinese foreign direct investment totals less than 1 percent of all foreign investment here.
Some regions, however, have more established business ties. When it comes to exports, Washington state-based businesses are by far the most exposed to fluctuations in China. Last year, Washington businesses exported $19.4 billion in goods to the Asian nation — about one-fifth of all the state’s exports. Over the past year, Washington’s dealings with China have been ratcheting down. Last year saw a 5 percent drop in exports to China; data through May of this year shows exports to China down by about 25 percent. Robert Hamilton, Gov. Jay Inslee’s trade adviser, says trade activity is being driven down from weak economies “everywhere — not just China.” Indeed, overall U.S. exports fell 5 percent last year, the largest decrease since the recession.
Still, Washington state’s exposure creates some concerns. Trade directly and indirectly accounts for one out of every four jobs in the state. Last year, Moody’s flagged it for being an at-risk state thanks to a slower China. This year, Moody’s has been careful not to sound apocalyptic about Washington state’s situation. “They’re pretty well insulated,” says Moody’s Washington analyst Kenneth Kurtz. But China-watchers in the state remain nervous.
Other regions in the U.S. will see an impact if China’s demand for consumer products wanes significantly. Computer equipment, for example, is a top export to China. Companies based in San Jose, Calif.; Boise, Idaho; and Austin, Texas, are the nation’s top producers of those products, and will feel a pinch if Chinese shoppers stop buying. Detroit and other regions reliant on auto manufacturing could also see a dip in business if China’s high demand for U.S.-made cars slows.
Chinese investment in the United States has grown rapidly over the past decade, although it has been concentrated on a limited number of targets. The vast majority of the investments from China have been in mergers and acquisitions. These ownership changes tend to grab headlines — like when Chinese insurance giant Anbang bought the Waldorf from the Hilton hotel chain for nearly $2 bllion last year. In most cases, new Chinese ownership does not change a company’s economic footprint. Hilton, for example, remains the Waldorf’s operator.
One other area where Chinese investment has had an impact is in so-called greenfield purchases. Those are investments where the parent company builds its operations here from the ground up, such as Yuhuang Chemical’s $1.85 billion methanol plant in Louisiana or Tranlin Paper’s $2 billion paper plant in Virginia, both of which broke ground last year. In the San Francisco Bay Area, which has long been a favorite of Chinese companies, more than one-quarter of greenfield investment value in the region comes from China, according to the Brookings Institution’s Joseph Parilla. Other top areas in the country for greenfield purchases are Chicago, New York City, San Jose and Seattle.
Most greenfield investments are typically made with a long-term view, so a Chinese slowdown like the current one might not have much immediate effect on them. It’s possible that a slower economy at home could cause Chinese companies to direct more new investment toward stable economies like the United States and away from riskier markets in emerging countries. But it’s also possible that a weaker economy at home could force Chinese investors to pull back in all world markets as foreign development becomes a more expensive proposition than the country’s corporations want to make.
From time to time, there are fears about a local real estate market in the United States “being gobbled up” by the Chinese and other private global investors. “If they all pull back, then all of a sudden, you’ve got this glut of really high-end real estate built for folks who are not necessarily in your metro area,” Parilla says, adding that this is something to watch in New York City and San Francisco, and to a lesser extent Chicago and Seattle.
For now, China is a lesson in perspective. Long isolated from the rest of the world, it has taken advantage of its rapid growth and fast-growing connections to other countries to become a major force in global markets. As state and local governments in the United States have become more enmeshed with the Chinese economy, opening offices in China to attract more direct development, they have increased their exposure. Fears about the effects of a prolonged Chinese downturn played a big role in the psychological contagion that roiled U.S. financial markets last year.
So far, most of the negative fallout in this country has been confined to a limited number of regions and economic sectors. But if the Chinese economy remains sluggish for a long period, the effects will be felt much more broadly by American investors and state and local governments. That is why even governments that haven’t felt the effects so far may want to train a wary eye on the fiscal picture in Beijing.
GOVERNING.COM
BY LIZ FARMER | AUGUST 2016
What sort of bonds should a municipality offer to the market? A generation ago, simple par bonds were the answer. Today, callable premium bonds are extremely popular, though they also impose burdens on both issuers and to the market in general. While there is something wild about these bonds, fortunately there may be a way to tame them.
Callable premium bonds now dominate the new issue markets. Coupons are set as high as 5% against much lower market yields. The bonds sell at a premium because they pay more interest than the market requires for a par bond. But will the high interest payments stop on the call date (price-to-call), or continue to maturity (price-to-maturity)? Fortunately for premium bond buyers, the price-to-worst rule means that they typically pay only the price-to-call, often much lower than the price-to-maturity.
The call option takes on a different character when it applies to a premium bond instead of a par bond. In either case, there is the “time value” of a possible, but not guaranteed, decline in future rates. However, options on premium bonds also have “intrinsic value” built into them from the outset. Callable premium bonds become immediate candidates for excellent savings from an advance refunding, or at least they would be, if not for negative arbitrage on escrow securities. Although immediate refunding after issuance is impractical, premium callable bonds are likely to be advance refunded well ahead of their call date to lock in savings.
Callable premium bonds are popular. The professionals involved in issuing bonds enjoy two rounds of fees. The high coupon protects investors against the danger that the price could fall through the “de minimis” threshold for market discount tax treatment. A callable bond can be an attractive (and higher yielding) substitute for a noncallable bond that matures on the callable bond’s call date. Savvy investors also expect a ratings upgrade from the eventual backing of a Treasury escrow.
The Case Against Callable Premium Bonds
When an issuer sells a callable premium bond, it receives the price-to-call instead of the higher price-tomaturity. The difference between these prices constitutes “lost proceeds” – the issuer cannot spend this value on a project. It is instead stored as intrinsic value in the call option. The call option can be liquidated later with a refunding for “savings” even if interest rates never drop.
While it is certainly pleasant to find savings, illusory savings do not serve an issuer’s constituents. The callable premium bonds make it virtually certain that the issuer will pay issuance expenses twice.
Certainty in the long-term funding costs for long-term assets is important for some issuers. Par bonds provide that certainty, while callable premium bonds place only a loose cap on costs. The ultimate debt service is only known when the bonds are refunded.
Callable premium bonds may have helped to drive out individual investors, who now comprise only a tiny part of the market. The bonds make it harder for investors to evaluate the fairness of quotes from their brokers. It no longer suffices to compare similar bonds of similar maturities. Benchmark yields near the call date can be more relevant to fair pricing than those near the stated maturity date. And it does not help that redemption information is often buried in the back pages of documents or on the secondary screens of electronic systems.
If callable premium bonds are driving out individual investors, support for the tax exemption could erode.
There may be regulatory risks. Given their fiduciary responsibility, municipal advisors should take care that a structure that practically requires the issuer to double their issuance costs is truly in their clients’ best interest. Regulators might also question whether these bonds confuse investors or inflate the supply of outstanding tax-exempt bonds.
In summary, the problems with callable premium bonds include that they:
A Solution
One way to mitigate the side effects of callable premium bonds is for issuers to diminish the importance of the options. For traditional par bonds, call options had time value – they were used only if interest rates fell, or if the issuer needed to restructure – but they had no intrinsic value at the time of issuance. Though options were important to bond pricing, they did not cause wild adjustments to prices.
Issuers can continue to sell callable premium bonds to meet the demand for premium bonds (to reduce the chance of triggering the market discount rule), while also preserving the traditional structural benefits of the call option. Rather than bury the intrinsic value in an option, only to extract it through a later refunding, the issuer can take the intrinsic value as immediate proceeds.
The key is to change the par call prices to premium calls in a way that equates the price-to-call and the price-to-maturity. This is possible because the price-to-call includes the present value of any call premium. To find a “breakeven” call price, set the premium on each call date to the amortized premium (as if the bond runs to maturity). This new call price matches the price-to-maturity at the original yield, with the call date replacing the settlement date.
Now return to the issuance date. The price to the premium call matches the price-to-maturity. The price-toworst rule has no effect if all call prices are set to their breakeven levels (the chart shows how the call prices will decline toward par for longer call dates). Now the issuer is fully paid for its entire debt service schedule.
A premium bond with a par call has complex dynamics, like the motion of a hinged pendulum. A premium bond with a premium call can behave more simply, like a par bond with par call. Where premium bonds with par calls are intermediate-term bonds disguised as long-term bonds, premium bonds with premium calls are true long-term debt. In today’s low rate environment, issuers would be wise to secure true long-term funding.
Premium bonds with breakeven premium calls offer the following benefits to the issuer:
Of course, there are always potential downsides and unintended consequences to new methods. One of these is that the market may not welcome bonds with large call premiums. As a first step, issuers could set call prices that begin at a modest premium and then decline to par.
Industry groups and leading issuers should consider this proposal. With time, premium call prices could become an accepted way to make premium bonds behave more like par bonds and to bring some clarity to the market.
The Bond Buyer
By Winthrop T. Smith
August 10, 2016
Winthrop Smith is the president of Win Analytics LLC, an independent research and consulting firm.
The United States faces a growing backlog of infrastructure repair and expansion projects. Many of the assets that propelled rapid economic growth and household wealth formation following the end of World War II have come to the end of their useful lives. In order to remain economically productive in the 21st century, government at all levels must increase infrastructure investment. The American Society of Civil Engineers estimates that, across all sectors, the United States needs to invest more than $3 trillion in the coming years. In the absence of a sustained commitment to rebuilding and expanding critical facilities, the United States will face an infrastructure drag that reduces economic productivity and access to opportunity for millions of Americans.
Historically, state and local governments have carried out public infrastructure finance through the issuance of municipal bonds. In recent years, a less traditional actor has entered the picture: Wall Street.
Specifically, investment managers have opened up funds dedicated to investing private capital in U.S.
infrastructure projects through public-private partnerships, or P3s. Public-private partnerships are an alternative form of infrastructure procurement that may include equity financing and a long-term maintenance and operations contract for the private concessionaire.
Liquidity
Public-private partnership supporters make two fundamental assertions about infrastructure finance in the United States that deserve scrutiny. The first is that one of the reasons why governments have been unable to invest sufficiently across sectors is a lack of liquidity. The term liquidity has several meanings. In the context of infrastructure finance, liquidity simply refers to access to financial capital. When lamenting the current state of infrastructure disrepair and promoting P3s as the solution, financiers frequently talk about the vast amount of private equity capital ‘sitting on the sidelines’ waiting to be invested in infrastructure. The implication is that if only state and local governments would undertake more P3 projects, this money would flow into the system and solve the infrastructure backlog.
Yet there is a reason why P3s with an equity component have been slow to emerge in the United States: Equity capital is a substantially more expensive source of project financing than municipal bonds. The cost of funds for equity capital can exceed highly rated municipal debt by a factor of five. Currently, there is more than $3.7 trillion in outstanding municipal debt. While not all of this debt was issued to build infrastructure, the volume of debt indicates that nonfederal borrowers have no problem accessing project financing; the municipal bond market is robust.
The single most important factor constraining overall government investment in infrastructure is not access to credit but rather insufficient government revenues. The problem is fundamentally political: The public has a finite willingness to pay the taxes and fees necessary to service project debts.
The borrowing behavior of state and local governments over the past 15 years demonstrates that tax revenues constrain indebtedness not a lack of investor demand. Between 2000 and 2008, total outstanding municipal debt increased by more than $2 trillion, or 138 percent. This number is significant for two reasons. First, the growth in municipal debt outpaced overall economic growth as measured by gross domestic product, or GDP. This reveals the tendency of governments to leverage even modest upward trends in tax revenues to borrow more through the bond market.
Second, the economy experienced a brief recession in 2001, losing 0.6 percent in economic output before returning to growth. Because the downturn was relatively short-lived, state and local governments chose to borrow money through the bond market to cover operating and capital needs as opposed to eliminating projects and substantially reducing services or raising taxes. From 2003 to 2004, total municipal indebtedness increased by $921 billion. In other words, the shallowness of the downturn combined with the expectation that growth and tax revenues would soon rebound fueled borrowing.
By comparison, the Great Recession demonstrated that a steep decline in tax revenues combined with indications that the recovery would be slow produced a significantly different borrowing behavior. Again, the issue was a dramatic drop in tax revenue as opposed to a shortage of market liquidity. The Great Recession resulted in a GDP contraction that was more than seven times greater than the downturn in 2001.
According to research from the Pew Charitable Trusts, state tax revenues declined by 13 percent in 2009 compared with baseline collections prior to the start of the Great Recession. As a result, between 2008 and 2015, total municipal debt increased by only $198 billion, or 6 percent. State and local governments understood that they would not have the revenues necessary to support another major round of borrowing and therefore held off on significantly increasing their overall indebtedness.
Importantly, investor demand for municipal debt held strong through both cycles. In fact, the demand for low-risk public debt continues to be so overwhelming that real interest rates on securities from the U.S. Department of the Treasury are currently negative over a seven-year period and less than 1 percent over a 30-year period; investors are paying the federal government to hold their money. The municipal bond market—as well as the Treasury securities market—does not have a liquidity problem.
This is not a claim about the soundness of buying and selling municipal debt as an investment strategy. The salient point is that the governments that build infrastructure projects have no trouble accessing capital markets. The reason that some observers see equity capital as sitting on the sidelines is that governments do not need equity debt to build their projects. What they need is revenue.
Understanding finance terminology
The claims that P3 supporters makes about liquidity raise an important point about terminology. Specifically, what does it mean to say that private capital is sitting on the sidelines ready to invest? For starters, this statement implies that traditional project financing involves something other than private capital. In reality, every dollar used to purchase municipal debt tied to a project is private capital being put to use to build America’s infrastructure.
This is not to say that municipal debt and equity are the same. In the finance world, the term equity typically refers to ownership in a company. When it comes to infrastructure, the government project sponsor retains ownership of the completed facility. Instead, project equity refers to a legal claim on a stream of revenues. For example, in the case of a toll highway project, an equity investor would have the right to a share of the stream of toll revenues over and above what is needed to repay senior project debts. Large infrastructure projects almost always involve multiple sources of debt financing. These may include debt from the TIFIA loan program, private activity bonds, or traditional municipal bonds. Once these senior debt holders have been repaid, the equity investors receive their share of toll revenues.
Equity investments are different from municipal bonds in three ways. First, project equity is not listed on a public exchange. By comparison, a municipal bond is a type of tradable fixed-income security. Second, the return that equity investors receive over time is subject to federal taxation. And third, the rate of return on equity can be variable, depending on the structure of the P3. In the case of a toll highway where the concessionaire assumes revenue risk, the ultimate rate of return on equity will depend on travel demand and overall toll revenues. Thus, while municipal bonds and equity investments have different characteristics, the important point is that both are private dollars financing infrastructure projects.
Simply stated: There are no sidelines.
Public pensions
The second assertion that P3 supporters make is that public-private partnerships have the potential to advance two disparate policy goals: strengthening workers’ retirement and building needed infrastructure projects. In reality, the low-volume of P3 transactions with an equity component means that infrastructure deals will not provide meaningful relief to public pensions.
Public pension funds face two significant challenges. First, pension funds are obligated to provide benefits to future retirees, a requirement for which they lack adequate funding. Second, due to the unique tax status of pension funds, investing in municipal debt is simply unattractive.
Unlike individuals and private corporations, pension funds are tax-exempt investors, meaning they have no federal income tax liability. The interest income from municipal bonds is not subject to federal income taxation. As a result of this favorable treatment, municipal bonds offer a lower interest rate than taxable corporate debt. Yet because this tax treatment provides no benefit to pension funds, the low rate of return on municipal debt makes this an untenable asset class.
By comparison, the equity component of a P3 infrastructure project provides a substantially higher return and therefore presents a more attractive vehicle for large institutional investors. While the return on equity varies by project and phase of development, the Federal Highway Administration cites a rate that ranges from 8 percent to 14 percent annually. Simply put, this rate of return dwarfs what is available through municipal bonds. Currently, AAA-rated bonds offer only 2.4 percent annually over a 30-year period.
As for unfunded liabilities, the numbers are daunting. As just one example, the California Public Employees’ Retirement System, or CalPERS, is a state agency that manages a large-scale pension fund on behalf of participating state and local public employees. Currently, CalPERS pays an average monthly benefit of $2,627 to 611,000 retirees and manages the contributions of another 1.2 million active and inactive employees.
The total value of the CalPERS fund stands at $293 billion—making it the largest public pension fund in the United States. While impressive, CalPERS faces a significant shortfall. The agency’s most recent financial statement reveals a total unfunded liability—the difference between the value of the fund’s assets and the assets necessary to meet future benefits payments—of $93 billion. To put that in perspective, the shortfall is greater than the individual GDP of 15 states, including Mississippi, New Mexico, West Virginia, and New Hampshire.
CalPERS is not the only public pension facing a shortfall. For instance, the California State Teachers’ Retirement System, or CalSTRS, estimates its unfunded liability at $72.7 billion. And the Colorado Public Employees’ Retirement Association, or Colorado PERA, estimates its unfunded liability at $25.9 billion. The Pew Charitable Trusts estimates that total unfunded public pension liabilities exceed $1 trillion nationally.
Given the magnitude of the shortfall facing public pensions, infrastructure investments—if they are to attract the interest of pension funds—must not only offer an attractive rate of return but also a sufficient volume of transactions to make meaningful progress in addressing outstanding liabilities. Public-private partnerships pass the first test but fail the second. For starters, not all P3 deals involve private equity financing. Second, when equity is used as part of project financing, it tends to account for only a small share of the total because it is so expensive relative to other forms of financing—namely, municipal bond debt and low-cost loans from the federal government.
A review of projects financed through the Transportation Infrastructure Finance and Innovation Act, or TIFIA, loan program at the U.S. Department of Transportation demonstrates the limited role of equity. Congress established the TIFIA loan program in 1998. Since its inception, the program has helped finance only 24 public-private partnership projects involving an equity component. Excluding the Chicago Skyway and Indiana Toll Road projects, which were lease transactions of existing facilities as opposed to new construction or reconstruction, the average equity investment is $183 million as part of a project with a total cost of $1.28 billion.
Using these averages, it is possible to develop an estimate of how many major P3 projects a pension fund such as CalPERS would need to invest in to reduce its unfunded liability by just 5 percent. As with any model, this relies on a number of assumptions, including:
First, CalPERS would almost certainly try to reduce portfolio risk by taking a limited share of equity in any given project. For example, assume that CalPERS would be willing to take a 20 percent position. Based on the average equity investment of $183 million derived from the TIFIA project list, a 20 percent share would translate to an investment of approximately $36.6 million. Second, investors expect an annual return of between 8 percent and 14 percent on infrastructure projects. Third, P3 concession contracts vary greatly, with some lease agreements stretching as long as 99 years. Assuming a more traditional 30-year term and a 12 percent rate of return, CalPERS would receive a return of $131.7 million. After applying a discount rate of 7.5 percent—which is the long-run rate of return that CalPERS assumes when projecting fund performance and calculating unfunded liabilities—CalPERS would receive a stream of payments with a net present value of $51.8 million. The net present value number is important because the $93 billion unfunded liability CalPERS reports is the amount of additional fund capital in 2016 dollars needed to meet future obligations.
In order for CalPERS to reduce its unfunded liability by just 5 percent, or $4.85 billion, the fund would need to invest in 90 infrastructure projects that offered terms equivalent to those assumed in the hypothetical case. In other words, CalPERS would need an enormous volume of P3 projects in which to invest and then have to take a significant position in every one of them in order to reduce its liabilities by even a small amount. If CalSTRS and Colorado PERA and others attempted to reduce their unfunded liabilities by an equivalent amount, the number of P3 projects would need to grow substantially. In fact, in order to reduce total unfunded public pension liabilities by 5 percent, pension funds—assuming they were able to collectively take a 100 percent position equivalent to the $183 million average equity share on every project—would need 193 projects with a total cost of $246.7 billion. This seems exceedingly unlikely, as TIFIA has provided financing assistance to only 24 P3 projects with an equity component in the past 18 years. While the TIFIA list is by no means exhaustive of the infrastructure sector, it provides a useful measure of the overall pipeline. According to research by Squire Patton Boggs—a global law firm that provides legal and other services to the infrastructure sector—only five P3 projects closed in 2014. Of this total, four were surface transportation projects.
Public-private partnerships are best suited to very large, complex projects for which it is more likely to be cost-beneficial for the state to pay the premium associated with risk transference. Yet, the very nature of infrastructure investment is that most projects do not meet the size and complexity threshold. In order words, the number of P3 projects will remain relatively low not due to regulatory barriers but the fact that the vast majority of small and medium-size projects don’t lend themselves to a P3 procurement model.
Beyond financing
Underlying everything from the smallest repair project to the largest new build is the unglamorous world of procurement—the process by which government buys goods and services. Traditionally, state and local governments have procured transportation facilities such as highways and bridges through a process referred to as design-bid-build. Under this approach, the state separates the procurement process into three distinct phases:
The traditional design-bid-build process involves two independent phases of project development that are carried out by separate private firms. First, one firm completes the design and engineering work and then hands this product off to the state. Next, that state uses these specifications to develop a request for proposals for the construction phase. Finally, following construction, the state assumes complete responsibility for the operation and maintenance of the facility. This includes everything from snow removal to reconstruction of deteriorated segments. In this way, a design-bid-build procurement model allows the state to retain control over each stage in the process.
A public-private partnership is an alternative approach to infrastructure procurement for large-scale, complex projects. Under this approach, the private firm exercises greater control and decision-making authority since the procurement stages are bundled together into one contract. From the government’s perspective, one of the key benefits of using a P3 approach is the ability to transfer risk. The nature of P3 contracts allows the public sector to transfer some or all of the project development, design, construction, operational, and revenue risk to a private entity. This is not a small benefit. After all, large infrastructure projects frequently take longer and cost more to complete than initially estimated. This benefit does not come cheaply. In exchange for accepting delivery or revenue risk over time, the private entity will require additional compensation.
In order to determine if the additional cost of transferring risk and working through the complexities of a P3 transaction are economical, state and local governments must engage in value-for-money analyses. For those projects that pencil out, P3s are a valuable alternative procurement strategy.
Conclusion
Public-private partnerships have been fundamentally miscast as a solution to a growing government funding deficit. In reality, P3s are an alternative form of procurement that offers government a way to manage risk. This may be especially appealing if a state or local government is attempting to develop a complex facility for which it has little experience letting contracts and overseeing delivery. Moreover, a long-term concession that locks in a private entity to providing a specified level of service or repair may help insulate a critical infrastructure asset from the vagaries of state budgets and recession. Provided that governments have the skill to negotiate effectively with their private sector counterparts in order to extract maximum value, P3s have a place in the U.S. infrastructure landscape. This will still leave, however, the politically challenging task of building support for the taxes and fees necessary to repay project debts, regardless of their source.
Endnotes and citations are available in the PDF version.
The Center for American Progress
By Kevin DeGood | Wednesday, August 10, 2016
Kevin DeGood is the Director of Infrastructure Policy at the Center for American Progress.
A majority of the 10 U.S. states with the most tax-supported debt outstanding have only a limited capacity to withstand the effects of a moderate recession, S&P Global Ratings found when it assessed their 2016-2017 budgets. The results of our scenario analysis underscore that fiscal health across the U.S. state sector is subject to the powerful countervailing effects of pro-cyclical revenue trends and countercyclical expenditure pressures. We have previously asserted that from a credit perspective states fare better when they leverage periods of economic growth to restore fiscal alignment and build budgetary reserves. This simulation affirmed our view.
Throughout 2016, we have described state fiscal health as uneven. Several states have yet to fully recover from the recession that ended in 2009 and some remain ill-equipped to withstand unanticipated fiscal stress. Others—because their economic and revenue bases depend on oil extraction—are mired in more acute fiscal stress brought about by the dramatic fall in oil prices. Complicating matters is that since 2000, state tax revenues have, to varying degrees, grown increasingly responsive to changes in economic performance.
Overview
09-Aug-2016
In this week’s episode, Managing Director Gabe Petek provides an overview of our recent report examining how 10 large states would be impacted by a hypothetical recession, and Senior Director Jane Ridley discusses our recent rating action on Detroit Public Schools.
Aug. 12, 2016