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’.

 

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.

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:

• lead issuers to incur additional issuance costs;
• distort the meaning of refunding savings;
• deprive issuers of committed long-­term funding at current market rates;
• may be driving individuals out of the market, thereby weakening support for the federal tax exemption;
• are making the market more opaque and less liquid; and
• may draw increased regulatory scrutiny.

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:

• The issuer is fully compensated if the bonds run to maturity.
• The issuer obtains long-­term committed funding at the current market rate.
• The issuer only pays to refinance the bonds if interest rates fall or there is a structural need.
• The issuer’s bonds will be easier for investors to value and understand, leading to better liquidity and pricing for issuers.
• High coupons continue to shield investors from market discount treatment.

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:

1. The extent to which CalPERS would expose itself to the downside risk that an infrastructure project would fail to perform financially
2. The annual rate of return on the equity investment
3. The length of the concession
4. The discount rate used to calculate a net present value of the anticipated cash flow over time

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:

1. Design and engineering
2. Construction
3. Operations and main­tenance

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

• Fiscal imbalance in the latter stage of economic expansion indicates heightened vulnerability to a recession scenario;
• States with more volatile revenue bases necessitate relatively larger budget reserves to achieve the same budgetary protection from recessionary conditions as states with more stable revenues;
• Countercyclical Medicaid enrollment patterns exacerbate the fiscal pressure on states during economic downturns;
• The magnitude of revenue shortfalls in a recession is a function of baseline forecast assumptions and the sensitivity of the tax base to economic conditions;
• Stress scenario analysis illustrates that aggregate potential revenue shortfall of $27 billion among the 10 states in our study could exceed these states’ $21 billion in budget reserves

Continue reading.

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.

Listen to the podcast.

Aug. 12, 2016

The fate of the prototype for Puerto Rico’s debt-restructuring effort hinges on winning an investment-grade credit rating on new bonds investors have agreed to accept in exchange for providing relief to the island’s main electric utility.

While that may appear to be an arduous task for an agency already in technical default, it may not matter in the long run, according to two people involved with the negotiations who declined to be identified because the talks are private. After two years of negotiations, creditors have too much at stake to let the Puerto Rico Electric Power Authority’s $9 billion restructuring unravel, they said.

What’s giving investors comfort is the structure of the new securities, which will be repaid with dedicated revenue that the agency known as Prepa doesn’t have access to and flows straight to the bond trustee. The island’s electricity commission approved in June a 3.10 cent per kilowatt hour surcharge that will go toward repaying the bonds.

“You have to be able to trust that the revenue stream is protected and it can’t be taken away and manipulated,” said Daniel Solender, head of municipals in Jersey City, New Jersey, for Lord Abbett & Co., which manages $20 billion of state and local debt, including Prepa bonds. “If that type of structure can be set up, than a lot of things are possible.”

Restructuring Template

In what would be the largest restructuring in the $3.7 trillion municipal-bond market, creditors holding about 70 percent of Prepa debt agreed in December to accept 85 cents on the dollar for the securities.

Analysts have pointed to the agreement as a road map for future debt talks once the financial control board being set up for the island by the U.S. takes effect later this year.

A junk rating doesn’t necessarily prohibit Prepa from restructuring, said Matt Fabian, a partner at Concord, Massachusetts-based Municipal Market Analytics. The utility would need to amend its creditor agreement, he said.

“Creditors still want to exit and a non-investment grade rating means that the economics are a little bit worse for everyone, but in the absence of any other good ideas, this is all they have,” Fabian said.

Prices of the existing securities suggest investors remain wary. Bonds maturing in July 2040, the agency’s most-actively traded security in the past three months, changed hands Aug. 5 at an average price of 65 cents on the dollar, 20 cents below the recovery rate, data compiled by Bloomberg show.

It’s unlikely that Prepa will receive an investment-grade rating after the commonwealth defaulted in July and August on general-obligation debt that was guaranteed by its constitution, said Dick Larkin, director of credit analysis at Stoever Glass & Co., who spent nearly 26 years assigning municipal credit ratings at S&P Global Ratings and Fitch Ratings.

“I don’t believe any kind of a securitized deal coming out of Puerto Rico can get an investment grade when the sponsor itself is breaking constitutional law,” Larkin said.

S&P has already told Prepa that its restructuring, as of now, wouldn’t garner an investment grade, Caribbean Business reported, quoting Carlos Gallisa, a utility board member who represents residential customers. Prepa said in response that it hasn’t started the formal rating process yet.

Rating Process

“While the outcome of the rating process cannot be predicted at this stage, Prepa maintains that there is a path to obtaining an investment grade rating for the securitization bonds and intends to continue working diligently and collaboratively together with its creditors and other stakeholders to implement the deal agreed as part of the restructuring support agreement,” Lisa Donahue, Prepa’s chief restructuring officer, said in a statement. “Prepa intends to start engaging with Moody’s and also start the formal process with S&P in the near future.”

“We continue to have strong confidence that the securitization bonds are well-positioned to receive an investment-grade rating,” Stephen Spencer, managing director at Houlihan Lokey, adviser to a group of Prepa bondholders, said in a statement.

Getting investors to trust that it won’t default on the new bonds no matter what the rating is still a challenge. Hedge funds and insurance companies are already suing Puerto Rico and its agencies over a local debt-moratorium law and for redirecting certain revenue that the creditors say go against commonwealth or federal laws. That’s even after the federal legislation authorizing the island’s overall debt restructuring included a stay on litigation.

Upgrade Potential

Investors also face the risk that the electricity surcharge may not be enough with a declining population and if customers fail to pay bills on time, Fabian said. Overdue accounts totaled $1.8 billion as of May, the bulk of that from government entities, according to the utility’s website.

Prepa and its creditors have been negotiating since August 2014 on how to improve the utility’s finances after it raided reserve funds to pay for fuel. Creditors agreed to accept losses and wait longer to be repaid to enable the utility to rehabilitate a system that relies on oil to produce electricity. The goal is for Prepa’s operating costs to decrease over time so that it can repay its obligations. That’s a risk that investors appear to be willing to take whether the new debt is rated investment grade or not.

“This is a financing that’s not impossible, and could season itself into an investment-grade security,” Fabian said.

Bloomberg Business

by Michelle Kaske

August 9, 2016 — 2:00 AM PDT

WASHINGTON — The Upper Mohawk Valley Regional Water Finance Authority received a green bond assessment of GB1 for $8.78 million of water system revenue bonds on Wednesday from Moody’s Investors Service — the first GBA the rating agency has issued in the U.S.

The GBA, which ranges from GB1 for excellent to GB5 for poor, is designed to help investors determine if green bond proceeds are being used to achieve “positive environmental outcomes,” said Henry Shilling, Moody’s senior vice president who has played a key role in the development and use of the GBA.

Moody’s rolled out the final methodology for the GBA, which is not a rating, at the end of March. Since July, the rating agency has assigned four GBAs, the first three of which went to European entities.

The Upper Mohawk Valley Regional Water Finance Authority bonds are to be issued soon to help finance an increase in the water system’s resiliency and the furtherance of its mission to provide safe drinking water to users. The authority is an instrumentality of New York State that serves 130,000 residents through 38,900 service connections in the eastern portions of Oneida and Herkimer counties as well as the city of Utica.

And Moody’s expects to see more green bond issuances in the future.

In a report on the sector issued about two weeks ago, Moody’s said global green bond issuance during the second quarter reached a new quarterly high of $20.3 billion, raising total volume for the first half of the year to $37.2 billion, an 89% increase over the same period a year ago.

The U.S. accounted for about 22.8% of the second quarter issuance and 19.8% of first quarter issuance, Moody’s said. U.S. Issuers in the second quarter were from Massachusetts, New York, California, Maryland, Indiana, Cleveland, Ohio, New Jersey, Rhode Island, and St. Paul, Minn.

“With strong issuance already observable in the first two weeks of the third quarter, the global green market is poised to reach $75 billion in total volume for the year and set a new record for the fifth consecutive year,” Moody’s said in the report.

“The green bond market is gaining traction,” Shilling told The Bond Buyer.

Up until this year, green bonds were rated by Moody’s based on their creditworthiness, Shilling said. But institutional investors that buy them, which include banks, insurance companies and pension funds, wanted the rating agency to begin assessing whether they were actually being used to improve the environment, he said.

Investors want to know, for example, whether bonds issued to finance a project that will reduce a carbon footprint and deter climate change or to improve water quality were really accomplishing those goals.

The GBA is part of a broader strategy at Moody’s to address environmental, social and governance risk more systematically and more consistently, Shilling said.

It is based in part on the disclosure practices of the issuer and borrower and how transparent they are. The GBA is determined according to five key factors: organization; use of proceeds; disclosure of the use of proceeds; management of proceeds; and ongoing reporting and disclosure on environmental projects financed or refinanced with the bonds.

In its rationale for giving the Upper Mohawk Valley Regional Water Finance Authority its GBA1 rating, Moody’s said the authority is effectively organized and properly staffed with qualified and experienced personnel.

The bonds, which are explicitly designated as green bonds in the draft official statement, are to be issued under the authority’s capital improvement plan to improve the water system’s infrastructure through increased capacity and dependability, Moody’s said.

About $4.05 million of the proceeds will be allocated to raw water transmission upgrades that will improve the authority’s ability to draw water from the Hinckley Reservoir during major droughts that lead to below-normal water levels in the reservoir.

Another $650,000 is to be used to design two new water storage facilities in Marcy as well as improvements to a water treatment plan in Prospect and upgrades to pumps and regulating stations.

The final $4.13 million will be used to refinance callable bonds previously issued in 1999 and 2000 for improvements.

The authority has disclosed information on these projects in its annual comprehensive financial reports and on its website in capital projects committee reports.

“The MVWA has committed to track the net proceeds of the 2016 bonds and will confirm that such proceeds were used to finance the projects,” Moody’s said in its release. “The MVWA is committed to providing disclosures that demonstrate the environmental benefits resulting from the planned expenditures of the 2016 bonds.”

The projects are expected to be completed within 12 months after they become available, the rating agency said.

“The first-year initial disclosure will indicate in detail how the proceeds were expended, the contractors performing the work and receiving payments, and the actual work that was completed,” Moody’s said in the release.

“Annual reporting will also include updates on four key metrics that at the same time link up to base line disclosures that permit comparative analysis,” the rating agency added. “These include reservoir water levels versus transmission capacity, conveyance of purified potable water during the year, trihalomethane levels and the total amount of hydroelectric power produced by the turbines within the water treatment facility.”

The Bond Buyer

By Lynn Hume

August 10, 2016

Municipal-bond investors in Illinois, Pennsylvania, New Jersey, and Connecticut have good reason to be worried.

The states are among those that S&P Global Ratings has deemed to have “only a limited capacity” to withstand the effect of a moderate recession, according to a report published by the credit-ratings company.

The report, titled “Fiscal Resilience Among U.S. States Varies As Economic Expansion Surpasses Seven-Year Mark,” found that a majority of the 10 states with the most tax-supported debt outstanding have a limited ability to handle the effects of an economic downturn, judging by stress tests S&P conducted on their 2016-2017 budgets. States are better off by leveraging periods of economic growth to build reserves, S&P concluded.

“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,” said credit analyst Gabriel Petek.

Of the 10, S&P found that Illinois, Pennsylvania, New Jersey, and Connecticut are the most vulnerable to significant fiscal stress. Washington, Florida and New York are best-positioned should the economy turn south, the report said. California, Massachusetts, and Wisconsin rounded out the list of those states evaluated.

Bloomberg Business

by Molly Smith

August 9, 2016 — 6:35 AM PDT

Investors are flocking to securities that shield the risks of hurricanes, pandemics and hackers; reinsurers are suffering

Catastrophe bonds were invented in the early 1990s to help insurance companies mitigate the risk of disasters such as hurricanes and earthquakes. Today, like the very storms they protect against, catastrophe bonds are upending the insurance business.

The oddball securities have exploded in popularity, driven by pension plans, sovereign-wealth funds and wealthy families seeking better returns. Investment banks and insurers’ own securities-brokerage operations churn out billions of dollars a year in catastrophe bonds.

There are “cat bonds” that pay off if too many people die in a pandemic. Others cover the opposite problem of people living beyond their expected lifetimes. An American International Group Inc. unit sold cat bonds this spring to insure itself against a potential rash of foreclosures. A Credit Suisse Group AG bond sale in May insured the Swiss bank against the risk of rogue traders, cyber hacking and accounting fraud.

Traditionally, insurers raise capital and use it to back policies that are priced by the companies’ actuaries. To unload some of their risk, insurers pay premiums to companies known as reinsurers, a low-profile corner of the industry that serves as insurance for insurers.

Catastrophe bonds have disrupted this way of doing business. The bonds are sold by insurers or the entity itself seeking insurance, like a local government or transit agency. An independent risk-modeling firm calculates the odds of a particular disaster occurring. Investors are paid relatively high interest rates but lose their principal if disaster hits.

As a result, the price of reinsurance is falling, as are profits. These bonds have also injected a new source of volatility into the otherwise staid insurance world, since money flows are driven by broader forces in the bond market.

In all, there are $72 billion of cat bonds and similar investments outstanding. The total is equivalent to 12% of the $565 billion in capital in the reinsurance business. The volume of cat bonds and related investments is widely expected to double in the next several years, a sign that the transfer of risk from the insurance industry to capital markets has opened up access to a seemingly limitless source of funding.

That means the fixed-income market “is acting like one giant insurance company,” says John Seo, a biophysics Ph.D. and former insurance-risk trader who co-founded Fermat Capital Management LLC in 2001 to invest in cat bonds and other securities.

The surge is partly an unintended consequence of economic-stimulus efforts by central banks. Low interest rates are pushing investors such as pension funds to seek out higher returns.

Ordinary bonds pay buyers interest to cover the risk of default by the issuer. With cat bonds, the payments compensate buyers for taking on the risk of extreme events, typically for several years.

United Services Automobile Association sponsored $250 million of cat bonds in May to help cover potential losses from U.S. storms, wildfires, meteorite strikes and a solar flare. Companies usually sell the bonds through a specially formed entity.

If any of those disasters occurs in a four-year period and causes losses at USAA of between $910 million and $1.2 billion, buyers of the deal’s riskiest slice will lose some or all of their money, according to a person familiar with the deal. An independent risk-modeling firm calculates the probability of a $1.2 billion loss at 7.6%.

In return, those investors will earn 11.5% a year, plus interest on their principal held in escrow, which is invested in Treasurys. Investors buying the least risky slice, which kicks in only if claims exceed $1.9 billion, will collect annual interest of 3.25%.

Premiums for reinsurance covering catastrophic property damage, reinsurers’ largest business line, is down by half since 2011, according to Bryon Ehrhart, a senior executive at insurance broker Aon PLC, in part because of this new flood of money. A multiyear streak of no severe U.S. hurricanes is compounding the pressure.

Citizens Property Insurance Corp., run by the state of Florida, used a mix of cat bonds and conventional reinsurance to buy $3.9 billion in coverage last year, up 20% from 2014. Citizens also paid less: about $282 million in 2015, compared with $304 million a year earlier.

Such savings are a boon for Florida residents such as Greg Truax of Tampa. When he opened this year’s policy-renewal package from Homeowners Choice Property & Casualty Insurance Co., he saw that his premium had fallen 5.7% from a year earlier, saving him $233.

Dulce Suarez-Resnick, an agent at NCF Insurance Associates in Miami, says lower rates have been a “lifesaver” for clients rebuilding their finances following the financial crisis and recession.

Sawgrass Mutual Insurance Co. has cut the annual premium on Ms. Suarez-Resnick’s own house by $484, or 15%, since 2013. “Thank God the rates started to go down to make it more affordable,” she says.

Warren Buffett, whose Berkshire Hathaway Inc. owns some of the biggest reinsurers, had a different reaction. Mr. Buffett used to brag about the scale and profitability of the business.

At last year’s Berkshire annual meeting, Mr. Buffett complained to shareholders that reinsurance has become “a fashionable asset class.” Faced with lower prices and poor returns, Berkshire is doing fewer deals.

Mr. Ehrhart, the Aon executive, says he used to call the profit squeeze “the battle of six and 16.” Reinsurers historically aimed for returns of 16% a year. The pension funds snapping up cat bonds are happy with just 6%.

By last year, though, the overall return of reinsurers tracked by Fitch Ratings had fallen to 9.9%.

Over the past decade, yields on cat bonds have outpaced junk-rated bonds by half a percentage point and high-quality securities by more than three points.

Catastrophe bonds were born after Hurricane Andrew cut across southern Florida in 1992 and left roughly $25 billion in damage in today’s dollars. At the time, Andrew was the costliest hurricane ever.

German insurance executive Eberhard Müller had a brainstorm while riding the London subway in 1993. He wondered if some of the financial risk from hurricanes and earthquakes could be shifted to bond investors.

Mr. Müller and a colleague at Hannover Re, Dirk Lohmann, were working on ways to build up the reinsurer’s capital base so that the German company could take advantage of rising rates. Some of their bosses worried about opening up the lucrative business to Wall Street and asked: “Are we opening Pandora’s box?”

Mr. Lohmann replied: “If we don’t do this, somebody else will.”

With help from the bank now known as Citigroup Inc., Hannover pitched to investors a bond called “Kover,” a mashup of the German word “katastrophe” and “coverage.” Mr. Lohmann toted an extensive presentation and pitchbook. Details such as mathematical formulas demanded by lawyers were spelled out in two thick binders that the deal’s team called “the Bible.”

Mr. Müller, who retired from Hannover in December and now runs his own consulting firm, expected investors to sign up for the cat-bond deal immediately. It took months, and the $100 million deal was downsized to $85 million.

Mr. Lohmann called it “the roadshow from hell.” He now leads Secquaero Advisors Ltd., which advises asset manager Schroders PLC on cat bonds.

Sales of cat bonds proceeded haltingly until the financial crisis. The bonds as a class had a return of 2.65% in 2008, according to Lane Financial LLC. The U.S. stock market slid nearly 40%, and U.S. corporate bonds posted negative returns.

The crisis also ushered in the ultralow interest rates that sent big investors scrambling for higher yields.

When executives with Florida’s Citizens Property Insurance began marketing a $400 million cat bond in 2014, they realized during their 11-day roadshow they could blast past that target.

“We kind of joked around: ‘How big do you think it will get?’ ” recalls Jennifer Montero, Citizens’ finance chief. “We thought it would be cool if we could do $1 billion.” Orders totaled a whopping $1.74 billion. Citizens’ board of governors decided $1.5 billion was large enough to meet Florida’s needs.

Cat bonds aren’t the only option for investors. Some favor “sidecars” and “collateralized reinsurance,” arrangements that allow reinsurers to directly share some of the risk on their books with investors. Also popular are smaller “cat bonds lite,” or deals with less documentation.

Demand has been so high that some executives, analysts and investors worry that returns are starting to suffer from the flood of issuance. Cat bonds returned 4.2% in 2015, according to Lane Financial. That is less than half the 8.8% annualized return by the Swiss Re Cat Bond Global Total Return Index since 2006.

Another risk is several major hurricanes hitting just as interest rates rise. The resulting losses could deplete reinsurers’ capital and drive many cat-bond buyers out of the market at the same time.

“You have a double whammy,” says Thomas Leonardi, a senior adviser at investment bank Evercore Partners Inc. and former Connecticut insurance commissioner. “How will the market react?”

Still, he believes cat bonds are here to stay. Brokers say hundreds of pension funds around the world own cat bonds or want to buy them. Pension funds typically allocate $50 million to $200 million to such investments, or as much as 2% of their total assets.

At an insurance conference in June, Rod Fox, chief executive of strategic reinsurance and capital adviser TigerRisk Partners LLC, pointed to a slide of a waterfall. “How do you stop that waterfall?” he said. “It will continue to come.”

Some companies are starting to obtain insurance by issuing notes directly to bond investors. Last year, Amtrak sponsored $275 million of cat bonds that will pay out if specified storm surges, winds or earthquakes hit the Northeast during a three-year period.

Phil Balderston, Amtrak’s director of risk management, said at a recent conference that it was hard for the passenger railroad to get enough traditional insurance coverage.

Amtrak’s cat bonds were oversubscribed because investors had ample Florida hurricane risk in their portfolios and wanted to diversify their exposure.

Some reinsurers have responded by creating their own direct investment opportunities. Axis Capital Holdings Ltd. is using money from such investors to help insure corn, soybeans, wheat and cocoa against bad weather, says Albert Benchimol, the specialty insurer and reinsurer’s chief executive.

“The halcyon days of easy underwriting profits and steady investment returns are in the rearview mirror,” he adds.

THE WALL STREET JOURNAL

By LESLIE SCISM and ANUPREETA DAS

Updated Aug. 8, 2016 4:46 p.m. ET

Write to Leslie Scism at leslie.scism@wsj.com and Anupreeta Das at anupreeta.das@wsj.com

About the Report

The municipal bond credit report is a quarterly report on the trends and statistics of U.S. municipal bond market, both taxable and tax-exempt. Issuance volumes, outstanding, credit spreads, highlights and commentary are included.

Summary

According to Thomson Reuters, long-term public municipal issuance volume totaled $119.0 billion in the second quarter of 2016, an increase of 24.5 percent from the prior quarter ($95.5 billion) and an increase of 7.3 percent year-over-year (y-o-y) ($110.9 billion). Including private placements ($3.0 billion), long-term municipal issuance for 2Q’16 was $108.7 billion. Year to date ending June 30, municipal issuance totaled $214.5 billion, well above the ten-year average of $190.6 billion although nearly unchanged from last year’s year to date issuance of $214.5 billion.

Tax-exempt issuance totaled $104.9 billion in 2Q’16, an increase of 19.0 percent and 4.8 percent, respectively, q-o-q and y-o-y. Taxable issuance totaled $6.8 billion in 2Q’16, an increase of 3.8 percent q-o-q but a 14.4percent decline y o y. AMT issuance was $7.3 billion, an eightfold increase q-o-q and a 153.7 percent decline y-o-y.

By use of proceeds, general purpose led issuance totals in 2Q’16 ($28.7 billion), followed by primary & secondary education ($21.0 billion) and higher education ($11.4 billion).

Refunding volumes as a percentage of issuance fell slightly from the prior quarter, with 49.7 percent of issuance attributable to refundings compared to 52.6 percent in 1Q’16, but was unchanged from 2Q’15.

Read the Report.

August 11, 2016

Companies and government agencies are calling bonds at the fastest pace in four years

Bond issuers are heeding the call of tumbling interest rates.

Companies and government agencies are “calling” bonds at the fastest pace in four years, taking advantage of provisions that let them redeem securities under certain circumstances and save money by reissuing at lower rates.

Redemptions hand investors their money back at a time when many portfolio managers are struggling to find attractively priced securities to purchase. Some investors now are paying up for so-called noncallable bonds that don’t give the issuer a redemption option.

The trends are particularly acute in the markets for bonds sold by government-sponsored enterprises such as the Federal Home Loan Banks, Fannie Mae and Freddie Mac, companies that provide financing to the mortgage market. Investors have had almost $248 billion in callable GSE debt redeemed this year through July, according to Performance Trust Capital Partners LLC, a fixed-income trading firm. GSE calls in the second quarter hit $125 billion, the most since 2012.

“We’ve seen lots and lots of callable bonds,” said Andrew Pace, a vice president at the firm. “It’s interesting to see how different returns can be with that call feature.”

The FHLB sold debt in both formats in July 2015, offering coupons of 2% on callable bonds and 1.875% on noncallable ones. The callable debt was redeemed in July of this year, giving investors an annual return about 2%. The noncallable debt returned 4.3% during that year, according to Performance Trust data, reflecting the price increase as investors snapped up noncallable debt.

In July of this year, the FHLB issued new callable bonds, offering a coupon of 1.32%. Hypothetically, that means it stands to save about $6.8 million in interest costs for every $1 billion in debt. That assumes one bond was issued to replace the other, which isn’t necessarily the case.

Calls are growing more popular throughout the bond market. Mr. Pace said 59% of GSE debt sold in the last quarter of 2015 has already been called. Global corporate issuers have called more than $300 billion, including roughly $90 billion in U.S. corporate bonds, according to Performance Trust.

The large amount of calls comes as the yield on the 10-year Treasury note has fallen more than half a percentage point since the end of last year. It touched the lowest on record last month.

Still, some investors are using calls as an opportunity to bulletproof their portfolios in case rates rise. Craig Brothers, who manages about $3 billion of mostly municipal bonds at Bel Air Investment Advisors in Los Angeles, said that many of his holdings that are eligible to be called have already been redeemed.

“The calls are helping us,” Mr. Brothers said. “Getting the money back is essentially allowing us to take that money and redeploy it” in investments that are less sensitive to rising interest rates.

THE WALL STREET JOURNAL

By BEN EISEN

Aug. 8, 2016 11:55 a.m. ET

Write to Ben Eisen at ben.eisen@wsj.com

Plunging global interest rates have made borrowing cheap, but many are struggling with sluggish revenue growth and higher expenses

Wall Street is urging governments to invest in big-ticket infrastructure projects. Voters and public officials have a different message: not so fast.

Plunging global interest rates have made borrowing cheaper than ever. But instead of spending on aging roads, bridges and buildings, many state and local governments are scaling back.

New government-bond issues have dropped to levels not seen in the past 20 years. Municipal borrowers issued about $140 billion in bonds for new projects last year. Adjusted for inflation, that is 53% lower than in 2006 and 21% lower than in 1996. So far this year, municipalities have borrowed $95.1 billion, about $10 billion more than at this time last year.

Seven years after the recession ended, voters and government officials remain scarred by the deep budget cuts they endured at the height of the financial crisis and the sluggish revenue growth that has constrained spending since then.

“The collapse in interest rates corresponded with the recession and with a political trend toward antitax sentiment,” said Dan Seymour, an analyst with Moody’s Investors Service. ”Even as state and local governments are looking at lower bond yields, they are facing a public that is reluctant to pay more taxes.”

As a share of the economy, state and local governments are investing less in capital projects than they have since the early 1980s, according to Commerce Department data.

Last week, Hawaii became the latest state to pare new highway construction after legislators turned down a gas-tax increase.

In May, California transportation officials announced a 28% cut to construction plans between now and 2021. New public-sector borrowing in the state last year dropped almost 40% from 2009.

Florida officials went five years without approving any new borrowing by the state’s main construction program for public schools and universities despite a long list of projects. When the legislature and governor finally signed off on new borrowing again in March, they limited the new debt to $275 million, down from $1.4 billion in fiscal 2007.

“Our governor is a debt hawk,” said Ben Watkins, Florida’s director of bond finance.

Governments have reported significant drops in borrowing costs while their ratings have remained unchanged. Barclays PLC’s municipal-bond index, which is a gauge of municipal-debt yields, this summer reached a 20-year low of 1.6%, compared with about 4.2% in summer 2006.

Wall Street executives are calling for investments in infrastructure. J.P. Morgan Chase & Co. CEO James Dimon cited a “need for good, long-term infrastructure plans” in a letter to shareholders this year, echoing economists’ sentiments.

Asset managers that invest in municipal bonds too would like to see increased issuance, because the additional supply could force governments to pay more to entice purchasers, driving up yields.

State and local governments are carrying about the same amount of debt as they were when they emerged from the recession, in part because tax revenue has been slow to rebound.

S&P Global Ratings analyst John Sugden said that in many places, the hesitation “reflects good budget management” by governments whose revenue projections leave no room for additional debt payments or upkeep costs for newly constructed projects.

On the other hand, he said, forgoing timely repairs to existing structures could drive up costs in the long run.

A McKinsey Global Institute study released in June found the U.S. should boost infrastructure spending by 0.7% of its gross domestic product between now and 2030 to meet transportation, water, power and telecommunications infrastructure needs. Doing so this year would mean roughly $129 billion in new spending.

Many struggling legislatures and city halls are instead focusing on underfunded employee pensions and rising Medicaid costs. Some cash-strapped areas, such as Puerto Rico and the city of Chicago, face high annual debt payments.

Federal grants to state and local governments for capital investment are expected to total less than $68 billion in 2016, according to data from the Office of Management and Budget. They hovered around $80 billion in the early part of the last decade and surpassed $90 billion in the aftermath of the recession. Estimates are in 2009 dollars.

State tax revenue, meanwhile, isn’t expected to bounce back soon. The National Association of State Budget Officers estimates state spending will rise 2.5% in fiscal 2017, down from 5.5% in 2016 and 4.2% in 2015.

“There aren’t a lot of additional dollars to go around to spend on infrastructure, transportation and other areas of the budget,” said Brian Sigritz, director of state fiscal studies for the association.

Many states require a voter referendum before taking out new loans. That means political considerations often matter more than interest rates when governments consider a new round of borrowing.

Voters in Wisconsin school districts have rejected 40% of ballot questions seeking to issue debt over the past 10 years, according to the Department of Public Instruction.

The 1,300-student Dodgeville School District, about 45 miles outside Madison, scrapped plans to build a $34 million high school in 2014 after voters roundly rejected a $48 million borrowing referendum. This April, the district gained approval for a roughly $20 million proposal to expand the existing high school.

Among the improvements the district decided to forgo was a second gym. “We need that, but it was perceived to be a want, rather than a need,” said District Administrator Jeff Jacobson.

THE WALL STREET JOURNAL

By DAVID HARRISON and HEATHER GILLERS

Aug. 7, 2016 5:30 a.m. ET

Write to David Harrison at david.harrison@wsj.com and Heather Gillers at heather.gillers@wsj.com

Public entities have recently been looking for new ways to harness right of way (ROW) for broadband public-private partnership (P3) projects. Last year, the city of Santa Cruz made history by entering into a roughly $50 million P3 with local Internet service provider Cruzio to deliver 1-gigabit broadband access to every property in the city’s jurisdiction. Construction began this month. San Francisco is now considering pursuit of a similar P3. On the other side of the country, the Pennsylvania Turnpike Commission (“PTC”) recently released requests for proposals for legal and financial services for a broadband network P3 along the Turnpike right of way. The State of Kentucky entered into a 30-year P3 in 2015 with a private consortium with the goal to build a middle-mile broadband network to promote economic development, education and research capabilities, public safety, healthcare delivery and connectivity for libraries and communities.

The Santa Cruz and PTC P3 projects offer a study in contrasts. These two projects are using the P3 delivery model to meet different goals. Santa Cruz is using a P3 to expand broadband service within the municipality where the public will benefit from improved internet service and the private partner will benefit from increased business. The city plans to fund the project through a municipal bond backed by the future revenues from the service. Santa Cruz will own the network and Cruzio will operate it, paying the city rent.

While some of the details are unclear, it appears that the PTC is pursuing a shared resource model for its broadband P3. The PTC will make ROW available for a broadband fiber optic backbone with a WIFI overlay in exchange for dark or lit capacity (conduit alone or conduit plus service, respectively). The public benefit from this model is the increased service and capacity of the network for agency needs, and the private benefit is the ability to build and run a major backbone fiber optic system while avoiding right of way rental fees. In essence, the shared resource model allows a public entity to leverage private investment within its ROW to receive broadband capacity in return.

The economic beauty of the shared resource model lies in the fact that the incremental cost to the broadband provider of delivering backbone capacity to the public agency is a fraction of the value of that capacity to the agency and a fraction of the rental value for the right of way. For this low incremental cost, the broadband provider delivers value equal to or greater than the fair market rent that the public agency would otherwise charge. A true win-win.

As public entities continue to pursue broadband P3 projects, they must carefully assess and allocate the respective roles and responsibilities of the public and private partners. In addition to the design, construction, finance, and operations/maintenance of the broadband infrastructure, public entities must also consider how the telecommunications service will be provided and how it will be marketed. Unsurprisingly, how these roles and responsibilities ought to be allocated will depend on the government’s objective. Project success depends on tailoring the delivery model to these objectives and financial constraints.

For this reason, the Santa Cruz P3 is going to allocate roles and responsibilities differently from the project the PTC is pursuing. The PTC is not seeking to provide last-mile internet service as a utility to a broad citizenry, as Santa Cruz is. Instead, entering into a broadband network P3 will provide the PTC and the Pennsylvania Department of Transportation improved network connectivity through lit capacity for these agencies’ own needs along the Turnpike’s 550 miles of right of way.

Under the utility model, the public agency usually owns and maintains the fiber network and the private entity usually designs, constructs, administers, and markets the project and its resulting Internet service. Financing may be done by either or both parties. This model can scale and fund the project in one of two ways—first, as a ubiquitous system with a corresponding basic “utility” charge to all residents to finance the project with a corresponding option for each resident to enter into an individual contract with the Internet service provider, or second, on a pay-as-you-go basis that would be less expensive initially but would not provide ubiquitous service. San Francisco is grappling with these choices in its own quest to provided 1-gigabit services throughout the city and county.

This allocation of roles does not necessarily make sense for a broadband P3 project like the PTC’s. The public agency does not need to own, operate or maintain the backbone system in order to attain its objectives. It merely needs the rights to its allocated capacity from the larger system. The broadband provider needs to finance, build, operate/maintain and market the rest of the system in order to generate revenues and profit from its capacity.

The Institute for Local Self-Reliance recently published a report addressing many of these issues, ultimately concluding that successful broadband P3s are structured in a way that provides meaningful benefits and control for both the public and the private entities involved. Public entities interested in pursuing broadband P3s must weigh the unique risks and rewards associated with such an arrangement and carefully allocate control to deliver a project that will succeed. As has been clear from the Santa Cruz and PTC cases, how broadband P3s are structured may vary greatly in order to tailor the P3 delivery model to different objectives and financial circumstances.

Nossaman LLP

by Fredric W. Kessler and Shant Boyajian

August 1, 2016

Green Bonds have led a tremendous growth in environmental finance over the past five years, but that growth has been heavily-weighted towards investment grade credits with their accompanying risk/return. The predominance of investment-grade credits partially results from the all-or-nothing approach of Green Bonds – the bond is either 100% green or 0% green. The 100% green requirement shuts out many issuers seeking to finance environmentally-sustainable projects because a company needs to be sufficiently large and well-capitalized to be able to issue bonds of a sufficiently large principal amount solely for environmental purposes. Most types of bonds require a minimum principal amount to ensure secondary market liquidity, roughly speaking the equivalent of $200 million. This especially shuts out smaller and more highly leveraged companies.

To diversify Green Bonds, it may be possible for investors to rely on a promise from issuers to use a specified portion of the proceeds of a bond for environmental purposes. Currently, an issuer seeking to finance $100 million in environmental capital expenditure would be unable to obtain a “green” credential. But if that issuer were to raise $100 million for conventional purposes and $100 million for environmental purposes in the same issuance, the issuer should be able to label its bond as 50% green. Rather than all green or all non-green, the bond is “Green Striped.”

To read more about “Green Striping”, click here.

If you found this interesting, you might also enjoy:

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Latham & Watkins LLP

by Aaron Franklin

USA August 1 2016

This article is made available by Latham & Watkins for educational purposes only as well as to give you general information and a general understanding of the law, not to provide specific legal advice. Your receipt of this communication alone creates no attorney client relationship between you and Latham & Watkins. Any content of this article should not be used as a substitute for competent legal advice from a licensed professional attorney in your jurisdiction.

WASHINGTON – The par amount of municipal trades reached the highest level in nearly three years during the second quarter of 2016, showing a rebound from significant declines in the second half of last year, according to Municipal Securities Rulemaking Board statistics posted Wednesday.

The total par amount traded in the second quarter was $818.2 billion, an increase of 10.4% from the $741.4 billion in trading the year before and the highest volume since the MSRB recorded a total par amount of $825.4 in the third quarter of 2013. The increase follows total recorded trading by par amount of $634.7 billion in the first quarter of the year.

Michael Decker, managing director and co-head of munis with the Securities Industry and Financial Markets Association, said the biggest factor that affects trading volume is issuance volume because bonds tend to trade more actively after they are issued.

“The second quarter of 2016 was a strong quarter for issuance,” he said. “That was probably a significant driving factor in why trading volume ticked up.”

He added that even with the increase, trading volume is still down significantly from before or during the financial crisis as yields remain low.

“It is hard to get investors excited about bonds at the current level of yields,” Decker said.

Matt Fabian, a partner with Municipal Market Analytics, said the upward trend in trading volume shows that the market has largely found its footing again.

“There was less worry about [Federal Reserve Board] action and I think that the market was more comfortable with the prospect of yields staying lower for longer,” Fabian said about the MSRB 2016 data.

The corresponding decrease in total number of trades during this year’s second quarter, 2.34 million compared to 2.56 million a year before, shows that there’s more follow through in the immediate secondary market, where bonds are less fragmented than they generally become over time as they move more to retail investors, Fabian added.

The decrease in total trades also shows the continuation of the trend toward institutional investment in the muni market and the industry’s transition away from individual bondholders each having their own accounts and personally directing how their money is spent, he said.

“It’s been a steady move in the industry toward managed money either through separately managed accounts or mutual funds,” Fabian said.

The MSRB data also shows that customer buying activity increased to $6.44 billion in the second quarter of 2016 compared to $5.96 billion in the second quarter of 2015. The average daily number of trades of customer purchases decreased to 14,484 in the second quarter of 2016 compared to 17,009 the year before.

The most actively traded muni by par amount in the second quarter this year was a 2007 tobacco settlement asset-backed bond issued by the Golden State Tobacco Securitization Corp. The MSRB data shows a par amount of $4.7 billion of the bonds with 68 trades during the quarter.

The most actively traded bond by number of trades was a hospital revenue refunding bond from the West Virginia Hospital Finance Authority that had 1,464 trades with a par amount of $123.6 million. The refunding bonds were issued this year.

Variable rate demand obligation rate resets continued a steady decline in this year’s second quarter with only 120,725 recorded. That compares to 135,504 in 2015’s second quarter, about a 12% decrease.

The Bond Buyer

By Jack Casey

August 3, 2016

A volatile stock market over the past year has taken a toll on public pension assets.

Public pension plans are reporting dismal investment returns this year, a development that will likely mean governments will have to pony up more money in the coming years.

So far, no major pension plan has reported a preliminary annual investment return of more than 1.5 percent. That’s thanks to a volatile stock market that’s seen wild swings spurred mainly by political and economic events abroad. Some smaller plans, such as the New Mexico Educational Retirement Board, have reported earnings as high as 2.6 percent. Still for many, this year marked their worst earnings year since the Great Recession.

The slim earnings for fiscal 2016, which ended June 30 for most plans, is well below the average earnings target of about 7.5 percent. It also marks the second year in a row that plans have missed the assumed rate of return: Most reported an investment gain between 2 percent and 4 percent in fiscal 2015.

Plans rely heavily on investment earnings — roughly 80 cents on every dollar paid out to retirees is from investments. When plans don’t meet their earnings target in any given year, it negatively impacts their assets because annual payments from current employees and governments aren’t enough to cover the annual payouts to retirees.

The nation’s largest pension plan, for example, reported a preliminary investment return of 0.6 percent for fiscal 2016. The meager return means that the California Public Employees’ Retirement System (CalPERS) ended the year with $295 billion — about $7 billion less than a year ago.

Meanwhile, pension liabilities aren’t improving and, in some cases, are actually increasing. Public pension plans nationally were nearly 74 percent funded in 2015 with more than $1 trillion in unfunded liabilities. “Clearly this is going to generate some fresh unfunded liabilities,” said Tom Aaron, a senior analyst at Moody’s Investors Service.

Even an investment return of 5 percent for the year would increase plans’ overall liabilities by 10 percent, according to a Moody’s analysis of 56 major public pension plans. “This comes at a time,” Aaron added, “when state and local governments are already dealing with heightened contribution requirements to amortize past unfunded liabilities.”

With two bad years in a row, any pension funding gains made in 2013 and 2014 — when many pensions earned double-digit returns — have essentially been wiped out.

Other plans across the country are reporting similar preliminary results to CalPERS. The California State Teachers’ Retirement System reported a 1.4 percent return, resulting in a decline of $3 billion in assets. New York State’s pension fund, which closed its fiscal year on March 31, reported a 0.2 percent investment return. Its total assets declined by about $5 billion. San Diego County’s $10.2 billion pension fund claimed a 0.5 percent return. And the Oregon Investment Council reports the state’s public employees’ plan has logged a 1.24 percent return for the year.

The main culprit for the poor performance was investment losses in domestic and global equities. Since August of last year, the stock market has swung wildly — twice thanks to bad economic news from China, and more recently due to uncertainty around Britain’s decision to leave the European Union.

Another issue is that pension plans are relying less on more stable but low-yield investments like bonds. Instead, they rely more on potentially higher-yield investments in public and private equities. It hasn’t paid off: The median annual return for public pensions over 20 years is expected to hit about 7.5 percent for the 2016 fiscal year — the lowest point in more than 15 years — according to a recent estimate from the Wilshire Trust Universe Comparison Service.

June and July, however, have been marked by stock market gains. By the time CalPERS released its investment return data in July, assets had crept back up to about $302 billion — roughly where they were a year ago.

Either way, governments will likely have to budget more in the coming years to cover expected shortfalls. The New York state controller recently warned New York City it might have to pony up at least $100 million in additional pension payments starting in 2018 if the city’s fund continues to post low earnings. In Oregon, the state’s pension actuary projected it would have to pay $885 million more in total pension costs next year thanks in part to low earnings but also because it lowered the plan’s assumed rate of return to 7.5 percent.

Many other plans are also taking steps to gradually lower their assumed rate of return, said Cathie Eitelberg, a senior vice president at The Segal Group. While that has the effect of increasing the cost for governments and employees, it reduces the risk the pension plan will miss its investment target. “They’re all very focused on risk management going forward and how they can better manage volatility,” said Eitelberg.

GOVERNING.COM

BY LIZ FARMER | AUGUST 3, 2016

WASHINGTON ­­ Issuance of private activity bonds subject to state volume caps rose for the second consecutive year, according to an annual survey conducted by the Council of Development Finance Agencies.

States and the District of Columbia reported cap­-subject PAB issuance of $12.95 billion in 2015, which was $1.34 billion or 11.54% more than the $11.61 billion issued in 2014. The gain marked the upward trend of PAB issuance to a five­-year high after the market declined for the previous three years.

“This may be a trend that will continue, and a beginning of a revival of the private activity bond market,” CDFA wrote in its report, released Friday. “Increased tax­-exempt bond issuance may be a sign that businesses are investing in more projects, or at least larger projects, than have been initiated in recent years. Certainly a variety of indicators suggest that the economy has been improving, and private activity bond issuance may be another sign of recovery.”

Public entities issue private activity bonds and loan the proceeds to nonprofit organizations or companies to finance projects that serve a public purpose. Most PABs are subject to state volume caps that are determined annually by the Internal Revenue Service based on state population estimates from the U.S. Census Bureau.

In 2015, state volume caps for PAB issuance were the greater of $100 per capita or $301.52 million, according to the IRS. It was a slight rise for low­-population states from the 2014 state volume caps, which were the greater of $100 per capita or $296.83 million.

Bonds subject to volume caps include exempt­-facility bonds, multifamily housing bonds, mortgage revenue bonds, industrial development bonds, student loan bonds and agricultural bonds. PABs not subject to the state volume caps, including 501(c)(3) bonds and veterans’ mortgage revenue bonds, were not included in the CDFA report.

Under IRS guidelines, states may carry forward unused cap for up to three years before it must be abandoned.

In 2015, the 50 states and the D.C. received $34.88 billion of new volume cap allocation and carried forward $54.48 billion from 2012 to 2014. As a result, they could issue a total of $90.04 billion of cap­-subject PABs in 2015, about $2.04 billion less than the prior year.

States abandoned $10.46 billion in unused volume cap allocation in 2015, which was $1.53 billion, or nearly 13% less than the $11.99 billion abandoned the previous year.

The total new cap of $34.88 billion in 2015 represented an increase of $346.52 million, or 1%, from the previous year. However, the new cap plus the carry-forward amounts, which equal total PAB capacity, decreased in 2015 to $90.04 billion, about $2.04 billion or 2.21% from the previous year.

According to the report, issuance of exempt facility bonds, multifamily housing bonds and mortgage revenue bonds rose in 2015, while issuance of industrial development bonds (IDBs) and student loan bonds were down.

The states that reported the most cap­-subject PAB issuance in 2015 were: California with $3.13 billion; New York with $1.78 billion; Massachusetts with $982.1 million; Minnesota with $775.3 million; and Texas with $740.2 million.

CDFA compiles its annual survey based on voluntary data reported by state and D.C. authorities or offices that allocate PABs. Four states – Colorado, North Carolina, Tennessee, Virginia ­­ and D.C. did not report any data for 2015. CDFA said it would continue to seek data from them.

Housing Bonds

Issuance of multifamily housing bonds was $6.61 billion in 2015, an increase of $130.35 million or 2.01% from the $6.48 billion issued in 2014. Issuance of tax­-exempt single­-family mortgage revenue bonds (MRBs) showed the largest percentage increase among PAB categories in 2015, according to CFDA. Issuance of MRBs was $4.57 billion in 2015, an increase of $1.73 billion or 60.74% from $2.84 billion in 2014.

Barbara Thompson, executive director of the National Council of State Housing Agencies (NCSHA), said the increase in housing bonds could mark the start of a turnaround after the bond market “froze” following the financial and housing crisis from 2007 through 2009.

She attributed the increase in part to the 4% low income housing tax credit program, which incentivizes private involvement in providing affordable housing.

“It’s reassuring that it has confirmed what we’ve been hearing from our agency members,” Thompson said. “A lot of discussion took place during our meetings about how we’ve been seeing an uptick in usage of private activity bond cap.”

More housing bonds have been used by state and local governments in recent years, she added.

Multifamily housing bonds are used to finance rental housing for low­-to-­moderate income families. MRBs are used to finance below­-market interest rate mortgages for first­-time qualifying homebuyers.

Garth Rieman, director of Housing Advocacy and Strategic Initiatives for NCSHA, said that multifamily housing bonds have also seen an uptick in issuance because of the recent increased demand for rentals over home ownership.

“This is causing an increase in rent but incomes are not as much, which increases the need for affordable housing,” Rieman said. “As the need grows and demand grows, people turn to multifamily housing bonds. I think all these trends will continue.”

Officials with the National Association of Local Housing Finance Agencies declined to comment on the survey.

Student Loan Bonds/IDBs

Unlike mortgage revenue and multifamily housing bonds, state­-issued student loan bond issuance dropped in 2015 to $688.06 million from $754.26 million 2014. This was a decrease of $66.20 million or 8.78%.

Only eight states reported issuance of student loan PABs during the year: Arizona, Connecticut, Iowa, Massachusetts, Minnesota, New Jersey, Texas and Vermont. Massachusetts, with $200 million, issued the greatest dollar amount of student loan bonds in 2015.

Debra Chromy, president of the Education Finance Council, said that because there have been no Federal Family Education Loan Program (FFELP) loans originated since 2010, there has been a steady decrease in the overall value of state­-issued student loan bonds. However, supplemental student loan bond issues have risen, exceeding $500 million last year, she said.

“In 2014 we saw some of the last big FFELP restructuring bond deals, resulting in a decrease in the dollar volume of bond deals from 2014 to 2015,” Chromy said. “Concerns by rating agencies of the impact of FFELP loans in forbearance and with income contingent repayment plans basically put a stop to any FFELP bond deals for the second half of 2015.”

Issuance of IDBs also fell in 2015: states issued $244.25 million last year compared to $269.50 million in 2014, a drop of $25.25 million or 9.37%. This marked the second straight year of decline of IDBs, which are used to provide financing to small manufacturers.

A total of 14 states reported IDB issuances in 2015, eight less than in 2014. Wisconsin, at $43.0 million, had the largest IDB issuance, followed by California at $35.9 million and Massachusetts at $27.6 million.

In its report, CDFA officials said anecdotal reports at the start of 2015 suggested a rebound in IDB issuance, but the end­-of-­year figures proved otherwise.

Bolstering Issuance

CDFA, which represents IDB issuers and borrowers, suggested methods to increase PAB issuance going forward, including standardizing issuing documents or establishing a PAB bank program, which it said could reduce issuance costs for borrowers. The group also called for better marketing of bond programs to increase accessibility to borrowers as well as new programs to increase facilitate PAB issuance while collateral values remain low and credit enhancement is difficult to attain.

CDFA urged Congress to bolster specific categories of PABs, including suggesting basic modifications that it said could “significantly improve” the use of these bonds and provide cost-effective capital to fund public purpose projects.

Leveraging additional funds would allow authorities to establish their own credit enhancement program, the group added.

The group was instrumental in getting Rep. Randy Hultgren, R­Ill., to propose a reform package for IDBs. The Modernizing American Manufacturing Bonds Act (H.R, 2890), which Hultgren introduced in June 2015, would increase the IDB issuance limit to $30 million from $10 million and would allow small­-to­-mid­-sized manufacturers access to low­-cost capital to grow and create jobs.

CDFA said one its goals is to work toward getting this legislation passed this year.

“To the extent that state and municipal authorities are interested in being proactive about private activity bond issuance, such options should be pursued,” CDFA officials wrote in their report.

The Bond Buyer

By Evan Fallor

August 5, 2016

DALLAS ­­ Maryland’s proposed Purple Line P3 transit project could be in jeopardy after a federal judge ordered a delay until state and federal transportation agencies revise their ridership estimates for the $5.6 billion project.

Judge Richard Leon of the U.S. District Court for the District of Columbia voided the state and federal approvals of the environmental impact statements for the rail project, halting it until a supplemental statement can be prepared and accepted.

Leon’s decision will be appealed, said Maryland Transportation Secretary Pete Rahn.

“We are deeply disappointed that this puts the Purple Line in jeopardy,” Rahn said. “We will work closely with the attorney general to seek a quick decision from the court of appeals.”

Maryland Attorney General Brian Frosh said in a court filing in late June that the six­-month delay sought by the plaintiffs “would be profoundly disruptive and could jeopardize” the Purple Line project. The delay “could have cascading consequences on the project schedule and financing arrangements,” Frosh said in a supplemental memorandum filed June 29.

Linda S. DeVuono, an attorney for the Maryland Transit Administration, said during a hearing that the proposed delay could halt the project entirely.

“I do know a six­month stop of work would allow investors to pull out,” she said.

Leon’s ruling is the result of a lawsuit filed in 2014 by Friends of the Capital Crescent Trail seeking to stop the Purple Line on environmental grounds.

The plaintiffs asked in June for a six­-month delay to allow a review of their contentions that ridership on the system would be lowered by the recent maintenance woes and safety surge project of the Washington Metropolitan Area Rapid Transit’s Metrorail system.

Leon cited the threat to ridership of Metrorail’s extensive safety and maintenance efforts that require frequent shutdowns and delays as the main cause for ordering further reviews of the Purple Line.

The Maryland Transit Administration and the Federal Transit Administration were “arbitrary and capricious” in not evaluating the long­term ridership projections for the project’s environmental impact statement after the WMATA woes became apparent, he said.

“Defendants wholly failed to evaluate the significance of the documented safety issues and decline in WMATA ridership, skirting the issue entirely on the basis that the Purple Line is not part of WMATA,” Leon said. “Nor can I turn a blind eye to the recent extraordinary events involving seemingly endless Metrorail breakdowns and safety issues.”

Ridership on the Purple Line had been projected to average 58,000 trips per day in the first few years of operation, rising to 70,000 riders per day by 2040, but Leon said those estimates now look too rosy.

“At a minimum, WMATA and FTA’s cavalier attitude toward these recent developments raises troubling concerns about their competence of stewards of nearly a billion dollars of the federal taxpayers’ funds,” he said.

Maryland officials had scheduled a signing ceremony on Monday to celebrate a Full Funding Grant Agreement with the FTA for a $900 million construction grant for the Purple Line but that will be delayed.

The construction financing also includes $313 million of private activity bonds issued in June by the Maryland Economic Development Corp. and an $873 million federal low­-interest loan under the Transportation Infrastructure Finance and Innovation Act. Both received a BBB­-plus from Fitch Ratings and S&P Global Ratings.

Maryland signed a contract in April with Purple Line Transit Partners, an international consortium of Fluor Enterprises, Meridiam Infrastructure Purple Line, and Star America Fund, to finance, build, and operate the Purple Line and operate it for 30 years with annual availability payments.

The 16.2­-mile rail line across the Maryland suburbs of Washington would connect New Carrollton in Prince George’s County with Bethesda in Montgomery County.

The Bond Buyer

By Jim Watts

August 4, 2016

Municipal money market funds are hemorrhaging cash in advance of rules aimed at reducing the risk of runs on the pools.

Assets have plunged $64 billion since the beginning of the year to the lowest levels since 1999 as investors pulled money from tax-exempt funds in 25 of the last 30 weeks and shifted into ones that buy only government debt. These government-only funds are exempt from Securities and Exchange Commission rules effective in October that require floating net-asset values and impose liquidity fees and redemption suspensions under certain conditions.

The new regulations are adding more pain to funds that have been plagued by seven years of the Federal Reserve’s zero interest-rate policy.

“They’re in danger of going extinct, especially if you don’t get a rate hike anytime in the next couple of years,” said Peter Crane, president of Westborough, Massachusetts-based Crane Data LLC. “Municipal money market funds lobbied hard to get an exemption from the SEC’s rules, but the SEC threw them under the bus.”

Ryan White, a spokesman for the SEC, declined to comment.

In 2014, the SEC adopted new money-market rules after a four-year debate between the fund industry and regulators. The rules were aimed at preventing a repeat of the run on one money fund during the 2008 credit crisis. The $62.5 billion taxable Reserve Primary fund “broke the buck” because of losses on Lehman Brothers Holdings Inc. debt it held. The fund’s move to reprice shares below $1 sowed panic among investors, who pulled $310 billion from money funds in a single week, helping freeze credit markets.

Under SEC rules taking effect Oct. 14, municipal-money funds whose investors are institutions, including municipalities such as Los Angeles, must abandon their $1 per-share value and allow their prices to float. Retail tax-exempt funds can keep a stable $1 per-share fixed price.

In addition, both institutional and retail funds may impose liquidity fees and suspend redemptions if weekly liquid assets fall below 30 percent of total assets. If weekly liquidity falls below 10 percent, money market funds must impose a 1 percent liquidity fee, unless the board decides it’s not in the fund’s best interest.

The changes don’t apply to Treasury and government-only funds.

Liquidity Situation

The rules shocked muni money fund managers. The historical average for seven-day liquidity has been between 70 percent and 80 percent for decades, said Mary Jo Ochson, who oversees $14.7 billion in tax-exempt money funds at Pittsburgh-based Federated Investors Inc. The funds, which invest in highly rated short-term debt, remained liquid during the financial crisis, she said.

“You don’t have a liquidity situation in these funds, they’re extremely high quality,” Ochson said. In the financial crisis “they did exactly what a cash vehicle should do, but are being hit very hard.”

The SEC said tax-exempt money market funds have greater credit and liquidity risks than government funds.
Municipal money market funds managed $179.4 billion as of July 27, a 26 percent decline since the beginning of the year, according to Lipper U.S. Fund Flows data. In 2008 they had more than $500 billion.

Colleen Meehan, who manages about $6 billion of muni money market funds at Dreyfus Corp., said investors are balking at the prospect of liquidity fees and redemption gates. In June, UBS Asset Management said it would transfer money in its tax-exempt sweep funds to a government money fund.

Rate Environment

“It’s a lot easier for people to just move out of these other products into government-only funds until they address what their concerns are” from both a compliance and systems standpoint, Meehan said.
The Fed’s zero-interest rate policy hasn’t helped.

Between Oct. 21, 2015, and March 2, 2016, the yield on short-term municipal bonds was 0.01 percent. The average yield over the past seven years is 0.15 percent.

“Tax exemptions don’t help you if there’s no income to tax,” said Crane.

In March, yields shot to 0.40 percentage points as investors sold shares to pay income tax bills, and new money didn’t flow back. It currently stands at 0.44 percentage points, the highest in more than seven years and 90 percent of 1-month Libor, the taxable-rate.

As a result, it costs more for states, cities, hospitals and other non-profits to borrow in the short-term market.

While fund outflows in the first quarter could be attributed to the rate environment, the money investors pulled since March has been a result of coming money market changes, said Ochson.

“We’re cheap as can be now,” she said. “Rates are attractive, liquidity is high, the funds couldn’t look any better if you tried, however you have money market regulations that have certain features that clients don’t like.”

Tax-exempt money funds won’t go the way of the dodo, an extinct flightless bird native to the island of Mauritius, but the industry will be much smaller, both Ochson and Meehan said. It will take time for investors to get more comfortable with floating net asset values and realize the probability that the funds having weekly liquid assets fall below 30 percent is very small.

“We’re going to be attractive to similar taxable products,” said Meehan. “And maybe someday we’ll be in a normal rate environment when it will really make sense.”

Bloomberg Business

by Martin Z Braun

August 3, 2016 — 2:00 AM PDT Updated on August 3, 2016 — 7:18 AM PDT

State and local issuers are resorting to betting on the future direction of interest rates to lure municipal-bond investors balking at tax-exempt yields not far from record lows.

When Aurora, Colorado, sold $437 million of water debt last month, its longest bond came with four different interest coupons — and four different yields, one of which exceeded the market level on similar securities that day. That means the city will pay four different interest rates on the debt issued for 30 years.

“What we’re hearing from our investment bankers is that with rates so low, some investors are starting to balk,” said Mike Shannon, who oversees Aurora’s debt and investments. “We were willing to meet the needs of the investors to get these bonds sold, but if you look out at the long end, it gets pretty pricey.”

Though it may be the best time in a generation to refinance, it doesn’t come without costs. In some cases, despite a perceived shortage of munis, market rates are so low investors don’t want bonds, forcing issuers to increase yields that can add millions of dollars in debt service. In a recent report, Samuel A. Ramirez & Co. advised investors they could earn more with split coupons, where lower coupons yield more than higher coupons.

‘‘It’s like a hidden yield,” said Joy Howard, a financial adviser in St. Louis. “It’s great for the investor, but terrible for the issuer.”

The flat yield curve gives investors less incentive to buy bigger coupons because they don’t get enough compensation for extra risk. Since the first of the year, the slope — or spread between yields of short and long maturities — has flattened from 214 basis points to as little as 164 basis points, or half a percentage point, the lowest since early 2008. In early 2014, it was nearly four percentage points.

With interest rates about as low as they can go, investors realize they may wind up holding longer bonds to maturity after rates increase. Bill Gross, who built Pacific Investment Management Co. into the world’s largest manager of bond funds and is now at Janus Capital Group Inc., warned this week that any reversal of the rally could be painful.

“You’re not getting paid to go out long,” said Peter Block, managing director of credit strategy with Ramirez. “Why buy a 30-year bond when you can get paid nearly as much for a 12-year bond?”

The higher price for bonds with larger coupons is driving out individual investors, making it harder to sell some securities, Matt Posner, principal with the Court Street Group, a New York research firm, said in a report last month. New York’s Metropolitan Transportation Authority split coupons in July.

“We’re seeing municipal-bond yields lower then they’ve ever been before, so most issuers are locking in to take advantage,” Posner said in an interview. “If they need to split some coupons and spend more, they’re willing to do that.”

Patrick McCoy, the authority’s finance director, said the agency adjusts coupons in response to market conditions to get the lowest cost.

“We are seeing investors articulate frustration with the lower absolute yields,” said McCoy.

In February, the Los Angles Unified School District split its 2040 maturity into two coupons, with one paying 4 percent and the other 5 percent, when it borrowed about $1.2 billion. The bond with the 4 percent coupon yielded 3.25 percent, more than a third of percentage point more than the higher-coupon security.

Splitting the coupons “was an effective technique that the district took advantage of to maximize” demand, district spokesman Gayle Pollard-Terry said in an e-mail. That let the district cut costs that would have come with only a single coupon. The actual yield that will be paid will depend on how long bonds are outstanding and whether they’re refinanced.

“A bond with a higher coupon is more likely to be called than a bond with a lower coupon,” the district said. “The reverse is true for a lower-coupon bond.”

Aurora will monitor rates as its bonds mature and refinance the more expensive ones first, said Shannon. The cost of some of its bonds will rise after the 10-year call date, while the cost of others will fall. He said the unusual structure with four coupons, including one that steps up over time, was dictated by banks led by Morgan Stanley in handling the debt sale, who he said told him four coupons were necessary to sell the bonds. Morgan Stanley declined to comment through spokesman Mark Lake.

One coupon increases in steps from 2 percent in early years to 5 percent by the end of its 30-year term. One investor was willing to buy big chunks of the bonds in two maturities if the coupons were lowered. The 2.95 percent yield on the 3 percent bond maturating in 2046 was more than half a percent more than the yield on the 5 percent coupon.

“We had to increase the rates to bring in the investor,” said Shannon. “But we think we will be able to take advantage of this structure and pay some of it off early. The question is whether the bond is going to stay out 10 years, 20 years or 30 years?”

Bloomberg Business

by Darrell Preston

August 4, 2016 — 2:00 AM PDT Updated on August 4, 2016 — 7:31 AM PDT

Lawyer Joel Liberson is leading the charge in Miami’s lawsuit against Bank of America and Wells Fargo, blaming them for the city’s economic troubles

Joel Liberson’s mortgage lawsuits against Bank of America Corp. and Wells Fargo & Co. follow a now-familiar template: accuse big banks of targeting minority borrowers with unfair loans that fed a housing crisis.

What is unusual is his client. Mr. Liberson, a 52-year-old lawyer who has devoted much of his career to defending apartment dwellers from eviction, is suing on behalf of the city of Miami. In the lawsuits, Miami blames the banks for widespread declines in property values and tax revenue, and increased expenses for police, fire and other services, due to the burdens of mass foreclosures.

The banks, which already shelled out tens of billions of dollars for mortgage-related settlements with federal and state governments since the financial crisis, have challenged whether the city has the right to sue. The Supreme Court in June agreed to take up the question and is likely to hear oral arguments in the fall and will decide by July 2017.

The court’s decision potentially could reshape the breadth and use of the Fair Housing Act, a landmark civil-rights statute that forbids discrimination in real-estate lending, rental property and other areas of the housing industry.

The banks said Miami is stretching the bounds of a law meant to integrate neighborhoods, not fill tax coffers. They also dispute that Miami has proved its economic woes are a direct result of the banks’ actions.

In a legal filing, Wells Fargo said its lending practices “did not cause the City’s financial difficulties any more than they caused the City to thrive in the years leading up to the financial crisis.” Bank of America expressed a similar sentiment in its filings.

The banks believe a Supreme Court decision siding with Miami will leave them vulnerable to a torrent of mortgage litigation from anyone who said they were harmed by the housing bubble. Lobbyists warn that banks might curtail lending in urban neighborhoods because of the legal risk.

The city and its attorney disagree. The Supreme Court has traditionally been lenient in interpreting the Fair Housing Act, according to academics who study the issue. Last year, for example, it ruled such lawsuits can be brought without proof of intentional bias.

In Mr. Liberson’s view, a ruling in the banks’ favor would limit an important weapon borrowers have wielded in housing lawsuits for decades, leaving them more vulnerable to questionable loans.

“What happens to a city when houses go vacant?” Mr. Liberson said. “Everybody suffers.”

Mr. Liberson has spent the past several years encouraging cash-strapped cities to sue the banks under the Fair Housing Act. He has enlisted help from bigger plaintiffs’ firms and big-name legal talent, including Erwin Chemerinsky, dean of the law school at the University of California, Irvine, and author of a popular textbook on constitutional law. But Mr. Liberson often works alone, hunched over a smudged Lenovo ThinkPad laptop at coffee shops and public libraries, manning the firm he named Trial & Appellate Resources.

Mr. Liberson, who lives in New York, is overseeing similar lawsuits on behalf of Los Angeles, Oakland, Calif., and Miami Gardens, Fla.

A ruling in Miami’s favor could recharge those suits, which are pending. It could do the same for similar lawsuits by Atlanta-area counties and Cook County in Illinois, both spearheaded by a small firm in Georgia. Some municipal officials believe their cities could be in line for tens of millions of dollars or more, with a cut for Mr. Liberson, if they eventually win. A ruling against Mr. Liberson could cripple those claims.

“If the Supreme Court finds standing for the city, then you’ll see a lot more of these lawsuits,” said George Rutherglen, a professor at the University of Virginia School of Law. “And if not, then the court is retrenching on a very broad approach to litigation under the Fair Housing Act.”

The legal process has taken longer than Mr. Liberson expected, but he said the strategy has worked before. Wells Fargo in 2012 resolved charges of race-based housing discrimination brought by the city of Baltimore. That agreement was wrapped into a larger settlement by the Justice Department.

It was while that case was pending that Mr. Liberson started approaching other cities to see if they were interested in doing the same. The sooner you file, the sooner you can get your money, he told them, with reassurances that the banks tended to settle such lawsuits and resolve them quickly.

Francis Suarez, a Miami city commissioner, remembers when Mr. Liberson came to him around early 2013 with an offer to work on a contingency basis. “It was kind of a no-brainer,” Mr. Suarez said. “We have the opportunity to vindicate the city for its residents, and we don’t have to front the money.”

Mr. Liberson declined to say how the cases were being financed.

Miami also is suing Citigroup Inc. and J.P. Morgan Chase & Co., although those cases aren’t before the Supreme Court. Citigroup and J.P. Morgan have denied Miami’s accusations.

Mr. Suarez, a real-estate lawyer who is running for mayor, said that if the lawsuits are successful, he would like to use the money to pay for police, fire, park and library services, and affordable housing, among others.

Even if Miami wins in the Supreme Court, a payout isn’t guaranteed. The banks have previously argued they didn’t make racially discriminatory loans, and that the statute of limitations for filing such claims has expired. Those arguments likely would come up again in district court.

And banks are fighting back more against housing-crisis cases. Bank of America recently won an appeal to overturn Justice Department accusations and a jury finding of mortgage-securities fraud.

THE WALL STREET JOURNAL

By CHRISTINA REXRODE

Aug. 2, 2016 5:25 p.m. ET

Write to Christina Rexrode at christina.rexrode@wsj.com

July 2016 — GASB Project Manager Jialan Su talks about the certain asset retirement obligations project, what the Board heard during due process, and what’s coming up.

Watch the video.

NEW YORK/CHICAGO — Record low interest rates so far have failed to spur a wave of new borrowing in the $3.7 trillion U.S. municipal debt market, with one exception: its weakest borrowers are seizing the opportunity to prop up their finances at costs they can afford.

As of July 19 total municipal debt issuance this year fell 1.6 percent to $227 billion from the same period last year. However, new borrowing rather than refinancing of existing debt is up 12.5 percent at $88.8 billion, with lower-rated debt rising the most, according to Thomson Reuters data.

An analysis of the data shows the total amount of municipal junk bonds rated by S&P Global Ratings at BB-plus or below issued this year rose 170 percent to $1.2 billion over the same period in 2015. (Graphic: http://tmsnrt.rs/29Zs6oO)

Many higher-rated issuers are using the rock-bottom rates to refinance old debt, but have been slow in boosting borrowing for new projects because of a lengthy approval process and many communities’ reluctance to take on new burdens.

Those that struggle financially face similar problems, but some simply need to borrow to keep going and many are able to issue revenue bonds, which do not require voter approval.

Some cash-strapped areas, including Illinois and low-rated Chicago, can also issue bonds for new spending without taxpayer approval at the ballot box.

Some struggling cities, states or individual projects “have to borrow to keep going,” said Matt Posner, principal of public finance research firm Court Street Group.

With muni bond rates at record lows, junk and low investment-grade rated issuers are trying to exploit what could be a rare window of opportunity before any market reversal makes borrowing costs prohibitive again.

“Issuers with lower ratings are taking advantage of the very tight spreads and nearly insatiable demand for any paper that has any hint of additional yield,” said James Dearborn, head of muni investing at Columbia Threadneedle.

One example is California’s Loma Linda University Medical Center, which planned to double its outstanding debt to pay for renovations to meet state seismic safety requirements.

In September 2015, Fitch Ratings cut the center’s rating to junk at BB-plus, and by April it sold $948 million of debt. The biggest tranche maturing in 2056, carried a 5.25 percent coupon and sold at a premium to yield 4.70 percent. Today those bonds trade much higher, driving the yield down to 3.24 percent.

Similarly, in February, Chicago’s Board of Education sold bonds rated B-plus for capital improvements and refinancing. The 7 percent, 28-year bonds were sold at a big discount but have since risen above par value.

More borrowing is under consideration, district CEO Forrest Claypool said.

Public-private projects – including an upgrade of New York’s LaGuardia Airport – have also contributed to the uptick, Posner said. Many such projects contain a municipal bond portion rated in the triple-B range, the lowest-investment category, which also grew as rated by Moody’s Investors Service, the data show.

Lower-rated borrowers are also refinancing old debt faster than investment-grade issuers.

The value of junk-rated refunding bonds grew 248 percent to $1.9 billion, Thomson Reuters data show, while the total slipped 9 percent to $138 billion.

More deals are in the works. In the junk category, Detroit will issue about $615.5 million of refunding bonds in the next couple of weeks to save an estimated $37 million in its first general obligation offering since exiting the largest ever U.S. municipal bankruptcy in December 2014.

Chicago, downgraded to “junk” last year by Moody’s, plans to sell up to $1.25 billion of general obligation bonds this quarter. Illinois, the lowest rated U.S. state, could refund up to $2 billion of bonds.

By REUTERS

JULY 26, 2016, 1:24 A.M. E.D.T.

(Reporting by Hilary Russ in New York and Karen Pierog in Chicago; Additional reporting by Robin Respaut in San Francisco; Editing by Daniel Bases and Tomasz Janowski)

Fitch Ratings-New York-25 July 2016: Increased rating activity is possible for stand-alone U.S. ports over the next 12 months, according to Fitch Ratings in its latest U.S. Ports Peer Review.

During the past 12 months, Fitch revised Outlooks on three ports among the 16 it rated publicly during the period. Ratings adjustments may follow during the next review cycle as Fitch considers resolution for these credits with either a Positive or Negative Rating Outlook. That said, Fitch maintains Stable Outlooks on roughly 75% of its port sector and does not envision movement of any great magnitude in the coming months. Credit risk is still relatively low among U.S. ports thanks in part to their cash flow resiliency amid volume fluctuations during economic downturns. As such, ratings for most ports continue to fall in the ‘A’ rating category.

Since its last U.S. Ports Peer Review, Fitch revised the Rating Outlook for the Alabama State Port Authority to Negative from Stable; the North Carolina State Ports Authority to Positive from Stable; and the Port of Palm Beach to Positive from Stable. Fitch also maintained the Positive Outlook on the Hillsborough County Port District.

Ports with the highest Fitch ratings are typically those with a strong underlying market or franchise driving demand, overall stability of cash flow through contractual agreements, or tariff policy and healthy financial metrics. Conversely, Fitch’s weakest rated ports include those serving weaker markets with competition for cargo, less contractual protection for revenues or thinner financial metrics.

Fitch’s latest ‘Peer Review of U.S. Ports’ is available at ‘www.fitchratings.com’

Contact:

Emma Griffith
Director
+1-212-908-9124
Fitch Ratings, Inc., 33 Whitehall Street, New York, NY, 10004

Seth Lehman
Senior Director
+1-212-908-0755

Stacey Mawson
Director
+1-212-908-0678

Media Relations: Sandro Scenga, New York, Tel: +1 212-908-0278, Email: sandro.scenga@fitchratings.com.

Additional information is available at ‘www.fitchratings.com’.

New York, July 25, 2016 — The ability of US state and local governments to absorb adverse market performance by their pension funds has been constrained by rising costs associated with past unfunded liabilities, Moody’s Investors Service says. At the same time, high return seeking by public pension funds increases risk of investment losses in any given year.

Over the long term, most public pension portfolios are designed to attain annual returns over 7% to offset rising employee retirement costs. To achieve these targets, state and local government pension funds must invest in potentially volatile assets. For example, public pension funds generally allocate close to 50% of assets to public equities, although allocations can vary substantially by plan.

“US public pension assets declined in six separate years from 2000-2015, and even governments with comparatively well-funded pensions can face budget risk if returns do not match expectations” Thomas Aaron, a Moody’s Vice President — Senior Analyst says in “State and Local Governments — US: Even Comparatively Well-Funded Public Pensions Carry Risk of Volatile Investments.”

Moody’s says this was illustrated when the largest US public pension fund, the California Public Employees’ Retirement System (CalPERS, Aa2 stable), experienced investment losses in four separate fiscal years from 2000 to 2015, with a 24% loss in 2009 representing its most dramatic single-year drop.

“Exposure to pension investment volatility is a credit risk because governments must be able to withstand the downside when short-term asset risk materializes, while still delivering public services and repaying debt. Government budgets are already under increasing strain because of the unfunded liabilities that have materialized over roughly the last 15 years,” Aaron says.

While governments can shift pension asset allocations to lower investment risk, this translates to higher government pension contribution requirements, because discount rates are linked to assumed asset performance. It also translates to higher reported liabilities under GASB rules. CalPERS notably opted to begin de-risking its pension portfolio last year, but at a very gradual rate in order to avoid cost spikes.

The report is available to Moody’s subscribers at

https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBM_1028742.

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The municipal-bond market’s one-year winning streak is taking a breather.

State and local-government debt has lost 0.25 percent in July, headed for the first monthly decline since June 2015, Bank of America Merrill Lynch data show. The drop marks a pullback after the securities rallied in June by the most in 17 months as investors rushed into the safest assets amid concern about the impacts of the U.K.’s vote to exit the European Union.

“It’s just a give back from Brexit,” said Adam Buchanan, senior vice president of sales and trading at Ziegler, a broker-dealer in Chicago. “The reason the month is down is because Brexit drove the market artificially high for a short period of time.”

 

The bull run in tax-exempt securities had sent prices to record highs as investors plowed money into municipal mutual funds, with the Federal Reserve holding off on raising interest rates since the quarter-point increase in December. While state and local debt returns are still up 4.2 percent this year, on track for the third straight annual gain, some investors are locking in profits, speculating future returns may be muted.

Municipal yields, which move in the opposite direction as price, climbed to the highest in more than a month this week. By the start of this week, benchmark 10-year yields were 1.48 percent, the highest since June 23, according to data compiled by Bloomberg. The yield for the Bond Buyer 20 Index last week edged up to 2.87 percent after slipping to as little as 2.8 percent earlier this month, the lowest since at least 1961.

A retreat is normal after this “stellar” run, said Phil Fischer, the head of municipal research at Bank of America Merrill Lynch.

“This is not Armageddon,” Fischer said. “It’s not a bad idea for people to pause and take a look at their portfolios.”

With borrowing costs low, state and local governments have increased sales of debt before the Fed boosts rates again. The increase in the supply of new securities has been a drag on the market during the second half of July, said Dan Solender, head of municipals at in Jersey City, New Jersey for Lord Abbett & Co., which manages $20 billion of the debt.

U.S. policy makers left rates unchanged during Wednesday’s Fed meeting while noting that the risks to the economy have subsided. Investors project a 26 percent chance that policy makers will hike rates at the next meeting in September, according to pricing interest-rate futures markets.

There are about $12 billion of bond sales scheduled over the next 30 days, the most in three weeks, according to data compiled by Bloomberg. The actual amount might be higher as some deals are made public only days ahead of time.

Still, there’s been plenty of cash flooding into the market. Investors have added money to municipal-bond mutual funds for 42 straight weeks, according to Lipper US Fund Flows data. Inflows reached $1 billion in the week ended July 20, following $1.22 billion the previous week.

“Our demand is so strong, and we still have some good relative value versus other markets,” said Solender. “For now, that’s definitely still drawing interest to our market.”

Bloomberg Business

by Elizabeth Campbell

July 27, 2016 — 2:00 AM PDT Updated on July 27, 2016 — 11:41 AM PDT

The nation’s mayors and governors are hoping the next president will do what even record-low interest rates haven’t: jumpstart investment in America’s roads, water works and mass-transit systems.

On the sidelines of the Democratic National Convention in Philadelphia, where Hillary Clinton Thursday night accepted the party’s nomination, state and local government officials said they need more federal support to finance work on infrastructure. Even with borrowing costs in the municipal-bond market holding near the lowest ever, governments squeezed by the recession have been leery of running up debt or persuading voters to support tax increases necessary to pay it back.

“We need to sell the American people on the value of investing in infrastructure,” Terry O’Sullivan, general president of the Laborers’ International Union of North America, said. He spoke at a meeting sponsored by Bloomberg Politics and Building America’s Future, a coalition of elected officials that’s co-chaired by Michael Bloomberg, founder and majority owner of Bloomberg LP, the parent company of Bloomberg News.

U.S. spending is projected to fall about $1.4 trillion short of the $3.3 trillion needed through 2025 for airports, highways and other infrastructure, according to the American Society of Civil Engineers. While President Barack Obama spurred spending on public works by helping cover the interest on about $188 billion of state and local debt, the program lapsed in 2010. Democrats have been unable to revive it because of Republican opposition in Congress.

Both presidential candidates have said the country needs to do more. Clinton pledged to spend $275 billion over five years and set up a national infrastructure bank to help fund large-scale projects, a proposal Obama advanced only to see it stall for lack of Republican support. Donald Trump, the Republican nominee, in his July 21 acceptance speech said “our roads and bridges are falling apart,” though he’s offered few details for how he’d fix them.

New York Mayor Bill de Blasio, a Democrat, said “there’s a chance to get at least a core few things on the first run of the agenda” that would boost federal involvement in local public works. He said both parties find “tremendous commonality” over the issue.

The slide in interest rates has prodded state and local governments to increase their borrowing, though the pace of bond sales remains below the peak reached in 2010 and most are being issued to refinance higher-cost debt. There have been about $97.5 billion of municipal bonds issued this year for new projects, up from $87 billion in the same period a year earlier, according to Bank of America Merrill Lynch.

The municipal bond market has the capacity to finance far more, said Sean McCarthy, co-founder of Build America Mutual, which insures local-government debt, during a panel discussion in Philadelphia. Investors have added money to municipal-bond mutual funds for nearly a full straight year, according to Lipper US Fund Flows data, with $783 million coming in during the week ended July 27.

“Capital is waiting to be put to work on those new projects,” said McCarthy.

Some of the needed investment has been delayed because of the economic and political pressure to cut spending, which governments nationwide have faced since the onset of the recession. While the economy began growing again in June 2009, states and cities continued to be dogged by budget shortfalls for years because of the toll it took on their tax revenue. When governors released spending plans this year, 15 proposed cutting taxes while 13 sought to increase them, according to the National Association of State Budget Officers.

“There is a distrust that the government’s not going to do a good job spending money, particularly with roads and bridges,” said Rhode Island Governor Gina Raimondo, a Democrat who successfully pushed through a $1.1 billion infrastructure plan after taking office last year. “They see what they think of as waste– projects taking too long, projects being done inefficiently.”

Bloomberg Business

by Romy Varghese

July 29, 2016 — 2:00 AM PDT Updated on July 29, 2016 — 8:14 AM PDT

PHILADELPHIA ​— After the presidential election, the United States may see a “golden moment” to push for increased federal and state spending to fix America’s crumbling infrastructure, according to Democratic mayors speaking a policy meeting at Philadelphia on Tuesday.

The briefing, sponsored by the National League of Cities and Build America Mutual, was held at City Hall in the shadow of the Democratic National Convention.

Former Pennsylvania Gov. and Philadelphia Mayor Ed Rendell, New York City Mayor Bill DeBlasio, Atlanta Mayor Kasim Reed, Tampa Mayor Bob Buckhorn, and Pittsburgh Mayor Bill Peduto all talked about the importance of renewed and increased infrastructure spending and the benefits it holds for both the economy and for the American people.

Also on a panel discussion were Franklin Templeton’s Sheila Amoroso and New York City Transportation Commissioner Polly Trottenberg. The group also heard from NLC President Melodee Colbert Kean, NLC CEO Clarence Anthony and BAM CEO Sean McCarthy.

McCarthy laid out the scope of the problem, saying that the American Society of Civil Engineers recently estimated that there is a $1.4 trillion gap between the nation’s infrastructure funding needs over the next 10 years and the current resources being made available to pay for them.

But he was optimistic that this will change.

“Don’t let the scale of the numbers that we are talking about scare you,” he said, “This is a problem that can be solved.”

Rendell said that “we need to start spending money soon,” recommending a plan of $2 trillion over 10 years, which includes state, federal and private funds. “We can do this,” he said, adding that the best method for financing infrastructure was through the sale of municipal bonds.

Rendell also touted Build America Bonds, saying the BABs program created by the federal government as part of the fiscal stimulus package during the Great Recession was “very successful.”

De Blasio stressed the urgency of moving forward in 2017, during the first year of a new presidential administration and a new Congress.

“I think we have an extraordinary opportunity ahead of us,” he said. “I can say there’s a combination of factors that could come into play that might be a ‘golden moment’ for a new level of infrastructure development. There are outcomes that could open the door for a reconsideration of a federal role in infrastructure.”

De Blasio said there’s a chance to get at least a core few things on the federal agenda that might be acted upon during this “golden moment.”

Mayors of both parties are banding together to push the message to state and federal officials that the nation must greatly increase its infrastructure spending or it won’t be able to compete economically, de Blasio added.

“What we need we need right now is will and ability,” Reed said. “You need the political will to decide that we really aren’t going to wait on the federal conversation, we are going to do both at the same time. And I think that you need the ability because we’re going to need a partnership between the public and private sector.”

Reed said the federal government has “an amazing role to play, but we need to be more focused, from our own standpoint, on these public-private partnerships.”

Buckhorn said “infrastructure matters” and that the United States will be economically weaker if it doesn’t invest in fixing and maintaining its roads and bridges, sewers, tunnels, ports and airports. He said infrastructure means employment, citing the Port of Tampa, which directly or indirectly supports 80,000 jobs.

Peduto said the changing nature of technology was an important component in infrastructure planning. Advances such as the rise of driverless cars, will change infrastructure needs of cities in the future.

Amoroso said that “infrastructure financing in the United States is vitally important.”

She said that “two thirds of the infrastructure in the United States is built using municipal bonds and it is a market that is heavily retail driven, that is unlike any another market where they’re primarily institutional investors.”

She also stressed importance of Congress preserving the tax-exemption for municipal bonds for these investors. She described the tax-exemption as a circle of life, which “encourages individuals to invest in their communities where they earn a return that helps keep financings costs low. So it’s a win-win situation for the state and local governments.”

The Bond Buyer

By Chip Barnett

July 27, 2016

After two months of increased year-over-year volume, long-term municipal bond issuance plunged 27% in July.

Total monthly volume shrank to $26.07 billion in 880 transactions from $35.62 billion in 1,091 transactions in July of last year, according to data from Thomson Reuters. It was the lowest total for the month of July since 2011, when it was $24.91 billion.

Refundings, which have been strong for the majority of the year due to persistent low interest rates, declined 27.7% to $9.39 billion in 324 deals from $12.99 billion in 395 deals.

“Issuance was down almost across the board, and I think it would be incorrect to extrapolate a trend using just one month’s data,” said Vikram Rai, CFA and head of municipal strategy at Citi. “It is true that typically issuance in July can be down anywhere from 5% to 15% versus the monthly average for the year, though this is not always true.

“This time around I think issuers, like most of us, were distracted by the extreme market volatility following the Brexit event and were leery of coming to market when yields were whip-sawing,” Rai said, referring to the financial market’s reaction to Great Britain’s June 23 vote to leave the European Union.

New-money deals fell 17.4% in July to $12.38 billion in 504 deals from $14.98 billion in 586 deals during the same period last year.

“There was the timing of the fourth of July that had some impact but the main issue is that issuers continue to be not aggressive with the market despite low yields, as they did not want to take on additional debt,” said Dan Heckman, senior fixed income strategist at U.S. Bank Wealth Management. “The reality is that we are still reminiscent of the finical crisis, and for tax payers and municipalities, it still continues to be difficult environment. There is also lack of infrastructure spending, and it continues to be difficult in general for new issues to gain a lot of traction.”

Heckman also cited summer doldrums and a slowdown ahead of a presidential election as reasons for the reduced muni volume.

“I think going forward we will see more and more refundings and I am hopefully that by the end of 2016, beginning of 2017, you will see issuers getting more aggressive in terms of taking on new debt,” he said. “We thought this month would be light, but it took us by surprise just how light it was.”

Combined new-money and refunding issuance dropped by 43.8% in to $4.29 billion from $7.64 billion.

Issuance of revenue bonds decreased 23.1% to $16.87 billion, while general obligation bond sales dropped 32.7% to $9.20 billion.

Negotiated deals were lower by 30.1% to $19.04 billion, while competitive sales increased by 6.2% to $6.81 billion.

Taxable bond volume was 52.3% lower at $1.51 billion, while tax-exempt issuance declined by 23.8% to $24.02 billion.

Minimum tax bonds issuance slipped to $544 million from $948 million.

Private placements sank to $227 million from $1.96 billion.

Zero coupon bonds increased to $118 million from $26 million.

“The spike in zero coupon issuance is surprising and it seems like issuers are tapping into the demand for longer duration bonds,” said Rai.

Bond insurance declined 22.4% for the month, as the volume of deals wrapped with insurance dipped to $1.33 billion in 100 deals from $1.71 billion in 118 deals.

Variable-rate short put bonds dropped 54.7% to $455 million from $1.00 billion. Variable-rate long or no put bonds rose to $417 million from $298 million.

Bank qualified bonds decreased 5.6% to $1.63 billion from $1.72 billion.

Among sectors, only health care and public facilities posted year-over-year gains, despite fewer deals this month. Public facilities gained 32.7% to $933 million in 38 transactions from $700 million in 39 transactions and health care improved 54.8% to $3.69 billion in 33 deals from $2.38 billion in 52 deals.

All of the other sectors had a decrease of at least 18.6%, except for housing which slipped 2.5%.

As for the different types of entities that issue bonds, only three saw positive year over year changes. State governments improved 63.6% to $1.48 billion from $908 million, counties and parishes gained 93.6% to $2.54 billion from $1.31 and direct issuers inched up to $130 million from $105 million.

All other entities saw a decline by at least 10%, with the largest decline coming from cities and towns, which dropped 57.6% to $3.88 billion from $9.15 billion.

California is the top issuer among states for the year to date, followed by Texas, New York, Florida and Pennsylvania.

The Golden State so far this year has issued $34.61 billion, with the Lone Star State right at its heels with $32.41 billion. The Empire State follows with $26.44 billion. The Sunshine State is in third with $11.29 billion and the Keystone State rounds out the top five with $10.35 billion.

“We do not expect issuance to pick-up materially; this is true for new money issuance and refunding issuance. But, we do expect at least refundings to remain robust for the remainder of the year,” Rai said. “Our estimate for gross issuance for 2016 remains unchanged at $413 billion, split almost evenly between new money and refundings. Net issuance is likely to be $45 billion.”

The Bond Buyer

By Aaron Weitzman

July 29, 2016

Does a sullied past haunt a bond issuer’s future?

In April, something remarkable happened in the otherwise sleepy world of public money. Orange County, Calif., long considered a problem child in local public finance, announced a plan to return to the municipal bond market.

At the start of the 1990s, the county made some big bets on an early form of financial derivatives — not unlike those at the heart of the 2008 financial market crisis — and it lost. It suffered major financial damage and eventually declared bankruptcy. But now the county is looking to borrow once again, and investors are primed to snatch up its new bonds at eye-poppingly high prices.

Financially speaking, Orange County is back in a big way.

The Orange County story illustrates one of the great debates in finance. Municipal bond investors are willing to look past the county’s sordid past and focus instead on its financial future, namely its strong balance sheet, solid credit rating and growing tax base. This suggests that investors only care about future cash flows. But don’t forget that the county waited 20 years to test the market. Somebody clearly believed it needed a long time to shake its problem-child reputation.

So is the financial past prologue, or not? Some recent evidence suggests that in the municipal bond market — unlike most other capital markets — past perceptions have big financial consequences.

True believers say financial markets are fair because they’re forward-looking. If investors focus too much on the past, they’ll miss moneymaking opportunities. For instance, if a city lands a big economic development project or renegotiates its pension obligations, then any new bonds it issues should be met with higher demand and sell at higher prices. An investor who fixates on that city’s past bond prices will miss out on a surefire investment. So in theory, at least, past prices shouldn’t matter.

How does this theory play out in the municipal bond market? In a recent paper I examined how the interest rates on a local government’s past bond issues affect the interest rates on its future bond issues. I analyzed data on more than 35,000 “full faith and credit” bonds over the past decade. The results were striking. I found that all else being equal, for every 1 percent increase in a government’s past interest rates, the interest rate on its new bonds will be about 10 basis points (or .10 percent) higher. Put differently, past investor perceptions alone account for about 10 percent of current investor perceptions. Behavioral economists call this particular type of bias “anchoring” on past information.

There’s bad news and good news here. The bad news is that anchoring is expensive for issuers. On a 25-year, $100 million bond, for example, 10 additional basis points can mean about $4 million in additional interest payments. Consider also that municipal bond interest rates have generally declined over the past decade. This means that many local governments’ borrowing costs have been tethered to higher interest rates in the recent past.

This bias is also disconcerting because it’s hard to explain. A cynic might argue that anchoring happens because bond investors are lazy. Instead of carefully evaluating a government’s financial future, they just crib off of past prices. Of course, it’s not that simple. More than 50,000 governments have municipal bonds outstanding, and most of those sell new bonds every few years at most. At the moment there are no federal rules about the timing and content of local governments’ financial reports. In that environment it can be difficult to find recent financial information and even more difficult to find fresh prices on a government’s bonds. Municipal bond investors aren’t lazy. When information is hard to find, they’re just humans subject to bias.

The good news is that finance professionals can take steps to correct that bias. This is yet another reason for local governments to invest in a robust, comprehensive program of public disclosure. As Orange County shows us, it’s important for investors to know where a jurisdiction is, not where it was.

GOVERNING.COM

BY JUSTIN MARLOWE | AUGUST 2016

Innovative local government leaders throughout the country are taking advantage of state and federal incentives to transform former landfills and contaminated industrial properties and waste sites into energy-producing wind and solar projects. Two examples of municipalities giving such contaminated properties new life are discussed in this article – redeveloping once polluted properties into solar installations in New Bedford, Massachusetts and revitalizing a former Bethlehem Steel plant into renewable energy projects in Lackawanna, New York.

Turning Environmental Liabilities into Environmental Assets

Brownfields are a challenge for municipalities. In many cases, these properties have been idle and under-utilized for decades due to the environmental stigma that has hindered their redevelopment for productive use. At first glance, these sites may not appear to be suitable candidates for siting commercial and utility-scale renewable energy facilities. But many of these properties have development potential that finally can be realized, thanks to a favorable regulatory and financial environment.

Many state and federal programs, such as the Environmental Protection Agency’s “Re-Powering America’s Land Initiative,” are spurring redevelopment through streamlined regulatory approvals, expedited permitting, reduced land acquisition costs, and financing and tax incentives. In fact, according to EPA, as of 2014, more than 135 renewable energy projects have been installed on 128 contaminated properties with a total capacity of more than 773 megawatts (MW).

The location of these properties in urban and industrial neighborhoods also plays a vital role in their redevelopment. Brownfields, including former industrial sites and municipal and hazardous waste landfills, are frequently located close to crucial infrastructure, such as electric transmission lines and substations, roads and water supply. Often, they comprise large land areas suitable for renewable energy development, and they already may be zoned and permitted to accommodate such redevelopment.

In addition to financial incentives, EPA offers liability protection to those who meet requirements under federal statutes like the Comprehensive Environmental Response, Compensation and Liability Act and the Resource Conservation and Recovery Act. Many states offer similar programs. Protections of this nature can help overcome environmental stigma that may attach to contaminated properties and prevent their redevelopment for productive use.

New Bedford’s Whale of a Transformation

In the past several years, New Bedford, Massachusetts, once America’s whaling capital, has tapped both state and federal incentives to reinvent itself as a major generator of solar power. New Bedford is just one of several Massachusetts communities developing renewable energy projects on contaminated lands in partnership with local utilities, private investors, and solar energy companies. The state’s Solar Renewable Energy Credit program has certainly helped, requiring utilities to buy electricity from solar installations, and providing specific incentives for renewable energy on landfills and brownfields.

The coastal southeastern Massachusetts city now has more than 16 MW of solar capacity installed or under construction, and is ranked second only to Honolulu, Hawaii for the most solar installed per capita. The city obtains 50 percent of its energy from solar, and is on track to buy two-thirds of all its energy from solar projects.

Several of the solar installations are on once-polluted properties, including a 500 kilowatt facility on a two-acre revitalized brownfield site at New Bedford High School. The city’s latest effort – a 1.8 MW installation on a 10-acre former toxic waste site – opened last fall and is expected to save the city $2.7 million in energy costs over its 20-year projected lifetime. The city still has one remaining project under construction – a 3.7 MW system in the New Bedford Business Park.

Since taking office in 2012, Mayor Jon Mitchell has spearheaded the city’s green strategy. The city’s solar projects are aimed not only at cutting local government’s utility bills and saving taxpayer dollars, but are part of a comprehensive environmental program to both clean up contaminated properties and reduce fossil fuel consumption. When complete, the combined solar energy projects will save the city government millions of dollars over the next 20 years through the availability of less expensive means of energy.

Former Bethlehem Steel Plant Gets New Life

Last fall in Lackawanna, New York, the City Council approved the installation of 13,000 solar panels on a portion of a former Bethlehem Steel plant site. When the steel mill shut down in the 1980s, the badly polluted 1,600-acre property sat dormant for two decades, before returning to productive use under the New York Department of Environmental Conservation’s Brownfield Cleanup Program. Now, the facility, which is operated by Apex Energy, will be one of the largest solar photovoltaic (PV) installations in New York State upon completion.

And, it will be the neighbor of one of the largest urban wind energy projects in the world – a 30-acre site also reclaimed from the sprawling, contaminated steel mill site. The two-phase Steel Winds project operated by Sun Energy and Apex Energy boasts 14 wind turbines with a capacity of 35 MW – enough clean electricity to power about 9,000 homes. The project has added hundreds of thousands of dollars in annual tax revenue to surrounding communities and school districts.

Risk Factors Must be Addressed

While brownfields may provide property owners and renewable energy developers with significant opportunities, such investments also carry risks. Therefore, project risk assessments and mitigation strategies must be addressed.

As with many other real estate opportunities, success depends on location, location, location. It is essential to identify the right brownfields property. Site studies are needed to determine the required level and cost of remediation to satisfy the environmental regulators, as well as the appropriate conditions for redevelopment, such as proximity to infrastructure, and the amount of available acreage on which to place the energy generation facilities. For example, solar projects often require more than 20 acres to be financially viable.

Another risk factor is liability. Risks must be addressed and managed. EPA and state environmental authorities have developed incentive programs with a variety of discretionary enforcement policies and property-specific documents to encourage site cleanups and facilitate contaminated property transactions and revitalization. Also, it may be more prudent to choose a property where remediation has been completed and the owner has received a “no further action letter” from the state regulatory agency. Further, the liability risk can be managed or mitigated, for example, through indemnity clauses in purchase and sale agreements or leases that allocate liability to the owner or responsible parties, as well as through environmental insurance policies to cover future unknown risks.

Before proceeding with a renewable energy project, it is important to determine whether a site is or may be subject to institutional or engineering controls that require approvals from appropriate regulatory agencies. And, a renewable energy project likely will need financing. Many traditional banks and equity providers may be reluctant to finance a project on a brownfield property. It is critical to identify financing partners who both understand the liability protections available to project lenders, and who are willing to support such projects.

If undertaken with the right combination of due diligence, creativity, incentives, and liability protections, the redevelopment of a brownfield into a renewable energy facility can provide a significant win-win proposition for many local communities.

Clean Technica

By Jeffrey M. Karp, Jerome C. Muys Jr., and Van P. Hilderbrand Jr.

July 21st, 2016

Jeffrey M. Karp, Jerome C. Muys Jr. and Van P. Hilderbrand Jr. are environmental law attorneys with Sullivan & Worcester. Email: jkarp@sandw.com; jmuys@sandw.com; vhilderbrand@sandw.com.

DALLAS – Road, rail, and transit projects in 32 states and two U.S. territories will receive $500 million from the eighth round of a stimulus-era competitive federal grant program.

The 44 projects to be funded by the Transportation Investment Generating Economic Recovery (TIGER) grants were selected from 585 applications totaling more than $9.3 billion, Transportation Secretary Anthony Foxx told reporters in a conference call on Friday.

The highly competitive TIGER grants support projects that are often difficult to fund through conventional transportation programs, including road and bridge projects that span several jurisdictions, Foxx said.

“For the eighth year running, TIGER will inject critical infrastructure dollars into communities across the country,” he said. “This unique program rewards innovative thinking and collaborative solutions to difficult and sometimes dangerous transportation problems.”

The fiscal 2016 grants include $193 million for road projects, $97 million for transit, $87 million for passenger and freight rail, and $54 million for ports and maritime improvements, Foxx said.

“A great TIGER program doesn’t just improve transportation,” he said. “It expands economic opportunity and transforms a community.”

The $500 million of TIGER grants will support $1.73 billion of transportation infrastructure improvements because each $1.00 of a TIGER grant can leverage up to $3.50 in other public and private investments, Foxx said.

The first seven rounds of the TIGER program provided $5.1 billion of grants to 421 projects in all 50 states, the District of Columbia, and Puerto Rico. The latest round includes projects in Guam and the U.S. Virgin Islands.

More than 7,300 applications seeking a total of $143 billion have been submitted since the TIGER program began in 2009, the Transportation Department said.

TIGER is not included in the Fixing America’s Surface Transportation (FAST) Act that became law in early December. The grants must be renewed each year by Congress despite efforts by Democrats to make it a multiyear program.

The Senate has passed a 2017 transportation appropriations bill that would provide $525 million for TIGER next year, but a measure adopted by the House Appropriations Committee in May approved a cut in TIGER to $450 million.

President Obama’s proposed $73 billion transportation budget that never gained traction with lawmakers would have increased TIGER funding to $1.25 billion in fiscal 2017.

The largest grant this year is $25 million to the Chicago Transit Authority to upgrade an existing “L” train station and restore a segment of a historic track structure.

Flint, Mich., will receive a $20 million TIGER grant to rebuild city streets that will be torn up as the city moves ahead with a program to replace lead water pipes.

Pittsburgh will use its $19 million TIGER grant to put a cap over a below-grade portion of Interstate 579 to connect a residential district with the downtown area. The project includes a new bus stop, improvements to streets, and sidewalk upgrades.

Other grants include $10 million to Brownsville, Texas, for rehabilitation of a bus maintenance facility and the purchase of eight hybrid-fueled buses, $17.7 million for a highway freight interchange in Scott County, Minn., and $6.2 million for a river port in Little Rock, Ark.

The Bond Buyer

By Jim Watts

July 29, 2016

Economic data since March remain consistent with S&P Global Ratings’ forecast for continued slow growth. The United Kingdom’s vote in late June to leave the European Union added to an already uncertain global economic setting and is likely to weigh indirectly on U.S. GDP. Consequently, we have lowered our real GDP growth forecast for 2016 to 2.0% from 2.3%. The effects are likely to dissipate over time and result in only a modest revision to our forecast for 2017 growth to 2.4% from 2.5%. Fortunately for state and local governments, the key drivers of U.S. economic growth—consumer spending and the housing sector—are largely a function of domestic demand. Nevertheless, the uptick in uncertainty stemming from Brexit and slow GDP growth in the first quarter has led us to raise our risk of recession estimate over the next 12 months to 20%-to-25% from 15%-to-20%.

For most state and local governments, the new fiscal year began on July 1, in the wake of financial market shockwaves unleashed by the Brexit vote. Although equity markets initially tumbled in the immediate aftermath of the U.K. vote, they subsequently rebounded. Still, the tendency for markets to experience bouts of volatility has become a theme for 2016. This has cast a modest pall over the revenue outlook for state governments in particular, which tend to be more reliant on personal income taxes than their local government counterparts. Most states still project that tax revenues will increase in fiscal 2017, but at a slower pace than in 2015 and 2016. We also perceive that state revenue forecasts are subject to greater risk as a consequence of the increased financial market volatility. In addition, market volatility that struck in late June is likely to undermine investment returns for state and local government pension systems with a July 1 fiscal year. The California Public Employees’ Retirement System (CalPERS), for instance, reported that its investments earned just 0.6% for fiscal 2016, far short of its 7.5% assumed rate of return. We expect the trend toward weaker investment returns seen in fiscal 2015 and 2016 will translate to upward pressure on pension contributions for state and local governments, further squeezing their fiscal positions.

Overview

• Our revised forecast anticipates slower economic growth in 2016, at 2.0% from 2.3% as of March;
• The risk of recession has increased to 20% to 25% from 15% to 20%;
• Key supports to economic growth remain consumer spending and the housing market;

Continue reading.

27-Jul-2016

Many developers seek to incorporate noncompete clauses in their P3 agreements to ensure their project investments will deliver an expected rate of return. However, one think tank cautions public agencies to consider what unforeseen changes could occur over the life of a project that may cause these provisions to turn what was a beneficial project into a public liability.

Noncompete clauses are designed to discourage the government from developing projects or policies that could compete for or in other ways reduce revenues the developer expects to earn from the project, the Center for American Progress explains in a July 27 report. Examples include provisions that penalize an agency for building a free road that could lure drivers away from a toll road the developer is building or passage of a law that suddenly imposes a statewide cap on the amount of fees that a toll road operator can impose.

Many developers see noncompete provisions as a way of decreasing their financial risk, regardless of the economic or political changes their public partners may initiate or endure. These agreements lock in financial stability for the private partner but this guarantee may come at the expense of the public partner’s bottom line.

The center cites Chicago’s decision in 2008 to lease many of its parking meters to a private company for 75 years in exchange for a one-time payment of $1.15 billion. Under the deal, the city retained some say over which and how many parking spaces it leased to the company but this flexibility came at a price. The city government agreed to pay a fee for making any policy or regulatory changes that might reduce the company’s parking fee revenues, such as adding public parking spaces close to the leased spaces, reducing parking fines below an agreed-upon level, reducing the number of spaces the company controls or relocating a company-leased parking space from a high- to low-demand area. Under the terms of this agreement, Chicago has thus far paid the firm $31 million for making these types of changes — at a period during which its population, and therefore, its tax base was on the decline.

“This suggests that the city would have been better off simply borrowing the sum it received through the deal. Issuing municipal debt would have provided needed capital at a fixed price without locking the public into an agreement that provides a low-risk, near monopoly position for a private concessionaire,” the center explains.

Because many P3 agreements stretch for decades, “government negotiators are forced to try to foresee all future possible scenarios — an essentially impossible task,” the report warns. The strict nature of many of these agreements lock governments into terms and conditions that can ultimately can work against rather than for the public good.

For this reason, policymakers should avoid noncompete clauses whenever possible. If noncompete clauses are deemed necessary, the state must ensure that the concessionaire accepts a lower rate of return that reflects the reduced revenue risk the provision provides,” the center advises.

NCPPP

August 1, 2016

Puerto Rico extended contracts worth $3.2 million with outside restructuring firms as the commonwealth defaulted on nearly $1 billion of principal and interest on July 1 and federal lawmakers passed legislation to oversee the island’s finances.

The commonwealth continued agreements with Cleary Gottlieb Steen & Hamilton LLP and Millstein & Co. on July 1, according to a review of contracts provided by the island’s Office of the Comptroller. That same day, Puerto Rico missed payments to general-obligation bondholders, the biggest default ever in the $3.7 trillion municipal-bond market.

Cleary Gottlieb, a New York-based law firm, will earn $2 million through June 30, 2017, for its advice as Puerto Rico seeks ways to reduce its $70 billion debt load. The commonwealth’s Fiscal Agency and Financial Advisory Authority is set to pay Millco Advisors LP, an affiliate of Washington-based Millstein & Co., $1.2 million for financial expertise, including $450,000 for possible expenses in any potential lawsuit or investigation regarding the firm’s restructuring work with the commonwealth. The one-month contract ends July 31. Millstein has a separate $3 million agreement with Puerto Rico that runs through December and would compensate the firm if a restructuring deal is finalized.

Shannon Lynch, a spokeswoman for Cleary Gottlieb, and Jenni Main, Millstein’s chief financial officer, declined to comment.

The two firms have been advising Puerto Rico since February 2014 on how the commonwealth can reduce it obligations and negotiating on its behalf with creditors. President Barack Obama enacted on June 30 a law that creates a federal control board to oversee a restructuring of Puerto Rico debt and to monitor the island’s budgets. The next day, the commonwealth defaulted on nearly $1 billion due to bondholders, including $780 million on general-obligation bonds.

Cleary Gottlieb contracts totaled $24.9 million and Millstein agreements were $16.4 million through June 30, 2016, according to the Office of the Comptroller.

Bloomberg Business

by Michelle Kaske

July 28, 2016 — 2:02 PM PDT

The $250 billion municipal hospital-bond market is proving immune to Donald Trump’s plan to eliminate Obamacare.

Sutter Health is among nonprofits tapping demand for the tax-free debt, with the California chain planning to sell $850 million in new securities this week. Health-care bonds are beating the overall $3.7 trillion municipal market for a third straight year as the federal law expanding medical coverage to Americans improves business. Despite the Republican presidential nominee’s goal, the rally has been undaunted as investors hunt for yield while rates hold near record lows.

“There’s lots of demand with all of the money pouring in,” said Mike Quinn, a managing director at Chicago-based investment bank Ziegler, which underwrites bonds for hospitals. “This is a really great environment for health-care borrowers to issue tax-exempt money.”

 

Borrowing costs have tumbled this year with money flooding into the securities amid turmoil in financial markets overseas, pushing the Bond Buyer’s 20-year index to as little as 2.8 percent this month, the lowest since the data began in 1961. Debt issued for hospitals has returned 4.8 percent this year, outpacing the 4.1 percent gain for the market overall, according to Standard & Poor’s indexes.

Much of the financial gains from President Barack Obama’s overhaul have already emerged, with about 20 million people gaining coverage through private insurance plans or state Medicaid programs since the passage of the law in 2010. Hospitals are now facing the prospect of reduced reimbursements as the government aims to shift from a model where it pays for services to one where it rewards outcomes.

Republicans have repeatedly failed to repeal the law in Congress, and court challenges to its key provisions were turned away by the U.S. Supreme Court. While Trump has pledged to ask Congress to scrap it as soon as he takes office, doing so outright would be difficult politically given how many Americans are now covered by it, Morgan Stanley analysts said in a July 12 report.

For S&P Global Ratings and Moody’s Investors Service, U.S. hospitals will manage the risks without undermining their credit ratings. Both companies have stable outlooks on the sector, meaning downgrades and updates will be roughly equal.

“We’re about to enter a period with more uncertainty, but the organizations have very strong balance sheets and operations,” said Kevin Holloran, an analyst at S&P. “The health-care system in America has proven over time to be very resilient and successful.”

After sitting on capital plans as implementation of Obamacare started, hospitals ramped up borrowing last year to retire more costly debt, with sales this year already exceeding those in 2014 and 2013.

 

Sutter, which is issuing securities Tuesday through the California Health Facilities Financing Authority, is using the proceeds to refinance higher-cost debt and to help fund two new hospitals in San Francisco. Based in Sacramento, it runs 28 acute-care facilities, two recovery hospitals, four medical foundations and 15 home health-care locations.

“We have a consistent operating performance and excellent long-term stewardship of our balance sheet,” said Svend Ryge, Sutter’s treasurer.

Moody’s ranks the debt Aa3, the fourth-highest grade, citing its stable cash flow and its strong presence in California.

The breadth of the company’s business in California is a draw, said Todd Sisson, a debt analyst in Charlotte, North Carolina, for Wells Capital Management, which owns Sutter bonds among its $40.5 billion in municipals. While the company may buy some of the new securities, it’s limiting holdings of health-care debt because of the price run up and cuts providers face after reimbursement changes begin next year, he said.

“We’ve got considerable headwinds,” Sisson said. “The sector’s outperforming at the same time we’re seeing the risk increase.”

Sutter will see Medicare payments actually increase annually through 2019, bond documents show. Still, “estimates of future impact would not be reliable” from later calculations of reimbursements, according to the statement.

The industry has “immunity” to uncertainty, said S&P’s Holloran. “People still get sick, go to the doctor, get surgeries.”

Bloomberg Business

by Molly Smith and Romy Varghese

July 25, 2016 — 2:00 AM PDT Updated on July 25, 2016 — 6:46 AM PDT

America’s challenges will get worse without the support and commitment of the next administration to city issues

For over a year, the nation – and the world – has been wrapped up in the contest for the highest office in the land. We’ve seen 17 Republican presidential hopefuls whittled down to a businessman billionaire. We’ve seen a political revolution stopped short by a former Secretary of State and First Lady. We’ve seen mean tweets and rowdy stump speeches, #NeverTrump and a Speaker’s endorsement, and a lot about those damn emails.

It’s been a wild ride for sure. But let’s be frank: it’s time to get serious. At the National League of Cities (NLC), our goal is to empower local leaders to do what they do best: create environments that support families and businesses, and strengthen local economies. Cities and towns need a strong partner in the next administration. The candidates must engage in dialogue reflective of how government actually works. We need less talking points, and more policy, or the problems being ignored in 2016 will look easy by the year 2020. Here’s what’s at stake if we don’t:

1. Infrastructure Will Continue to Decline, Hurting American Competitiveness

The future of American infrastructure looks grim. The American Society of Civil Engineers (ASCE) gave the U.S. a D+ for overall infrastructure in 2013. From energy to hazardous waste, the U.S. is just points away from a failing grade in numerous categories. One in nine bridges is structurally deficient; 45 percent of American households have no access to public transportation; an estimated 240,000 water main breaks happen each year – just to name a few challenges.

Today, 80 percent of Americans live in cities, a number which is projected to increase in the next decade. Surging population growth will put stress on already strained infrastructure, causing more damage and hastening decay, even by 2020. While municipal governments are responsible to their constituents, they are not empowered to raise the revenue necessary to invest in long-term solutions. Cities need a strong partner in the next administration to keep infrastructure from falling into further disrepair.

2. Affordable Housing Will Be Increasingly Hard to Find

The market for affordable housing in the U.S. is rapidly shrinking. According to the Joint Center for Housing Studies, the number of new renters will outpace the number of new homeowners significantly over the next 15 years, raising rental property values and reducing the amount of overall affordable housing. This comes at a time when funding cuts have limited federal and local government investments in the construction of new affordable housing.

Meanwhile, as metro-areas continue to grow, moderate to low-income homes will be forced to find new housing accommodations or contribute more of their salary to rent. In 2013, over half of families with low to moderate-incomes spent over 30 percent of their income on rent, leaving less money for essentials like groceries and healthcare, not to mention savings accounts, retirement funds or other wealth-building systems. The next administration must work with cities to ensure safe, affordable and accessible housing remains a core element of the American Dream.

3. Natural Disasters Will Become More Challenging to Manage

Climate change affects cities differently across the U.S., but as average temperatures and sea levels rise, environmental and natural challenges will become more frequent and more devastating. Recently, Hurricane Sandy left between $10 and $15 billion in damages to infrastructure and private property. Cities located in the Gulf and along the Atlantic face threats to basic amenities like clean water and energy, a sector the U.S. Department of Energy reported will be particularly vulnerable to future storm damage.

In a different part of the country, the National Climate Change Assessment found that changes in rainfall and high temperatures will affect the lives and economies of 56 million people in the South and Southwest. Drought has decimated water supplies and changing weather patterns will make it difficult to predict precipitation, increasing competition for resources amongst cities. To prevent further loss, cities need significant investment in climate-resilient architecture and construction.

4. Local Economies Will Lack Skilled Workers to Drive Economic Growth

There are two different storylines playing out in cities: economic conditions are improving for some, but stagnating or worsening for others. While addressing rising inequality may require multiple policy solutions, what we do know is the changing nature of the economy, from advances in technology to shifts in the global market, underscore the need for proactive and effective workforce development.

According to city leaders, new businesses and business expansions are the most widespread positive drivers of local economic health. However, labor force challenges threaten to stymie this business growth and the economic benefits that would follow. City leaders report that the misalignment between available workforce skills and the skills employers’ need is the most widespread concern facing local economies. This concern will only grow if we fail to tackle the challenge.

5. The Opioid Epidemic Will Devastate More Families

Drug overdose is the leading cause of accidental death in the U.S., with 47,055 lethal drug overdoses in 2014. Opioid addiction is driving this epidemic, with 18,893 overdose deaths related to prescription pain relievers, and 10,574 overdose deaths related to heroin in 2014 (CDC 2015 Report). From 1999 to 2008, overdose death rates, sales, and substance use disorder treatment admissions related to prescription pain relievers increased in parallel. The overdose death rate in 2008 was nearly four times the 1999 rate; sales of prescription pain relievers in 2010 were four times those in 1999; and the substance use disorder treatment admission rate in 2009 was six times the 1999 rate.

By 2020, if we don’t stem the tide, these troubling trends will continue. In the U.S., we have reduced the number of smokers, the number of teen pregnancies, and the number of new HIV/AIDS infections over time. The lessons from these public health challenges can be applied to the present opioid drug epidemic. To make real progress in the fight against opioid addiction, all levels of government must work together in partnership.

6. More Lives Will Be Lost to Gun Violence

The U.S. has the highest homicide-by-firearm rate of any developed country. In 2015 alone there were 52,606 gun-related incidents resulting in 13,344 deaths. While Congress fails to address this epidemic, communities suffer the violent consequences. In 2020, we can expect wide-spread gun violence to be a persistent tragedy of life in America if don’t take action.

To reduce gun violence, legislation that regulates the possession of firearms is essential. NLC supports universal background checks on purchasers of guns, banning the sale of firearms to those on the terror watch list, and a 30-day waiting period for the purchase and transfer of all firearms. Within the past four years, we have witnessed tragedies in Newtown, CT, Aurora, CO, and Orlando, FL. There is no evidence that continued inaction from the federal government will end the violence. If the status quo is maintained, we will see continued loss of life in our communities.

The challenges cities face in the next four years are immense, but not insurmountable—and they can’t be solved by one level of government. In the next president, we need not only a leader, but a listener and collaborator. Whether Trump or Clinton, the future of our nation depends on what happens in cities.

Show your support and sign onto our Cities Lead campaign.

National League of Cities

by Carolyn Coleman

About the Author: Carolyn Coleman is NLC Senior Executive and Director of Federal Advocacy. Follow her on twitter at @CColeman_Cities.

We ought to be doing what many other countries are doing: making far more use of public-private partnerships for infrastructure.

Public-private partnerships may seem like the latest innovative way to finance crucial public needs, but P3s have been around for a while — quite a long while. In a recent Governing Guide to Financial Literacy, Justin Marlowe describes a Revolutionary War public-private partnership as a key factor in George Washington’s defeat of the British. After a grim winter spent at Valley Forge, where soldiers starved and died of disease, the Continental Congress authorized a reorganization of the army’s supply system and gave private contractors wide latitude in managing the logistics.

As successful as this arrangement was early in our history, we make far less use of such partnerships today than many other developed countries do. A study by the U.S. House Transportation and Infrastructure Committee found that while more than $61 billion was spent on highway P3s in this country from 1989 to 2013, that amount represented just 1.5 percent of the costs of all highway projects completed during that period.

Why such a small percentage? Well, it isn’t for lack of need. A 2015 Governing Institute survey found that half of state and local public officials believe lack of infrastructure investment is their most significant financial problem. Traditionally, governments have tapped tax-exempt bond markets to provide low-cost capital. But access to this market can be restricted for a variety of reasons, including limited bonding capacity or poor credit ratings, so P3s have the potential to bring in private-sector money to jump-start projects that might not happen otherwise. In countries that make strong use of them, P3s typically constitute about 5 to 10 percent of overall investment in infrastructure.

To be sure, there are hurdles to creating public-private partnerships. For starters, they require authorizing legislation. While most of the early P3s centered on transportation (California was first to pass legislation in 1989, followed by Florida and Missouri the next year) projects today can cover virtually every type of public infrastructure. P3 legislation varies state to state, and the National Conference of State Legislatures provides a detailed table of the specific types of authorized projects (including highways, toll bridges, buildings, and water and sewer systems) for each jurisdiction. As of this January, 33 states, Puerto Rico and the District of Columbia had enacted some form of legislation enabling P3s.

Given the gap between existing infrastructure needs and available funds, it’s not surprising that a number of recent papers and reports offer analyses and recommendations to help catalyze the use of P3s. This May, the Bipartisan Policy Center issued “Bridging the Gap Together: a New Model to Modernize U.S. Infrastructure,” which outlines the core principles of a new American model for investing in infrastructure centered on P3s. Those principles include public benefits identified and clearly stated; investment decisions based on a full life-cycle evaluation; project benefits, cost and risks completely accounted for and made publicly transparent; sharing by public- and private-sector partners of risks, costs and benefits; and comparing the costs of action against the costs of not investing.

In a recent paper, the West Coast Infrastructure Exchange points out that financing is just one of an entire set of project costs. The report segments these costs across the entire lifecycle of a project and describes how, through incentives, a focus on performance can integrate design, construction and maintenance responsibilities and counterbalance the higher cost of private capital to reduce overall project budgets.

That paper highlights British Columbia, with a relatively long history of using this performance-based P3 model, as a best-practice example: Since 2002, the province has completed 45 projects totaling $17 billion (with over $7 billion from the private sector). All of the projects were delivered on or before their due dates, and none had cost increases stemming from design or construction mistakes.

To be sure, developing a public-private partnership that’s likely to succeed requires considerable public-sector expertise. But there is a growing body of resources available to government officials. Organizations such as the National Governors Association and the American Association of State Highway and Transportation Officials, for example, offer interactive courses and peer-to-peer workshops on infrastructure financing. The U.S. Department of Transportation offers technical assistance and resources for states. And three states — Florida, Texas and Virginia — have established dedicated agencies to help promote and evaluate P3 opportunities. Virginia has long been considered a leader in this approach, and its website is worthy of review.

Clearly there’s a case for more use of P3s and other innovative approaches to meeting our growing infrastructure needs. The American Society of Civil Engineers’ last infrastructure report card, issued in 2013, gave a grade of D-plus to the overall condition of the nation’s infrastructure, citing conditions that are well known not only to public officials but also to the public: a backlog of overdue maintenance and a pressing need for modernization. ASCE’s next report card is due out this year. Will our grade be better? If not, that will certainly drive home the point that doing nothing has a cost.

GOVERNING.COM

BY BOB GRAVES | JULY 26, 2016

NEW YORK/SAN FRANCISCO — The 1923 middle school building in Oregon’s Corbett School District is so old that horses and trailers were used to dig the basement. It floods every winter, the building has no sprinkler system, and there is asbestos and lead paint in some spots.

Yet this May, voters struck down, for the fourth time, a plan to sell bonds that would pay for a new building, passing up an opportunity to finance the new school at a cost that may never be so low again.

Corbett is not alone. The amount of debt sold so far this year in the $3.7 trillion market for U.S. municipal and state debt is less than in 2015 despite record-low borrowing rates.

The yield on top-rated municipal 30-year bonds hit a bottom of 1.93 percent on July 6. That is far below the 3.27 percent of a year earlier and even below the comparable Treasury yield thanks to an income tax exemption granted to U.S. investors on the interest earned on most muni bonds.

There are several reasons why municipalities are slow in exploiting what could be a rare window of opportunity created by historically low global rates and investors’ intense hunt for higher returns.

For one, municipal borrowers have to clear hurdles including those at the ballot box, which makes it hard for them to respond quickly to changing market conditions.

Some communities are also still aching from recession-era budget cuts and remain reluctant to take on new debt service costs, however low they may be. Some are hemmed in by sluggish economies, big pension liabilities – which crowd out new projects – or both.

“Apart from the very large states and cities that typically are the leaders … (others) are still not sure that they have the backing of the voting population or the economic resources to expand their spending,” said VanEck Global portfolio manager James Colby, who buys municipal debt for the firm’s muni exchange traded funds.

For example, voters in Travis County, Texas, narrowly rejected a $287 million bond that would finance a replacement for an old, overcrowded courthouse in Austin, in part because of concerns that the chosen location might be too expensive.

New Jersey halted many state-funded road and bridge projects this month after lawmakers failed to extend the program that funds them because of a continuing battle over how to hike gasoline taxes to pay for new transportation spending.

Dysfunctional politics and fiscal strain also derailed last year’s budget in Illinois, which was a full year late, and in Pennsylvania, where a nine-month budget impasse left public schools struggling to stay open.

LESS DEBT

As a result, municipalities and states issued $227 billion in debt between January 1 and July 19, down 1.6 percent compared with the same period of 2015, according to Thomson Reuters data. The lion’s share of tax-exempt debt has been issued to refinance older bonds at lower rates, rather than fund new projects. (Graphic: http://tmsnrt.rs/29MmnHb)

Yet besides big issuers, in economically robust states, such as California and New York, it is America’s most troubled borrowers that have increased new borrowing.

Some are selling bonds now because buyers who previously shunned them are piling in looking for extra yield. Other communities must borrow to cover running costs or finish essential projects.

With negative yields in Germany and Japan and a global hunt for fixed income assets because of market volatility, some foreign investors are also buying U.S. municipal bonds, even though they do not get any tax benefits.

“We’re the best name in town right now in a very low-yield environment,” Blair Ridley, municipal bond portfolio manager at Deutsche Asset Management, said during a recent webinar.

Municipal bond funds recorded consecutive net inflows for the last 42 weeks, according to Lipper data, with inflows this year so far reaching $36 billion, compared with $13.8 billion for the whole of 2015.

Yet prospective issuers still face voter resistance.

“It’s a result of the credit crisis, an aversion to debt, and trying to right size the balance sheet,” said Peter Hayes, head of municipal bonds at BlackRock.

In Corbett, since the $11.9 million bond proposal was voted down, officials in the 1,100 student school district 20 miles east of Portland are now considering a costlier private loan that does not need voter approval.

“I keep telling people the interest rates are so low,” Superintendent Randy Trani said. “But it’s not happening.”

Some voters did not want to demolish a historical building. Many are also over the age of 50 and are averse to more costs, Trani said.

“They have no connection to the school at all. It’s hard to get them to vote to pay more taxes.”

By REUTERS

JULY 26, 2016, 6:18 A.M. E.D.T.

(Reporting by Hilary Russ in New York, Robin Respaut in San Francisco and Karen Pierog in Chicago; Additional reporting by Rory Carroll in San Francisco; Editing by Daniel Bases and Tomasz Janowski)

It isn’t unprecedented for the feds to spur local pension reform. Kennedy and Reagan both did.

The pensions of states and local governments are, collectively, trillions of dollars in the hole. This debt is crippling budgets and will dump an enormous burden on future generations. Yet state and local politicians have proven that they cannot, or will not, solve the problem. The federal government ought to step in. But how?

Instead of bailing out these pensions, Congress should pass a law allowing states and local governments to reduce promised benefits—something that is now illegal under some states’ statutes or constitutions. Congress should stipulate that pension plans must be in very bad shape to qualify for relief, and the politicians in charge of them would have to voluntarily seek it. Most important, pensions should be required to uphold their original intent: to keep retirees who can no longer support themselves out of poverty.

Even with those restrictions, significant savings could be made. Many pensions allow retirement at age 55; states and local governments could mandate that benefits cannot be drawn until age 65. Payments could be capped at 150% of the median income in the local jurisdiction. Automatic cost-of-living increases that now exceed expected inflation could instead be tied to increases in the median income.

Troubled plans should qualify for relief only if their funding ratio falls below 50% and has failed to improve over the past five years. These are the plans that are in fiscal quicksand and cannot be saved without significant changes.

Local governments must also be required to terminate their defined-benefit plans. These should be replaced with defined-contribution plans, like 401(k)s or 403(b)s, or active employees could be enrolled in Social Security. Responsible officials are already taking this step: The board of the Tennessee Valley Authority voted in May to switch to a 401(k)-type plan and lower the cap on cost-of-living adjustments.

Once these steps are taken, the local government should be required to fully fund the remaining pension liability with a tax increase. That should be the deal: To receive the relief of reducing promised benefits, they must agree to solve the pension problem once and for all.

What would this look like in practice? Let’s say that a retired firefighter in a troubled pension plan is set to receive $70,000 annually. If that is below 150% of the median income in his local jurisdiction, under federal relief his annual benefits would never be subject to the cap, since they would rise as the local median income increases.

What about a retired cop who became a city councilman and later a county supervisor—an extreme, but not unheard of, case? The cop would not be able to collect three pensions and would have his benefit reduced to meet the cap. Both the firefighter and the politician would have to wait until turning 65 to receive benefits.

No one wants to see his benefits reduced. Yet keep in mind that a retiree who receives a $75,000 pension for 30 years, with 3% compounded cost-of-living adjustments, gets total payments of more than $3.4 million. This has become common in cities like Chicago.

I am not the first person to suggest federal intervention. Rep. Devin Nunes (R., Calif.) proposed withholding federal aid to government entities that don’t accurately report pension funding. That would be a step forward but would not solve the problem of underfunding.

Diana Furchtgott-Roth of the Manhattan Institute has proposed a law that would allow local governments to seek relief from pension debt in bankruptcy court. But this leaves too much discretion to judges and could lead to wildly different outcomes. Plus, such open-ended relief would be fiercely fought by public-employee unions every step of the way.

Federal intervention is not unprecedented. The Windfall Elimination Provision of the Social Security Act, an amendment that was passed in 1983, allows the federal government to reduce Social Security payments when recipients also receive pensions from public employment. This has curbed double-dipping and protected the Treasury.

Nor should a new plan for federal relief be seen as a purely partisan issue. In 1961 President John F. Kennedy established the Committee on Corporate Pension funds. This eventually led to the Employee Retirement Income Security Act of 1974, which outlawed abuses and forced private firms to put required money into their pension plans each year.

The plan outlined here would create a consistent and concrete path toward making pensions manageable for taxpayers. At the same time, it would protect retirement income for those unable to support themselves. The next president and Congress should take action to allow local governments to address this monumental problem—which gets worse by the day.

THE WALL STREET JOURNAL

By ED BACHRACH

July 17, 2016 7:22 p.m. ET

Mr. Bachrach is the founder and chairman of the Center for Pension Integrity.

The municipal-bond market’s rally is facing election year headwinds from Donald Trump.

The real estate developer and reality television star, who accepted the Republican presidential nomination Thursday night, has proposed slashing the top individual income-tax bracket from 39.6 percent to 25 percent, the lowest since 1931. That would sharply reduce the incentive to own tax-exempt bonds, whose yields have slipped to record lows as investors pour money into the safest assets and central banks hold down interest rates.

“He has a pretty aggressive tax reduction plan,” said Mikhail Foux, head of municipal strategy at Barclays Plc in New York. “Taxes going down is always bad for munis compared to Treasuries.”

U.S. presidential elections can have outsized significance for the $3.7 trillion municipal market — a haven of buy-and-hold investors looking for tax-free income — because they often result in changes to tax policy. Typically, Republicans cut taxes on the highest earners, while Democrats raise them.

The benefit of owning state and local-government bonds over other fixed-income securities declines when levies are reduced and increases when they rise. Yields — which move in the opposite direction as price — fell relative to U.S. Treasuries after Bill Clinton’s victories in 1992 and 1996, and again after President Barack Obama’s re-election in 2012, according to Barclays. They increased after Republican George W. Bush’s victory in 2000, which led to tax cuts.

Top-rated 10-year municipal bonds yield 1.47 percent, or about 93 percent of what Treasuries with comparable maturities offer. For an investor in the top income-tax bracket, the tax equivalent yield is 2.6 percent, or about 1 percentage point more than Treasuries with the same maturity. At a top bracket rate of 25 percent, the tax-equivalent yield is 1.96, or about 0.5 percentage point more than Treasuries.

Municipal bonds have gained every year but one since President Barack Obama took office in 2009, according to Bank of America Merrill Lynch indexes, as the Federal Reserve held interest-rates near zero and taxes were raised on the highest earners.

Trump’s plan is estimated to cut federal revenue by $9.5 trillion and swell the debt by $11.2 trillion over the next decade, according to the Tax Policy Center, a joint venture of the Urban Institute and Brookings Institution. The proposal may be scaled back: he’s expected to release a revised plan that calls for reducing the top rate to between 28 percent and 33 percent, closer to what House Speaker Paul Ryan has endorsed, according to the Washington Post.

The demand for municipal bonds could also be eroded by Hillary Clinton’s proposals, though not by nearly as much. While her plans include higher taxes on incomes over $5 million, she has also endorsed establishing a minimum 30 percent levy on filers earning more than $1 million and capping the value of tax exemptions, which could reduce the tax-breaks given to owners of the debt.

Municipal yields could increase by more than 1 percentage point under Trump’s original plan and 0.35 percentage point under Clinton’s, assuming prices are driven by investors in the highest tax bracket, according to Morgan Stanley’s chief municipal strategist Michael Zezas.

But demand from lower-income investors could offset some of that: About 45 percent of returns that reported tax-exempt interest had adjusted gross incomes less than $200,000, according to the Internal Revenue Service. And enacting major tax overhauls are difficult, regardless of who controls Congress.

“It’s extremely difficult to get the consensus required for what might be called fundamental tax reform,” said Phil Fischer, the head of municipal research at Bank of America Merrill Lynch. “Nobody knows what that is any more.”

Barclays’ strategists predict that if Trump wins, the GOP would likely control Congress but wouldn’t have a super-majority in the Senate. After an initial period of volatility and a flight to safer assets, 10-year Treasury rates could rise as much as 0.5 percentage point because of fiscal stimulus generated by individual and corporate tax cuts. With municipal rates forecast to increase even more, that may lead investors to pull money from mutual funds that invest in state and local debt.

“We can expect outflows when rates increase significantly,” Foux said. “That’s historically what we see.”

Bloomberg Business

by Martin Z Braun

July 22, 2016 — 2:00 AM PDT Updated on July 22, 2016 — 7:09 AM PDT

 

The gap between short- and long-term yields in the $3.7 trillion municipal-bond market is the narrowest in more than eight years. Benchmark 30-year munis yielded 0.735 percentage points more than 10-year securities on Wednesday, the smallest difference since November 2007. This means that investors are earning less for the risk of holding securities with longer maturities.

Bloomberg Business

by Elizabeth Campbell

July 21, 2016 — 7:57 AM PDT

MainStay Investments is increasing the percentage of cash held in its municipal bond mutual funds as a hedge against the risk of investor redemptions if the outperforming tax-exempt market turns.

It’s $2.7 billion high yield muni fund has raised its cash level to as much as twice its normal range for liquidity, said David Dowden, a managing director who helps oversee about $19 billion of local debt at Princeton, New Jersey-based MacKay Municipal Managers, the fund’s sub-adviser. The fund had about 9.6 percent of its portfolio in cash-equivalents as of April 30, the most in two years.

“When everyone suddenly gets all on the same side of the trade, that makes for a very dangerous situation,” Dowden said during an interview last week. “That’s what we saw in June of ’13.”

U.S. state and local-governments have taken in cash for 41 straight weeks, according to Lipper U.S. Fund Flows data, as anxiety that the Federal Reserve would raise rates receded and investors sought out the higher tax-adjusted yields and lower volatility than they can find elsewhere. During that period, munis have posted a total return of 5.8 percent, compared with a broader bond market gain of 4.2 percent, according to Bank of America Merrill Lynch index data.

The $45 billion inflow since October has helped replace the cash lost during the “Taper Tantrum” of June 2013. Investors pulled $65 billion from muni funds between June 2013 and January 2014 after then-Fed Chair Ben Bernanke jarred bond investors with plans to scale back asset purchases. The broad sell-off in the bond market highlighted a liquidity squeeze in the muni market, which was hit harder than Treasuries. Between June and the end of August 2013, yields on 30-year AAA rated municipal bonds rose almost 1.5 percentage point.

The level of liquidity risk is lower than in 2013. Banks are more willing to step in and buy and investors are less prone to yank money because munis are producing income, said Dowden. The U.K. vote to leave the European Union has lowered the likelihood that the Fed will raise interest rates before the U.S. elections in November. Muni prices rose following “Brexit” as investors clamored to safety.

As the yield curve flattened, Mainstay has focused its buying on bonds maturing from 12 to 25 years rather than long-term debt maturing in 25 to 30 years, which are more sensitive to changes in yields. Mainstay’s High Yield Municipal Bond Fund has returned 7 percent this year, beating 77 percent of its peers, according to data compiled by Bloomberg.

“The reality is that incremental yield can be burned away very quickly in a price move,” Dowden said.

The market pulled back last week as investors balked at yields that reached record lows and data on manufacturing and retail sales bolstered optimism in the economy. Yields on top-rated 30-year municipal bonds rose to 2.17 percent from 2.09 percent, the biggest weekly increase since February, according to data compiled by Bloomberg.

Some high yield managers are boosting their cash position for a different reason: they can’t find securities that offer value in a market that has run-up more than 12 percent in the last year.

“There’s so much cash in and everyone’s buying because they have to buy,” said Matt Dalton, chief executive officer of Rye Brook, New York-based Belle Haven Investments, which oversees $5 billion of municipal bonds. Belle Haven is the sub-adviser for Transamerica’s High Yield Muni Fund, which had had 13 percent of its assets in cash as of April 30.

“We’re content with having more cash than we’d like to because of the dearth of opportunities,” Dalton said.

Bloomberg Business

by Martin Z Braun

July 19, 2016 — 2:00 AM PDT Updated on July 19, 2016 — 7:16 AM PDT

At the advent of the financial crisis nearly a decade ago, former Citigroup Inc. banker Robert Novembre, who managed the firm’s desks handling auction-rate securities, saw firsthand the disruption caused when banks withdrew support.

Dozens of banks stopped being buyers of last resort for auction-rate securities and variable-rate demand debt, leaving investors with bonds they couldn’t sell and borrowers with little control of the interest rates on their debt. The $200 billion auction-rate securities market shriveled and Citigroup was among the banks that reached settlements with state and federal regulators to resolve claims they misled investors. The variable-rate market limped on in a smaller state.

Now Novembre, 47, plans to apply the lessons to a new alternative trading system for variable-rate debt. Within weeks, his Clarity BidRate Alternative Trading System, a division of Arbor Research & Trading LLC, expects to launch its first variable-rate demand deal as part of an enterprise designed to cut costs for state and local governments by getting bids from investors rather than relying on banks to remarket the debt.

“It’s a very antiquated market that functions in the shadows,” Novembre said. “But there’s a conflict of interest in pricing because the banks are protecting their own balance sheets. Banks aren’t pushing down the rates any more because they don’t want to own the bonds.”

The need for more competition has been shown of late as yields have come off historic lows of about 0.01 percent and soared to about 0.40 percent since the Federal Reserve raised its benchmark rate in December for the first time in almost a decade.

During the height of the market freeze, the weekly re-set rate on the index climbed as high as 7.96 percent.

Despite interest rates that are still low historically, the variable-rate demand market has been shrinking since the collapse of first auction-rate securities and then variable-rate demand obligations after sub-prime contagion brought down insurers and buyers of last resort in the muni market. Many banks and investors were stuck with debt they couldn’t sell, while some issuers were forced into costly interest rate penalties and expensive restructuring. The variable-rate market stood at $222 billion and the auction-rate market was $27 billion in March 2014, according to the Municipal Securities Rulemaking Board.

Now with rates potentially poised to rise, Moody’s Investors Service and others have predicted that borrowers may renew interest in the variable-rate structure to cut borrowing costs. New U.S. Securities and Exchange Commission rules requiring tax-exempt money-market funds to use floating net asset calculations also are encouraging more use of variable-rate debt.

The Securities Industry and Financial Markets Association, which represents banks and broker-dealers, supports the system of remarketing agents that “has served the market well for decades,” said Michael Decker, managing director and co-head of the municipal finance division, in an e-mail. He declined to comment specifically on Novembre’s company. That said, the association does “welcome market innovations that contribute to efficiency,” Decker said.

Novembre, who worked for 18 years for Citi and oversaw about $170 billion of auction-rate securities, variable-rate demand obligations and tender-option bonds when the variable-rate markets collapsed starting in 2007, said his bank and others were glad to buy bonds to support the markets until it became a risk to their capital. Under variable-rate arrangements, remarketing agents aren’t required to buy back the debt but did so voluntarily to support the market.

Trading Platform

With variable-rate demand obligations, issuers pay for so-called liquidity facilities, or buyers of last resort, that buy back the bonds when investors don’t want them, something that can happen when the yields are reset.

During the global market turmoil, many buyers panicked and tried to unload the bonds because of fears generated by a freeze in fixed-income markets such as mortgage-backed securities. Following the auction-rate debacle in 2008, variable-rate demand obligations tumbled as buyers faced losses.

“There was a lot of fear,” said Novembre. “People quickly started putting the bonds to the bank. The banks were no longer using their balance sheets to support the market.”

Today, he said, that is still true because “dealers are loathe to deploy their balance sheets” amid increased regulation since the financial crisis.

By updating the market with an electronic-trading platform that replaces the traditional remarketing arrangement, Clarity is providing a place where buyers and sellers can make bids and offers for bonds that investors don’t want to hold with more complete information about the market, he said.

Remarketing Role

“There is too much negotiation involved in setting yields now,” he said. “There is an element of human decision making in setting the yields, instead of the actual market place competition.”

Under his system, Clarity takes over the remarketing role, but instead of setting rates, buyers and sellers can see all the bids and offers and make their own bids and offers on an on-line trading platform during a remarketing period — up until the period for reselling the bonds closes.

“We take all the subjectivity out of it,” he said. “Issuers are put in a position of competitive pricing.”

Bloomberg Business

by Darrell Preston

July 18, 2016 — 2:00 AM PDT Updated on July 18, 2016 — 7:32 AM PDT

David Hammer, Head of Municipal Bond Portfolio Management, discusses the impact of lower commodity prices on high yield municipal bonds, and why energy producers may be more concerning than oil revenues.

Watch the video.

For more information, visit www.pimco.com/munis

DAVID HAMMER

JULY 2016

This Hawkins Advisory is of interest to single-family housing bond issuers.

Read the Advisory.

7/20/2016

Shivani Singh and Ashley Ramchandani provide an overview of our recent higher education median reports for public and private colleges and universities. Paul Dyson discusses our take on the impact of the recently-enacted Puerto Rico Oversight, Management, and Economic Stability Act (PROMESA) on Guam and the U.S. Virgin Islands.

Listen to the podcast.

Jul. 22, 2016

U.S. District Judge Gerald E. Rosen has more experience than most in resolving thorny cases of municipal distress: He was the mediator in the high profile bankruptcy of Detroit. What lessons did he draw from that experience that might apply to future municipal bankruptcies? We put that question to him at our recent Municipal Finance Conference, and he offered what he calls “The Four C’s.”

Candor

“As we began talking to the creditors and to the city…they were in denial across the board…We said denial…is not a way to move forward. We had to go through that ventilation process in the beginning.”

Judge Rosen said he found that both the creditors and the parties were initially unwilling to be honest, with each other and even with themselves. They did not fully accept the dimensions of the structural debt problems and did not recognize the degree to which the city’s ability to fund and deliver essential government services was compromised. Working in a state of denial will not advance the interests of the city, he said. Openness and honesty are integral to resolving financial troubles.

Cooperation

“My job as the mediator [was] to get the parties together and the earlier the better.”

After listening to accounts of other cases of municipal distress, Judge Rosen suggested that some crises could have been avoided with earlier “facilitation of discussion between the various credit groups and the municipalities.”

Creativity

“Every city has human assets, every city has physical assets, every city has revenue assets, so focus on creative ways to leverage those assets.”

Detroit struck a “grand bargain” in which the city essentially sold the Detroit Art Museum to a collection of foundations, nonprofits and other donors to raise money for its underfunded pensions. Judge Rosen said that was just one of several creative elements in Detroit’s bankruptcy resolution. Of course, the exact solutions to any particular crisis will depend on the circumstances, but the essential element is that “smart people who can get on the same team and look down the road, not just to get their piece of the pie, but to make the municipality healthy so there will be a bigger…pie at the other end.”

Courage

“Detroit is really not [just] a series of deals over sixteen months….it’s about people from all different walks of life, backgrounds, strata, coming together to put behind them the mistakes and ghosts of the past.”

The Detroit bankruptcy, he said, could have resulted in a decade of litigation that went all the way to the U.S. Supreme Court. But if that had occurred, there would have been nothing left of Detroit. Instead, all the interests came together to “take a leap of faith” to find a solution that was in the best, long-term interests of the city, its creditors, it employees and its people.

Here’s a video of Judge Rosen’s remarks.

The Brookings Institution

Evan Bursey and David Wessel | July 20, 2016 9:24am

The Governmental Accounting Standards Board (GASB) is currently conducting research on indicators of severe financial stress and going concern disclosures. As part of their research effort, the GASB has developed an online survey to solicit thoughts and ideas.

The survey will be open until Friday, August 5, and may be accessed here.

Treatment of Municipal Securities in Fed’s Final HQLA Rule Draws Unenthusiastic Industry Reactions

On April 1, 2016, the Federal Reserve Board released its final regulations[1] respecting treatment of municipal securities as high-quality liquid assets (“HQLA”) for purposes of its liquidity coverage ratio rule for “covered companies” – the 11 most highly capitalized United States banks – after strenuous criticism from the municipal securities industry and a Congressional response that included a bill that has passed in the House of Representatives[2]. In the final rule, the Federal Reserve Board revised the original proposal by modestly expanding those municipal securities that would qualify for inclusion in a covered company’s HQLA, but rejected most commenters’ recommendations. The following discussion summarizes the original Fed proposal, the principal comments from affected trade groups, the final regulation, the Fed’s rationale for its determinations and the pending legislation.

Financial Crisis and Bank Regulatory Response

In the aftermath of the financial crisis of 2008 and 2009, international banks sought to ensure sufficient liquidity for the largest banks by establishing a quantitative liquidity coverage ratio standard pursuant to the Basel III capital and liquidity reforms. United States bank regulators, including the Board of Governors of the Federal Reserve System (the “Fed”), the Office of the Comptroller of the Currency (the “OCC”), and the Federal Deposit Insurance Corporation (the “FDIC”) published a joint Notice of Proposed Rulemaking (the “NPR”), adopted on September 3, 2014[3], that established a Liquidity Coverage Ratio (“LCR”) to be maintained by larger banks and holding companies[4]. The LCR would require covered institutions, during periods of non-stress, to maintain an amount of high-quality liquid assets that is not less than 100% of its total net cash outflows over a prospective 30 calendar day period.

Significantly for municipal securities issuers and the municipal securities industry, securities issued by “public sector entities” (i.e., state and local government issuers) were not included as HQLAs in the original NPR.

Objections to NPR and Subsequent Fed Proposal

After predictable objections from trade groups representing municipal issuers, banks and the municipal securities industry, based upon potential harm to municipal securities issuance from exclusion of municipal securities as eligible HQLAs under the NPR, on May 28, 2014, the Fed (but without participation by the OCC or the FDIC) issued a proposal (the “Fed Proposal”) that would permit covered institutions to include certain U.S. municipal securities as HQLAs under strict criteria described below.

The Fed Proposal

The Fed Proposal limits eligibility of U.S. municipal securities to investment grade general obligations that are not insured. Revenue obligations, irrespective of credit standing, would not qualify as HQLAs[5]. Additionally, the Fed Proposal imposes significant concentration risk limitations on a covered institution’s holdings of HQLA-eligible U.S. municipal securities:

• No more than 25% of an individual CUSIP may be included in a bank’s stock of HQLA;
• No more of a single issuer’s bonds than an amount equal to two times the average daily trading volume of that issuer’s bonds over the previous four quarters may be included in a bank’s stock of HQLA; and
• No more than 5% of a bank’s total stock of HQLA may be comprised of municipal securities.

Issuer and Industry Comments

During the public comment period on the Fed Proposal, which ended July 24, 2014, the Fed received 13 comment letters from issuers and industry groups[6]. All commenters argued that the HQLA standards for municipal securities in the Fed Proposal were excessively limiting, with the exception of Better Markets, Inc., which argued that municipal securities should not be included in HQLAs at all because of the provision in the Fed Proposal that leaves the determination whether a security is “investment grade” to the covered institution itself.

A primary objection from all trade group commenters – including the Securities Industry Finance and Marketing Association (“SIFMA”), the Bond Dealers Association (“BDA”) and a joint comment from 15 issuer groups that included the Government Finance Officers Association, the National Association of Counties, the National League of Cities and the U.S. Conference of Mayors – was the exclusion of investment grade revenue obligations from HQLA eligibility. Specifically, SIFMA noted that the credit quality of many revenue obligations is regarded by the market as preferable to general obligations, particularly in light of adverse treatment of general obligations in recent municipal bankruptcies such as Detroit’s. Indeed, the PFM Group noted that the Fed Proposal “reduces the universe of outstanding eligible municipal securities by more than $2 trillion.” Likewise, the Bond Dealers Association noted that the exclusion of revenue securities from HQLA effectively limits the municipal securities that would be eligible for inclusion as HQLA to less than 40% of securities issued in 2015.

Commenters, including municipal bond insurer Build America Mutual Assurance Company, also criticized the exclusion of insured general obligations from the HQLA eligibility, arguing that the Fed Proposal misconceived the role of bond insurance of otherwise investment grade obligations, which does not substitute for the underlying credit and actually adds liquidity to such securities.

Regarding the concentration risk limits in the Fed Proposal, commenters argued that they are based on misunderstandings of the municipal market. With regard to the limitation to 25% of a pertinent CUSIP (i.e., maturity), commenters argued that the rule would push banks to hold many smaller portions rather than large-block portions that are more liquid because of their appeal to institutional investors. SIFMA argued that the 25% limit is actually counterproductive to liquidity and that, alternatively, this rule should be dropped “in favor of reliance on the risk management systems banks already have in place.”

Regarding the two-times average daily trading volume limitation, SIFMA noted that historic trading volume may not be the best indicator of liquidity in that many bonds are bought as buy-and-hold investments.

Regarding the limitation of U.S. municipal securities to not more than 5% of a bank’s total HQLA, SIFMA noted that no other asset class eligible for inclusion in HQLA, including corporate securities, has an asset-specific limitation. Additionally, the LCR rule separately limits 40% of total HQLA for Levels 2A and 2B combined and has a 15% limit for Level 2B. Thus, SIFMA argued that the existing limitations are sufficient without the addition of the 5% limit.

Pending Legislation

In response to dissatisfaction with the Fed Proposal and the non-participation of the FDIC and OCC in establishing uniform HQLA standards, Representative Luke Messer (R-Ind.) and co-sponsor Representative Carolyn Maloney (D-NY) introduced legislation that would require the Fed Rule “to treat a municipal obligation that is both liquid and readily marketable (as defined in the Final Rule) and investment grade as of the calculation date as a high-quality liquid asset that is a level 2A liquid asset.” The legislation would also require the FDIC and the OCC to conform their HQLA regulations to this statute. The proposed legislation passed the House of Representatives on February 1, 2016, as H.R. 2209 and has been referred to the Senate. As of this writing, there is no Senate sponsorship.

The Final Fed Rule and the Fed’s Rationale; Industry Disappointment

The final Fed Rule makes two basic changes to the Fed Proposal: First, general obligation municipal securities insured by a bond insurer may count as Level 2B liquid assets as long as the underlying municipal security would otherwise qualify as HQLA without the insurance. Second, the final Fed Rule eliminates the 25% limitation on the total amount of outstanding securities with the same CUSIP number that could be included as Level 2B liquid assets. Notably, the final Fed Rule continues to exclude revenue obligations from HQLA status. A summary of the Federal Reserve Board’s rationale for the final Fed Rule is set out in the following footnote[7] .

The final Fed Rule will take effect on July 1, 2016.

In interviews with The Bond Buyer[8], Congressional and trade group spokespersons expressed disappointment in the final Fed Rule. Representative Luke Messer said “Unfortunately, [the rule changes] will continue to discourage investment in our local communities. And, it will do little, if anything, to help cash-strapped school districts and municipalities finance critical infrastructure projects.” John Vahey, Director of Federal Policy at Bond Dealers of America, observed that it is “unfortunate that the Fed has chosen to continue to restrict and limit the use of general obligation bonds and completely exclude high-quality revenue bonds from the banking liquidity rule.”

Potential Impact of the Final Fed Rule? Prospects for a Legislative Override?

What, then, will be the impact of the Fed Rule as adopted? On the one hand, indications are that the HQLA limitations will reduce demand for U.S. municipal securities for covered banks and thus result in increased interest rates for securities bought by covered banks. Also, the continuing absence of a joint regulation that includes the OCC and the FDIC could result in differential standards that could disrupt the market even further. However, since the Fed Rule, as finally adopted, will directly affect only a dozen or so of the largest U.S. banks, it is unknown whether the ultimate Fed HQLA standards will affect non-covered bank lenders and the bond market generally[9].

In light of the passage of House Resolution 2209, the matter is not fully resolved. Whether House Resolution 2209 gains a Senate sponsor and can pass during this election year (not to mention the possibility of a Presidential veto) is speculative, but the industry response to the Fed’s action on HQLA may not be finished yet.

by E. Alston Ray and Caitlyn T. Smith

July 14, 2016

Footnotes

[1] 81 Fed. Reg. 21223 (April 11, 2016).

[2] H.R. 2209, passed February 1, 2016.

[3] 79 Fed. Reg. 61439 (October 10, 2014).

[4] U.S. banks currently meeting the criteria for “covered companies” under the Basel III standards are as follows: J.P. Morgan Chase & Co., Bank of America, Citigroup, Wells Fargo & Co., Goldman Sachs Group, Morgan Stanley, U.S. Bancorp, Bank of New York Mellon, PNC Financial Services Group, Capital One, HSBC North America Holdings, State Street Corporation, and TD Bank U.S. Holdings.

[5] The LCR divides HQLA into three categories of assets: Level 1, Level 2A, and Level 2B liquid assets. Specifically, Level 1 liquid assets are limited to balances held at a Federal Reserve Bank and foreign central bank withdrawable reserves, all securities issued or unconditionally guaranteed as to timely payment of principal and interest by the U.S. government, and certain highly liquid, high credit quality sovereign, international organization and multilateral development bank debt securities. Level 1 liquid assets, which are the highest quality and most liquid assets, may be included in a covered company’s HQLA amount without limit and without haircuts. Level 2A and 2B liquid assets have characteristics that are associated with being relatively stable and significant sources of liquidity, but not to the same degree as Level 1 liquid assets. Level 2 liquid assets include obligations issued or guaranteed by a U.S. government-sponsored enterprises (GSE) and certain obligations issued or guaranteed by a sovereign entity or a multilateral development bank that are not eligible to be treated as Level 1 liquid assets. The LCR subjects Level 2A liquid assets to a 15% haircut and limits the aggregate of Level 2A and Level 2B liquid assets to no more than 40% of the total HQLA amount. Level 2B liquid assets, which are liquid assets that generally exhibit more volatility than Level 2A liquid assets, are subject to a 50% haircut and may not exceed 15% of the total HQLA amount. Under the LCR, Level 2B liquid assets include certain corporate debt securities and certain common equity shares of publicly traded companies. Level 2 liquid assets, including all Level 2B liquid assets, must be liquid and readily marketable as defined in the LCR to be included in HQLA. Under the LCR final rule, U.S. municipal securities were not included in the definition of HQLA. However, under the final Fed Rule all U.S. municipal securities that qualify as HQLAs will constitute Level 2B liquid assets.

[6] All public comments to the Fed Proposal are available on the Fed website at http://www.federalreserve.gov/generalinfo/foia/ProposedRegs.cfm.

[7] In its summary of the final rule, the Federal Reserve Board offered the following rationale for its determinations (emphasis added):

a) Certain US municipal securities may be included as a level 2B liquid asset if they meet the liquid and readily marketable standard in the LCR rule

i) These securities will not be included as a level 2A liquid asset

b) Revenue bonds still are not eligible for inclusion as a level 2B liquid asset:

i) During periods of significant stress, the credit equality of revenue bonds tends to deteriorate more significantly than general obligation bonds.

ii) During times of significant stress, probability of default is considered along with the magnitude of expected loss upon default. Without general taxing authority support, the market would likely be more concerned about the probability of default for a revenue bond as compared to a general obligation bond.

iii) Historically, there have been a significantly higher number of defaults on revenue bonds than general obligation bonds.

iv) Liquidity could disappear if the specified revenue source of a revenue bond were found to be insufficient to meet its obligation, regardless of the total amount of the revenue bond outstanding.

c) A Board-regulated covered company may include as a level 2B liquid asset a US general obligation municipal security that has a guarantee from a financial institution as long as the company demonstrates that the underlying US general obligation municipal security meets all of the other criteria to be included as level 2B liquid assets without taking into consideration the insurance.

d) The final rule retains the limitation on the inclusion of US general obligation municipal securities of a single issuer. A Board-regulated covered company that owns more than 2x the average daily trading volume of all US general obligation municipal securities issued by a public sector entity may include up to 2x the average daily trading volume of such securities as eligible HQLA:

i) The Board believed that this 2x average daily trading volume cap could likely be absorbed by the market within a 30 calendar-day period of significant stress without materially disrupting the functioning of the market.

ii) The Board believed that this requirement ensures that US general obligation securities included as eligible HQLA remain relatively liquid and have buyers and sellers during periods of significant stress.

e) The final rule retains the 5% limitation on the amount of US municipal securities that can be included in a Board-regulated covered company’s HQLA amount:

i) The Board believed this limit will act as a backstop to address the overall liquidity risk presented by the municipal securities market, including the large diversity of issuers and sizes of issuances by ensuring covered companies’ HQLA amounts are not overly concentrated in and reliant on US municipal securities.

f) The final rule eliminates the 25% limitation on the total amount of outstanding securities with the same CUSIP number that could be included as level 2B assets:

i) This limitation could have barred certain companies from including certain municipal securities, and particularly small issuances, in their HQLA amount.

[8] “Fed Rule Treating More Munis as HQLA Seen As Too Restrictive,” The Bond Buyer, April 1, 2016.

[9] Many thanks to Belinda Hannah at First National Banker’s Bank in Birmingham, Alabama, and Alan Ganucheau, Greg Brewer, Jason Thomas and Steve Cole at Hancock Bank, for taking the time to discuss the Fed Proposal and its potential impact on the municipal securities market. However, nothing in this post is attributable to them or their employers, and, of course, any errors in this post are my own.

© Copyright 2016 Butler Snow LLP. All Rights Reserved.

Assured Guaranty topped the rankings of municipal bond insurers for the second quarter while Orrick Herrington & Sutcliffe LLP was the leading bond counsel.

Quarterly League Tables

Muni issuance is only a little behind last year’s pace but bond insurance penetration fell to 5.59% in the second quarter from 5.87% in the first quarter to land at 5.85% for the first half. Overall, the principal amount wrapped by Assured, Build America Mutual, and National Public Finance Guarantee – the three insurers writing new business – decreased to $12.79 billion for the first half of this year over 970 transactions, down from the $14.36 billion in 1,084 transactions during the first half of 2015, according to data from Thomson Reuters.

Assured retained its first place perch, despite having a lower principal amount insured and fewer deals with $6.84 billion in 464 deals from $8.75 billion in 594 deals, while also seeing its market share slip to 53.5% from 61% percent. The data includes Assured’s subsidiary Municipal Assurance Corp.

“During the second quarter of 2016, Assured Guaranty continued to lead the industry, insuring 267 small, medium and large new issues, which represented 53% of the insured par sold in the primary market. Our $3.8 billion of primary-market par was up 25% from the first quarter of 2016,” said Robert Tucker, senior managing director, investor relations and communications at Assured.

Tucker also mentioned that looking at Assured’s first-half 2016 primary market activity, they captured a similar 53% of the market by guaranteeing $6.9 billion of par.

“Our secondary-market activity for the half of 2016 was very strong,” Tucker said. “We issued 234 policies, totaling an industry-leading $752 million of par, 87% higher than in the first half of 2015. Our combined primary and secondary market par insured during the first half totaled $7.6 billion.”

BAM also saw increases, as its principal amount insured rose to $5.59 billion in 468 issues from $5.29 billion in 479 issues. Although the mutually-owned company didn’t do as many deals during the first six months of 2016 compared to the same period in 2015, they did see an increase in market share, improving to 43.6% from 36.9%.

“BAM had a great first half and a record second quarter, when our primary market par insured exceeded $3 billion for the first time,” said Bob Cochran, BAM’s chairman. “We got there by staying focused on our core mission of improving market access and transparency, particularly for small- and medium-sized issuers, and expanding investor demand for our guaranty.”

Cochran also said that they are definitely seeing a growing awareness of the unique benefits BAM brings to a transaction as a mutual insurer, which he said includes its excellent financial strength and durable, AA/stable rating, as well as the additional transparency it provides for every insured bond by publishing a free credit profile on its website.

“The increased investor demand for BAM-insured paper was particularly obvious in our secondary market activity, which totaled almost $260 million in 190 trades in the second quarter, more than doubling volume from both the first quarter of 2016 and the second quarter last year,” Cochran said.

National also had a better first half this year compared to last year, as its amount insured increased to $367 million over 39 transactions from $309 million in 11 transactions.

“In light of the ongoing difficult environment for our industry – with extremely low interest rates and the uncertainty regarding the outcome for Puerto Rico – we are pleased that investors continue to express demand for bond insurance,” said Tom Weyl, head of new business development at National.

The municipal arm of MBIA Inc., which started writing new business in the third quarter of 2014, saw its market share inch up to 2.9% from 2.1%.

“We are also pleased with National’s steady progress. We are gaining greater attention from important parties in the market that will further our progress, especially as market conditions become more favorable,” said Weyl.

In the bond counsel rankings, Orrick not only held its first-place position but extended its lead, as the firm finished the first half of 2016 with a par amount of $22.12 billion or 10.4% market share in 217 transactions, an improvement over the $20.69 billion or 9.7% market share in 205 transactions during the first six months of 2015.

“We are obviously happy with our firm’s results for the first half of 2016,” said Roger Davis, chair of Orrick’s public finance practice. “The national market volume was down by about 4% compared to the first half of 2015. Orrick’s volume was up by about 9%, and our market share jumped by almost two full percentage points to over 10%.”

Davis said that persistent low interest rates, accompanied until recently with the threat of rate increases by the Federal Reserve, led to a large number of refundings.

“And on top of that, we saw increasingly robust new money financing activity, particularly in multifamily housing, health care, public and charter schools, energy (including alternative and distributed energy), even governmental purpose (general fund and enterprise revenue) projects, all sectors in which Orrick is particularly strong,” said Davis.

Davis also noted that the office Orrick launched in Houston in January has been busy from inception is a substantial new contributor to the firm’s public finance group and its results.

“Looking ahead, we are as busy in all of our nine public finance offices around the country as I can remember being during the summer months,” said Davis.

Hawkins Delafield & Wood LLP stayed in second place with $11.09 billion or 5.2% market share over 173 deals, all slightly down from the $12.41 billion or 5.8% market share over 225 deals the firm finished with during the same period of time last year.

McCall Parkhurst & Horton LLP saw increased year over year, as the firm moved up to third from fourth place, finishing the half with $8.48 billion in 264 transactions versus $7.89 billion in 251 transactions.

Norton Rose Fulbright dropped from third to fourth to $6.87 billion from $9.69 billion, while Kutak Rock LLP moved up one spot into the top five with $6.14 billion from $6.10 billion.

Rounding out the top 10 are Squire Patton Boggs, Chapman and Cutler LLP, Stradling Yocca Carlson & Rauth, Sidley Austin LLP and Bracewell LLP.

The two biggest movers from the first half are Chapman and Cutler LLP, who jumped up to seventh from 15th a year ago and Bracewell LLP who leaped into the top 10 after finishing 16th during the first half of 2015.

Hawkins held the top underwriters counsel spot and pushed its lead further, finishing the first half of 2016 with $13.75 billion or 9.2% market share in just 65 deals, which compared to $10.58 billion or 7.1% market share in 83 deals in the first six months of 2015.

“For Hawkins in the first half of 2016, we had strong results across the board in terms of sectors and geography,” said Howard Zucker, managing partner at Hawkins. “This is due to having more lawyers devoted to the full-time practice of public finance than any other law firm in the nation, including 14 tax attorneys. Hawkins is 162 years old, and has been doing public finance for over 135 years but we know that we cannot rest on our laurels–we understand that we have to come to work each and every day to earn and deserve the trust and confidence of our clients.”

Zucker added that among the many deals in which Hawkins participated in that were noteworthy, the firm was counsel to the underwriters in the $2.4 billion dollar bond issue for the rebuilding of LaGuardia Airport that was a P3 transaction, and bond counsel for the refunding of bonds of the NYS Utility Debt Securitization Authority. In addition, Hawkins was also involved in several large transactions for the State of California, and many housing and hospital financings around the nation.

“After the bankruptcy of, among others, the City of Detroit, and the Federal enactment of legislation to address the financial situation in Puerto Rico, there is much more attention to the legal structure of transactions, including statutory liens and special revenues, and that requires expertise in bankruptcy and secured transactions,” said Zucker. “This is another example of the requirement that bond lawyers have the necessary expertise in multiple areas of the law.”

Hawkins opened its ninth office in Michigan last fall and as of Jan. 1, the firm added three partners to its ranks.

“We look forward with excitement to the future of public finance,” said Zucker.

Norton Rose Fulbright finished second with $8.02 billion, Stradling Yocca Carlson & Rauth was in third with $6.41 billion, Kutak Rock LLP came in fourth place with $5.78 and Nixon Peabody LLP was fifth with $5.75 billion.

Rounding out the top ten are Orrick, Squire Patton Boggs, Andrews Kurth LLP, Bracewell LLP and Greenberg Traurig LLP.

The biggest jump belonged to Bracewell LLP, who finished the first half of last year in 21st place and moved up to ninth this year.

“The trend for many years has been for greater specialization in the bond legal practice. This is a reflection of the increased complexity of municipal bond issues, the highly extensive regime of federal tax regulations, as well as the heightened disclosure expectations of the market and of the SEC,” said Zucker.

Zucker also noted that today law firms that want to be leaders in this field have to be truly dedicated, and have to commit significant resource to the depth and breath of expertise in order to be able to advise issuers and others in the navigation of the matrix of issues across the full range of sectors of public finance.

The Bond Buyer

By Aaron Weitzman

July 20, 2016

CLEVELAND, July 21, 2016 /PRNewswire/ — Republican elected officials from across the nation explained how infrastructure investments have fueled growth in their local economies, and said those successes support the case for more federal resources for infrastructure, as well as the preservation of tax-exempt municipal bonds in any tax-reform legislation. Their comments came during a policy briefing at the Republican National Convention sponsored by the National League of Cities (NLC), the nation’s largest and most representative organization for city officials, and Build America Mutual (BAM), the first mutual insurer of municipal bonds.

Hon. Ray LaHood, a Republican who represented Illinois’ 18th Congressional District for 14 years before being named Secretary of Transportation in 2009, opened the session by arguing that the federal government should raise the gas tax to generate more money for infrastructure investment – particularly focused on urban areas.

“The next generation of transportation is going to take place in the cities. It’s not about building more Interstates or bridges, it’s about how people are going to live in communities without needing automobiles,” Secretary LaHood said. “Until we get politicians in Washington and a new administration thinking along the lines of a big pot of money to jumpstart these opportunities, we’re selling ourselves short.”

Clarence Anthony, NLC’s CEO and executive director, said preserving the tax-exemption for municipal bonds, which cuts the cost of infrastructure investment for states, cities, counties and other municipal governments, is a key priority for local government leaders. The tax exemption must come alongside long-term, stable funding for infrastructure and transportation, comprehensive transportation planning, and support for local broadband access.

“We are going to both the Republican and Democratic conventions because cities need to be partners with the next president of the United States, whoever that will be. We need the candidates to understand that we must make infrastructure a priority for America,” Mr. Anthony said. “Cities are a crucial part of that conversation because when cities succeed, the nation succeeds.”

BAM Chairman Robert Cochran said the tax-exempt municipal bond market is uniquely positioned to provide U.S. states, cities, counties and other government agencies with affordable funding to meet the nation’s infrastructure needs.

“There is no doubt that there is municipal market demand and investors that will provide that additional $100-$150 billion of annual investment that it will take to get to that $1.5 trillion of infrastructure funding that we need in order to make up the gap over the next 10 years,” Mr. Cochran said.

Additional panel participants included Oklahoma City Mayor Mick Cornett, the president of the US Conference of Mayors; Fort Worth, Tex., Mayor Betsy Price, who co-chairs the NLC’s presidential elections task force; El Paso County, Colo., Commissioner Sallie Clark, president of the National Association of Counties; and Sheila Amoroso, who manages the municipal bond department at Franklin Resources, one of the largest investors in municipal bonds.

Build America Mutual

July 21, 2016

About the National League of Cities

The National League of Cities (NLC) is dedicated to helping city leaders build better communities. NLC is a resource and advocate for 19,000 cities, towns and villages, representing more than 218 million Americans. www.nlc.org.

About Build America Mutual

BAM is the first mutual insurer of municipal bonds and the leading insurer of new-issue municipal bond transactions. BAM’s members are the more than 2,000 municipal bond issuers – including cities, counties, school districts and utility systems nationwide – who have used BAM insurance to save more than $300 million on their infrastructure investments since 2012. To improve transparency in the municipal market, BAM publishes a Credit Profile for every transaction it guarantees, which can be downloaded for free at www.buildamerica.com/credit-profiles. BAM-insured bonds are rated AA with a stable outlook by S&P Global Ratings.

WASHINGTON – Two Senators have introduced a companion bill to a measure in the House that would permanently raise the annual issuer limit for issuers of bank­-qualified bonds to $30 million from $10 million.

The Municipal Bond Market Support Act of 2016 (S. 5237) was introduced by Sen. Bob Menendez, D­N.J. and referred to the Senate Finance Committee on Thursday. The bill is cosponsored by Sen. Ben Cardin, D­-Md., who is a member of the Senate Finance Committee’s taxation and IRS oversight subcommittee.

It is an identical version of The Municipal Bond Market Support Act of 2015 (H.R. 2229), which was introduced in the House in May of last year by Rep. Tom Reed, R­N.Y. That bill is pending before the House Ways and Means Committee.

Menendez and Cardin could not be reached for comment Wednesday.

The companion bills would raise the annual issuer limit to $30 million permanently for the first time since bank­-qualified bonds were created in 1986. The legislation would also index the annual issuer limits to inflation and apply to 501(c)(3) nonprofit borrowers rather than to the issuers they borrow from in conduit deals.

The bill pending in the Senate, if enacted, would greatly benefit many of the smaller, more rural jurisdictions that generally issue bank­-qualified bonds to fund infrastructure projects, Emily Brock, director of the Government Finance Officers Association’s federal liaison center here told The Bond Buyer on Wednesday.

“This would really benefit a significant number of GFOA members,” Brock said, adding that roughly 70% of the organization’s members are mid­-to­-smaller sized jurisdictions. “Smaller jurisdictions often have to pay a premium because of investor unfamiliarity with their area.”

Bank­-qualified bonds were created under the Internal Revenue Code of 1986 in order to allow smaller issuers to sell their tax­-exempt bonds directly to local banks. These bonds give local issuers a chance to bypass the traditional underwriting process and access more cost­-effective credit.

Brock said that small issuers often pay higher underwriting costs and also have a tougher time selling their bonds because investors oftentimes are not familiar with their jurisdictions. Selling bank­-qualified bonds directly to banks reduces issuance costs by roughly 25­-to­-40 basis points, according to GFOA’s bank­-qualified municipals bonds resource center. As a result, GFOA said that many small issuers have been forced to pay higher interest rates.

Under the current threshold, a 25­-to-­40 basis points savings on a 15­-year, $10 million bond would be between $232,000 and $370,000, according to GFOA. The basis points savings on a 15­-year, $30 million bond would range from $696,000 to $1.1 million, the group estimates.

Banks can currently deduct 80% of the carrying cost of a qualified tax­-exempt obligation under the federal tax code. The carrying cost includes the interest incurred from purchasing or carrying an inventory of securities.

However, Congress in 1986 limited bank purchases by saying banks could only buy the bonds of state and local governments that issue no more than $10 million of bonds during the calendar year.

Congress temporarily increased the issuer limit to $30 million in 2009 and 2010 under the American Recovery and Reinvestment Act, but that the increase was not renewed when it expired at the end of 2010.

Other versions of the Municipal Bond Support Act were introduced in the Senate in 2011 as well as in the House in July 2014.

Brock said the $30 million threshold was reached because the $10 million level set three decades ago was not tied to inflation. When indexed for inflation, the figure would be roughly $30 million, she said.

Brock said GFOA will continue to push through grassroots efforts to gain support for the bill, as well as urge more Senators to cosponsor the bill. A letter supporting the Municipal Bond Market Support Act of 2016 was sent to Menendez on June 24 was signed by 14 organizations, including GFOA, Bond Dealers of America and the National Association of Bond Lawyers.

She said she is confident that the bill can garner more support ahead of the next Congress because of the identical bills introduced in both the House and Senate.

“This is a stronger step than we’ve made in the past,” she said. “It allows both houses to see that this is a priority, and it sets the stage for really good conversation. It’s definitely a positive step in the right direction.”

The Bond Buyer

By Evan Fallor

July 20, 2016

Virtually everyone agrees that the United States needs modern, well-maintained infrastructure to ensure its future prosperity. Platforms produced for both major political parties at their conventions this month mention the issue, with Democrats pledging to “make the most ambitious investment in American infrastructure since President Eisenhower created the interstate highway system” and Republicans noting that “everyone agrees on the need for clean water and safe roads, rail, bridges, ports and airports.”

Yet financing that infrastructure has become highly contentious. Lawmakers at all levels of government – have different ideas of how much to spend on infrastructure and where that money should come from, and a hesitancy to increase taxes or concerns over spending huge amounts of money on “luxury” upgrades has created political gridlock in many places.

But if the spending were less controversial and the political will were there, the U.S. could substantially transform its infrastructure. The new construction and upgrades could change how Americans travel, strengthen the country’s economic engine, and make our communities safer and happier places to live. Texans might ride a futuristic bullet train to Atlanta, every child might attend a modern well-equipped school, and no city would have to worry about the safety and reliability of its drinking water.

As The Bond Buyer reaches 125 years of covering how America finances its infrastructure needs, we take a look at ten key areas of need and what could happen if money and politics weren’t in the way. We examine what the project is, how it could benefit America, and, importantly, how it could be financed.

INTERSTATE 2.0

What it is:
A total modernization of the interstate highway system with upgrades such as dedicated truck lanes, redesigned interchanges to reduce bottlenecking, and express bus service

How it benefits the country or region:
The new interstate would improve commerce and the quality of life by reducing travel times and creating easier access to major population centers. The existing system was built more than half a century ago during the presidency of Dwight Eisenhower, and in many sections is inadequate for modern traffic needs or becoming aged and unreliable.

How much it costs:
Roughly $1 trillion

How it gets paid for:
All options on the table, but the most realistic is likely a combination of federal spending driven by user fees such as gas taxes and some local investment. Gas taxes have historically been the major means, but P3s are possible if allowed by the federal government.

AIRPORT INFRASTRUCTURE

What it is:
A radically consolidated ATC system with current control towers replaced by ground-level or underground facilities using an array of airport sensors at large airports, along with expansions and modernizations.

How it benefits the country or region:
Creates a more efficient and safer air travel. Air travel facilitates the movement not only of passengers but also of goods, and is a crucial economic driver for many localities with large or hub airports.

How much it costs:
Billions, but exact cost depends on the extent of the upgrades. The Federal Aviation Administration is attempting to implement its “NextGen” technological upgrades program, but has said it is dependent on full federal funding for the next 3 years, a political uncertainty.

How it gets paid for:
Federal spending or existing avenues of airport finance, including bonds backed by airport fees. Passenger Facility Charges, fees levied at commercial airports controlled by public agencies, are capped at $4.50 per passenger and could be raised to produce more revenue.

BRIDGE REPLACEMENT

What it is:
A replacement of structurally deficient and obsolete bridges nationwide. The American Road and Transportation Builders Association estimates that there are 58,495 U.S. bridges in need of repair.

How it benefits the country or region:
Rebuilt bridges are safer and improve traffic flow because they can handle increased weight loads, whereas some older bridges now have had to limit traffic for safety concerns. Bridge replacement could also facilitate expansion of certain highway sections crucial to some local economies.

How much it costs:
Likely over $150 billion nationwide.

How it gets paid for:
A good P3 candidate because they can be tolled and backed with revenue bonds.

WATER INFRASTRUCTURE

What it is:
A replacement and expansion of America’s existing drinking water infrastructure, much of which is past or approaching its useful life

How it benefits the country or region:
Outdated water infrastructure can be unreliable or even unsafe, as in Flint, Michigan. Water main breaks can interrupt service and cause costly damage.

How much it costs:
The American Water Works Association has estimated it will cost about $1 trillion through 2035, assuming replacement of the entirety of America’s drinking water system over that time. Drinking water components typically have a 15-95 year useful lifespan.

How it gets paid for:
Local planning and financing is the way to go, as each localities needs are unique. Some communities would pay as they go, others would bond.

NATIONWIDE HIGH SPEED RAIL

What it is:
A nationwide network of trains capable of exceeding 200mph. Such trains are already common in Europe and Asia, but are essentially nonexistent in the U.S. Amtrak operates a “high speed” Acela service in the Northeast, but its average speeds along its route are considerably slower than other high speed rail services globally.

How it benefits the country or region:
These trains could provide a green, fast way to travel between major metropolitan areas. They could serve as an alternative to air travel for short to intermediate distance trips, such as between Seattle and San Francisco or Houston and New Orleans. The U.S. Conference of Mayors has touted the economic benefits high speed rail would have to cities served by it.

How much it costs:
$500 billion plus

How it gets paid for:
A combination of federal dollars and local borrowing via bonds. The federal government has shown an interest in helping local governments leverage federal money to build high speed rail infrastructure.

PORT MODERNIZATION

What it is:
A series of improvements to the largest U.S. ports to ensure their continued economic competitiveness. Includes deepening them, adding more land-side cargo infrastructure, inclusion of robotic technologies.

How it benefits the country or region:
Modernized U.S. ports will facilitate more efficient interstate and international commerce, and help prevent port-driven localities from being driven out of business by ports in Mexico or Canada.

How much it costs:
More than $1 trillion

How it gets paid for:
Port authorities would borrow via bonds backed by their revenues. Port Authorities are already often some of the largest most frequent issuers in the U.S., and many have high credit ratings allowing them to borrow at a low cost.

SCHOOL UPGRADES

What it is:
Getting U.S. K-12 education into good operating condition. Almost half of U.S. public school buildings were built for the baby boom generation born between 1950 and 1969, the American Society of Civil Engineers reports.

How it benefits the country or region:
U.S. schools serve as not only education centers, but also as community gathering places, shelters during disasters, and other important functions.

How much it costs:
$270 billion plus.

How it gets paid for:
State and local spending, including bonds that could be either general obligations or increasingly-popular property-tax bonds. The ASCE also recommends exploring alternative financing options and innovative ways to reduce costs. Warren County Kentucky’s Richardsville Elementary School, for example, generated enough electricity via solar panels to sell energy back to the grid.

HAZARDOUS WASTE SITE CLEANUP AND REDEVELOPMENT

What it is:
Cleanup and redevelopment of more than 1,000 unsafe brownfield sites. The U.S. produces millions of tons of hazardous waste annually.

How it benefits the country or region:
These sites pose a potential health and safety risk and also can’t be turned into useful public sites until they are cleaned up and made safe.

How much it costs:
Roughly an extra $500 million annually over what the Federal government currently spends. Possibly more than $200 billion over the next 30 years.

How it gets paid for:
Federal spending through the Environmental Protection Agency’s Superfund is the traditional way, but the EPA can also force whoever is responsible to clean up the site in many cases. Localities could partner with the federal government or be incentivized to redevelop these sites locally.

LEVEE REPAIR

What it is:
Repair and replacement of American levees, which protect both farmland and developed areas from flooding. The U.S. has some 100,000 miles of levees in all 50 states and the District of Columbia

How it benefits the country or region:
Insufficient or outdated unreliable levees can fail, causing devastating losses to the communities affected.

How much it costs:
More than $100 billion.

How it gets paid for:
P3s are a possibility, if surrounding infrastructure or the waterway can be monetized. US Army Corps of Engineers needs additional federal funding, localities must increase investment on levees not the responsibility of the federal government.

NEW AGE ENERGY INFRASTRUCTURE

What it is:
Modernizing and expanding an increasingly outdated and unreliable distribution and transmission network for U.S. power supplies.

How it benefits the country or region:
Outages are a huge blow to the communities affected, slowing business to a crawl and creating a dangerous situation.

How much it costs:
Experts believe there is an investment gap of roughly $100 billion over the next several years.

How it gets paid for:
Largely local and P3, but federal government can play a role, particularly in incentivizing or helping in the development of green energy infrastructure.

The Bond Buyer

By Kyle Glazier

July 19, 2016

Last week, a group of Senate lawmakers introduced legislation (S 3257) that would permanently raise the issuer limit on bank-qualified bonds from $10 million to $30 million. The legislation, which breathes new life into the effort to restore the annual issuer limit to $30 million, is the culmination of work by GFOA’s Federal Liaison Center with the offices of Senator Cardin (D-MD) and Senator Menendez (D-NJ).

This legislation is identical to the legislation introduced in the House late last year (HR 2229), which is a significant step in the right direction—it not only sends a message to both the House and Senate about the importance of raising the bank-qualified loan limit, but it also sets the agenda for what may prove to be an exciting 115th Congress beginning in January 2017.

The Federal Liaison Center encourages GFOA members to reach out to your senators and encourage co-sponsorship on this important legislation. Our Bank-Qualified Loan Resource Center provides sample letters and other helpful information about the legislation and the history of bank-qualified bonds.

Bank-qualified bonds were created in 1986 to give smaller issuers more cost-effective access to credit by allowing them to bypass the traditional underwriting system and sell their tax-exempt bonds directly to local banks. In addition to the higher costs of issuance in the normal underwriting process, many small issuers have a difficult time selling their bonds because investors may not be familiar with their jurisdictions. Many small issuers have therefore been forced to pay higher interest rates on their bond issuances.

Recognizing the utility of bank-qualified bonds to overcome these cost barriers, Congress temporarily expanded their use by raising the issuer limit to $30 million annually in 2009, and as a result, the market for bank-qualified bonds increased to approximately $32 billion that year. However, despite the effectiveness of bank-qualified bonds and bipartisan support on Capitol Hill, Congress did not extend these provisions beyond their December 31, 2010, sunset date, and on January 1, 2011, the annual issuer limit for bank-qualified bonds reverted to $10 million.

GFOA

Tuesday, July 19, 2016

GASB Chair David A. Vaudt recently announced the appointment of a consultative group to assist with the Board’s research examining equity interest ownership of legally separate entities.

The members of the consultative group are:

• Lynne Bajema, Oklahoma State Comptroller, Office of Management and Enterprise Services
• William Bonawitz, Director of Research, PNC Capital Advisors, LLC
• Iain C.W. Briggs, Partner, Spectrum Health Partners, LLC
• Gregory A. Clark, Head of Municipal Research, Debtwire
• Suresh Geer, Executive Director of Finance, Seminole Tribe of Florida
• Greg S. Griffin, State Auditor, State of Georgia
• Demetria V. Hannah, Economic Statistical Methods Division, US Census Bureau
• Duane Hopkins, Chief Financial Officer/Deputy Director, Fort Collins Housing Authority
• Douglas J. Kilcommons, Senior Vice President – National Credit Team Manager, Wells Fargo Bank, N.A.
• Robert C. Kuehler, Associate Vice President/University Controller, University of Colorado
• Kristin Montgomery, Controller, California Public Employees’ Retirement System
• John G. Moore, Executive Vice President/Chief Financial Officer, Parkland Health and Hospital System
• Tasha N. Repp, Tribal Services Group Partner, Moss Adams LLP
• Bart Rodberg, Director, RSM US LLP
• Blake Rodgers, Audit Senior Manager, Deloitte & Touche LLP
• Craig D. Shoulders, Professor, The University of North Carolina at Pembroke, Department of Accounting and Information Technology

WHAT DO CONSULTATIVE GROUPS DO?

The GASB assembles consultative groups at the discretion of the GASB chair for pre-agenda research that is expected to be extensive and to address a broad portion of the accounting and financial reporting standards. Consultative groups serve as a sounding board, providing suggestions and feedback to the GASB staff as research activities progress. As part of this process, consultative group members review drafts of research 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 issue being researched 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. The GASB attempts to maintain an appropriate balance of financial statement preparers, auditors, and users on each consultative group.
Within each group, the GASB seeks to include a variety of types of stakeholders, such as finance officers from general purpose governments and business-type activities; auditors in government and private practice; and users from the municipal bond industry, citizen and taxpayer groups, legislative bodies, and the academic community. The GASB also tries to balance other factors that may be relevant, such as governments of various sizes and geographic areas of the country.

The Governmental Accounting Standards Board (GASB) is conducting a survey on the effectiveness of financial stress indicators of state and local governments. The survey is intended to gather feedback on the following questions: 1) What criteria might achieve the objective of disclosing severe financial stress uncertainties with respect to governments; 2) What information do financial statement users need with respect to the disclosure of severe financial stress uncertainties; and 3) Are the going concern indicators currently presented in note disclosures appropriate for state and local governments under severe financial stress.

The survey can be accessed here and should be completed no later than Friday, August 5, 2016. If you have any questions, you can contact Amy Shreck of the GASB project team at ashreck@gasb.org. You do not need to complete the entire survey in one session. If you save your responses, you will receive an individualized link that you can use to complete your survey later.

DALLAS -­­ A $2 billion flood diversion project aimed at preventing future natural disasters in North Dakota and Minnesota will be the first public­p-rivate partnership for the U.S. Army Corps of Engineers.

The Red River project would protect more than 225,000 residents and $14 billion of property by moving floodwaters away from Fargo, N.D., and other areas that suffered from a massive flood in 2009 that nearly inundated the region.

The project includes a channel that is 36 miles long and a quarter­-mile wide, two aqueducts, four railroad bridges, four interstate highway bridges, and 10 county road bridges.

The partnership agreement for the diversion project was signed July 11 by Lowry Crook, deputy assistant secretary of the Army for civil works, as well as the mayors of Fargo, N.D., and Moorhead, Minn., and the directors of the Fargo­-Moorhead Flood Diversion Authority.

The Red River has flooded the area 49 times in the past 110 years, including every year from 1993 to 2011 and again in 2011. Another major flood could cause more than $10 billion of damages, said diversion authority chairman Darrell Vanyo.

The agreement formalizes the federal government’s $450 million contribution to the $2 billion project and paves the way for a formal request from the Diversion Authority next month for qualification from interested private partners.

The Red River project will be the Army Engineers’ first P3 test, said Corps commander Lt. Gen. Thomas P. Bostick.

The Water Resources Reform and Development Act of 2014 (PL 113­121) required the Army Engineers to create a pilot P3 program with up to 15 projects.

“We can’t wait. The nation can’t wait,” Bostick said. “Finding a way to think creatively about funding these projects is very important.”

Private investors are necessary because Congress provides only $1.5 billion a year to fund $23 billion of Corps’ projects, he said.

“For the Corps, we’ve hired people who wake up every day and their number one mission is to think about public­-private partnerships and [how] to move them forward,” Bostick said.

North Dakota and its local governments will provide $1.2 billion to build the project, with $175 million of state funds already committed. Minnesota, which will receive fewer benefits from the project than its neighbor, will contribute up to $100 million.

The local governments will fund most of their share of the project costs with proceeds from revenue bonds supported by a dedicated 0.5% sales tax already approved by voters in Fargo and Cass County, N.D., said county administrator Keith Berndt.

The private partner is expected to provide up to 20% of total project costs.

The Flood Diversion Authority intends to use local sales tax revenues and state funds to make annual availability payments to the selected concessionaire.

The private partner that would be selected in 2017 would be responsible for financing its share of the project, building the required infrastructure, and operating the diversion facility for up to 35 years.

The Army Engineers will build a 12­-mile dam on the Red River to direct floodwaters into the diversion channel though a conventional design­/build approach, said Corps project manager Terry Williams.

It would take 20 years or more for the Corps to complete the entire project without the private partners because its federal funding comes in annual installments that are not consistent, Williams said.

“They may be able to find more innovative ways to design and build it knowing that they are going to have this operation and maintenance,” she said. “They may be willing to take a little more risk than the Corps would if we were designing and building it.”

The Bond Buyer

By Jim Watts

July 13, 2016

Cities nationwide have crafted and acted on ambitious blueprints for light-rail and other forms of mass transit, but unlike the Twin Cities, many of them have asked their voters whether they want higher taxes to help pay for it.

Ballot initiatives “give local officials the ability to turn a tricky political decision over to the voters,” said Jason Jordan, executive director of the Center for Transportation Excellence, a Washington, D.C., group that tracks transit spending. Since 2000, transportation initiatives have been on the ballot in 41 states, with an average of 71 percent passing.

A referendum of this sort has not been considered in Minnesota because the Legislature would have to authorize it. And, since efforts to pass a half-cent metro sales tax for transportation were thwarted by light-rail-averse Republicans last spring, that seems unlikely.

The final piece of local funding for the $1.79 billion Southwest light-rail line, totaling $135 million, is now in doubt. The fate of close to $900 million in federal matching funds for the controversial project is murky as well.

Partisan politics over mass transit haven’t necessarily played out nationally the way they have in Minnesota, according to Jordan. “We have found no partisan connection with these [transit] measures at all,” he said. “Voters really have a chance to evaluate whether they believe there’s value in a project or not.”

This fall, Seattle-area residents will vote on an initiative called Sound Transit 3 that calls for new sales and property taxes to fund $53.8 billion in transportation projects, including 62 additional miles of light rail.

Voters in the car-clogged Los Angeles area will decide in November whether to increase a county sales tax by half a cent for the next 40 years, raising about $120 billion to expand mass transit and various transportation initiatives.

Other cities, including Dallas, Phoenix and Denver, have used voter-approved tax revenue to build transit systems that are far more expansive than the Twin Cities’, which at the moment has two light-rail lines spanning 23 miles.

Dallas, Texas’ third-largest city, boasts a $5 billion light-rail network that is the longest of its kind in the country with some 90 miles of track. Last summer, Phoenix voters approved a $31.5 billion transportation plan for the next 35 years that includes a transit sales tax increase to 0.7 percent. The funds will help build 42 miles of light rail.

In Denver, a city often seen as a peer to the Twin Cities, voters in 2004 approved the $4.7 billion FasTracks program, which added 122 miles of new commuter and light-rail lines in the region, as well as bus-rapid transit (where buses operate like trains) and related infrastructure.

However, Denver discovered the hard way how sales taxes ebb and flow with the economy. Once the Great Recession hit, costs of the transit program ballooned to nearly $7 billion, leaving a budget gap of $2.2 billion. A unique public-private partnership involving local businesses stepped in to help fund several rail lines, including one connecting Union Station in downtown Denver to the Denver International Airport.

Now back on track, transit options in Denver have been crucial in attracting millennials to the city, as well as $5.5 billion in transit-oriented development, said Nate Currey, spokesman for the Regional Transportation District. “You do not have to have a car to live here,” he said, adding that aging baby boomers are shedding their wheels, too.

Transit “is a big economic competitiveness issue for us to compete as a region,” said Adam Duininck, chairman of the Metropolitan Council, the regional body in the Twin Cities that plans and operates transit. “When you look at how we compare to other regions, we do well in all areas except for transit.”

There is a little-known transit sales tax in the metro area that has played a key role in funding big projects, such as the nearly $1 billion Green Line, linking the downtowns of Minneapolis and St. Paul.

Since 2008, five Twin Cities metro counties — Hennepin, Ramsey, Washington, Anoka and Dakota — have used the quarter-cent sales tax and a $20 motor vehicle sales tax to invest in transit projects administered by a group of mostly elected officials called the Counties Transit Improvement Board (CTIB). And 10 years ago, a general referendum question passed by voters dedicated 40 percent of motor vehicle sales tax proceeds to transit over a five-year period.

But Dakota County, unhappy with its return from the transit tax, voted last month to leave the group, and other suburban counties may follow.

If cities are unable to raise local money for big transit projects like light rail, they are in danger of losing matching dollars from the Federal Transit Administration. The FTA’s New Starts program, which pays out about $2.3 billion a year for new light rail, commuter rail and bus-rapid transit projects costing more than $250 million, looks first for a local funding commitment before awarding its grant money.

The competition for FTA money is fierce, transit experts say.

“You snooze, you lose,” said Hennepin County Commissioner Peter McLaughlin, who chairs CTIB. “If we whiff on [Southwest], we’re letting competitor regions with a vision march ahead of us.”

Critics disagree. Light-rail is “really expensive infrastructure to build and keep up that doesn’t work,” said Kim Crockett, vice president of the Center of the American Experiment, a think tank based in Golden Valley. The race for federal transit dollars — also footed by taxpayers — is a wasteful folly, she said.

Even cities like Seattle that are perceived as being transit-friendly have critics. John Niles, who co-founded a Seattle group called Smarter Transit, says the impending ballot initiative in the Emerald City would cost the average person $1,000 more a year. (The transit agency there, Sound Transit, claims the figure is $200 a year.)

Niles says Seattle should refine its current system — much of which was built after a 2008 referendum added 2 percent in various sales taxes — before expanding it even more. “Let’s use the existing network to its full potential,” he said. “This may be a bridge too far.”

Meanwhile, other cities and regions continue to look to voters for a thumb’s up on transportation. This fall, more than 20 regions across the United States — from Pulaski County, Ark., to Kalamazoo, Mich., — will hold referendums to raise money for transportation initiatives, according to the Center for Transportation Excellence.

The Minnesota Star Tribune

By Janet Moore

JULY 13, 2016 — 10:33AM

The website Quartz reported recently that yields on U.S. 10-year Treasury bonds are lower than they have been since the days of Alexander Hamilton.

But when it comes to bond yields, zero is not the limit. Brexit and uneasiness about the global economy have pushed interest rates on a third of developed-country government debt into negative numbers as investors seek safe havens. That means countries like Germany, Switzerland and Japan are charging investors money for the privilege of holding onto their cash.

Government bonds are many Americans’ introduction to investing, and for many of us they represent safety and solidity in a volatile world. In fact, lots of investors have been moving into bonds as the stock market has been in turmoil lately, which is part of the reason yields are falling.

But with returns so low, would we be better off putting money in the mattress?

Not surprisingly, investment managers say no. Bonds are still an important part of your diversification strategy for retirement. This is because they counterbalance movements in the stock market, and their yields are much more stable than those of stocks.

Here are some topics to discuss with your investment manager.

–What types of bonds are best for you?

Again, within the overall category of bonds, most people are most familiar with U.S. Treasuries. They have an interest rate or coupon that is set on the day you buy it and paid out every six months for a term that ranges from 1 to 10 years for Treasury notes, and up to 30 years for Treasury bonds. You get the full principal back when the bond reaches maturity, giving some insulation from market ups and downs. However, there is market risk if you need to sell before the term is up.

The same basic structure is in place for other types of bonds: those issued by foreign countries, by corporations, or by U.S. state and local governments or their agencies (known as municipal bonds). Note that muni bonds can have special federal tax exemption (and possibly state or local tax advantages if you buy them for the city and state where you live).

In all these cases, by buying a bond you are essentially lending money to the entity in question. In general you’ll find higher yields where there is also higher risk of default, as when lending to developing countries or distressed U.S. cities, or when buying “junk bonds” issued by higher risk firms, particularly in the energy sector.

–Is it better to own bonds or bond funds?

Bond funds are basically collections of bonds with staggered maturities. Just as with mutual funds full of stocks, you pay a management fee and expense ratio. In fact, the increasingly popular target-date retirement funds tend to include both stocks and bonds.

And, because it’s a bouillabaisse of different holdings, there is no guaranteed date that you’ll get back your principal.

That said, many investment managers feel that it’s difficult to properly diversify through buying individual bonds unless you have a lot of money to park specifically in fixed-income investments. (What “a lot” means can vary — some say half a million dollars, while others argue that a hundred thousand is plenty.)

And the pressure to diversify is increasing with yields on the standard Treasury bonds so low.

So to recap, for most beginning investors, proper exposure to bonds will come in the form of target-date funds which will give you a selection of U.S. Treasuries, corporate and foreign issues, alongside stocks.

For those with more assets or who are heading closer to retirement — meaning you are shifting more towards fixed-income investments — bond-only funds would be the next place to look.

If you are willing to be an active money manager or work with an investment adviser you trust, you should look beyond Treasuries to buy individual bonds across sectors.

The Chicago Tribune

by Anya Kamenetz

July 12, 2016

(Anya Kamenetz’ most recent book is “The Test: Why Our Schools Are Obsessed with Standardized Testing, but You Don’t Have to Be.” She welcomes your questions at diyubook@gmail.com.)

(c) 2016 ANYA KAMENETZ DISTRIBUTED BY TRIBUNE CONTENT AGENCY, LLC

Copyright © 2016, Chicago Tribune

These distressed bonds from troubled places like Puerto Rico or Atlantic City can return as much as 8% after the tax exemptions.

Buying distressed bonds is hardly the stuff of muni investors’ dreams. But with the yield on high-quality intermediate munis down near 1.4%, the opportunity to earn extra income by buying insured bonds from places with weak credit profiles is worth a look.

Consider this: Long-term insured Puerto Rico bonds, the main opportunity for this strategy, yield about 4.5% currently. Given that the interest is exempt from federal, state, and local income taxes, that payment equals a taxable yield of nearly 8% for investors in a top tax bracket.

Insured muni prices have held steady near or above par for years, even as Puerto Rico’s finances deteriorated. In contrast, uninsured benchmark Puerto Rico bonds now trade for 67 cents per dollar of par value, reflecting how much of the face amount investors expect to recoup.

Insured bondholders got paid this month even as the commonwealth defaulted on July 1 on almost a billion dollars in interest and principal payments. At a time when munis are expensive relative to Treasuries and yields are at historic lows, “the insured Puerto Rico story still offers value,” wrote Cumberland Advisors, which manages $105 million in insured Puerto Rico bonds.

There was a time in the muni market when buying insured bonds was commonplace. The financial crisis changed that. Bond insurers failed or had to restructure, and even the best firms lost their triple-A ratings. Now the leading muni insurers—MBIA’s National Public Finance Guarantee and Assured Guaranty—have credit ratings in the mid-to-upper tiers of investment grade. Investors essentially evaluate the underlying bond based on the insurer’s rating. That’s why insurance doesn’t add value for the great majority of muni bonds, which are rated higher than the insurers.

“You need a broken credit for the market to really assign value to the insurance,” says Hugh McGuirk, who oversees municipal-bond investing at T. Rowe Price. That’s also why there aren’t a ton of insured bonds to choose from. Less than 10% of the muni market is insured now, but that number is increasing, according to National.

IT’S NOT JUST PUERTO RICO insured bonds that investors are buying. Chicago Board of Education insured munis trade at a premium to uninsured, and yields are attractive. National points to bonds issued by Atlantic City, N.J.; Chicago; and North Las Vegas as recent examples of insured bond prices holding steady or rising while uninsured bonds fell. Cumberland says long-term insured munis outside Puerto Rico yield about 2.5%.

Buying insured bonds of weak credits requires extra legwork, says financial advisor Richard Daskin of RSD Advisors. Investors need to assess the underlying bond and the ability of the insurance company to pay if the issuer defaults. He is comfortable with both National and Assured and thinks they merit higher ratings from credit agencies.

Other drawbacks: Daskin experienced a few delays in receiving payments on insured bonds when Puerto Rico defaulted earlier this month, mainly due to paperwork snafus when the default occurred just before a holiday weekend. “It was eye-opening as to how insurance really works,” he says. He notes the bonds are not very liquid, so investors should plan to hold them long term.

Mark Taylor, manager of Alpine High Yield Managed Duration Municipal fund (ticker: AAHMX), buys insured munis maturing in under five years. He believes National and Assured can meet their obligations in that period. He owns Puerto Rico bonds maturing in 2020 that yield about 4%.

But this strategy is not for everybody. Greg Steier, head of tax-exempt portfolios at Brown Brothers Harriman, won’t buy munis when he’s not confident of credit quality, even if there is insurance. “At the end of day, the underlying credit has to satisfy our criteria,” he says.

For T. Rowe’s McGuirk, insured bonds are “on the table.” He adds, “There aren’t many other opportunities where you can find yield.”

BARRON’S

By AMEY STONE

July 16, 2016

These guidelines offer guidance for managing investment pools in a manner that provides state and local government participants with investment options that, when prudently managed, provide safety of principal and liquidity.

Read the Report.

New Hampshire has joined a growing number of jurisdictions in the United States that have enacted legislation enabling public-private partnerships (P3) for transportation infrastructure projects. According to Governor Maggie Hassan, the P3 Law is expected to play an important role in advancing New Hampshire’s transportation goals, including, among other projects, bringing commuter rail from Boston to Nashua and Manchester, New Hampshire. The P3 Law, Senate Bill 549, was approved on June 16, 2016 and will take effect on August 15, 2016.

The P3 Law authorizes the Commissioner of the State’s Department of Transportation (DOT) to enter into certain types of contracts with private entities for transportation infrastructure projects, and establishes a public-private partnership transportation infrastructure oversight commission to recommend and advise on requests for P3 proposals.

DOT’s Authority to Enter into P3 Contracts with Private Entities

P3s allow for certain risks and rewards to be shifted and shared between the private and public sectors. Specifically, according to the P3 Law, “public-private partnerships allow for the sharing of resources to finance, design, build, operate, and maintain transportation infrastructure projects and are especially effective when limited financial resources are available.” The responsibilities of the private and public entities involved and associated risks and rewards will generally depend on how the P3 project is structured among various alternatives. Pursuant to the P3 Law, the Commissioner, with the approval of the Governor, Council, and Capital Budget Overview Committee, may now enter into agreements with private entities for design-build-finance-operate-maintain (DBFOM) or design-build-operate-maintain (DBOM) services for transportation infrastructure projects.

• DBFOM: Under this P3 structure, the private entity will generally be responsible for the design, building, finance, operation, and maintenance of the project for a specified period of time, while the public entity simply retains title to the asset.
• DBOM: Under this P3 structure, the private entity will generally be responsible for the design, building, operation, and maintenance of the project, while the public entity retains title in the asset and secures the funds.

Each P3 project must be approved as part of the State’s 10-year transportation improvement program in accordance with Section 240 of the New Hampshire Revised Statutes Annotated.

P3 Transportation Infrastructure Oversight Commission

The P3 Law establishes a public-private partnership transportation infrastructure oversight commission (the Commission) to consider and recommend suitable P3 projects to the Commissioner. The Commission will act as an advisory board during the execution of a P3 project, and support the DOT in the development of a request for proposals and in the preparation of agreements for P3 projects.

Members

The Commission will consist of the following members, each for an initial term of two years: two members residing in different geographic regions of the state to be appointed by the Governor; two members to be appointed by the President of the Senate; two members to be appointed by the Speaker of the House of Representatives; and one member to be appointed by the State Treasurer who will not be an employee of the State Treasurer’s office. The Commissioner will serve as a non-voting member of the Commission. Note that there are additional qualifications and conditions to appointment and reappointment specified under the P3 Law.

Duties

The P3 Law sets forth the various duties of the Commission, which include the following:

• Establish a general framework for P3 contracts and a process for the submission and evaluation of all such projects and forms to enable the bidder to comply with the requirements, including terms and conditions;
• Provide for the submission of unsolicited proposals, and establish qualification criteria and evaluation standards for unsolicited proposals;
• Provide a method and structure for engaging public advisers for strategic planning, proposal evaluations, and project monitoring on a case-by-case basis;
• Perform an analysis to determine whether a project is suitable for P3 whenever DOT notifies the Commission of its intent to pursue a P3 contract;
• Hold a minimum of two publicly noticed hearings per project to establish whether P3 is the appropriate procurement method;
• Make recommendations to the Commissioner, subject to the approval of the Governor, Council, and Capital Budget Overview Committee, concerning the use of P3 for certain projects;
• Upon approval of the Governor and Council and the Capital Budget Overview Committee, support DOT in the development of a request for proposals;
• Provide criteria for qualifications to bid per project, including but not limited to adequate equipment to perform, financial stability, and proven record on projects of this type; and
• Assure that any P3 agreement is advanced in accordance with DOT’s design, permitting, and right of way acquisition process and complies with all federal and state design criteria.

Procedures

The P3 Law sets forth certain procedures that must be followed in approving any P3 proposal. The DOT must first notify the Commission of its intent to use a P3 contract for DBFOM or DBOM services by submitting a written request to the Commission for its consideration. The Commission must provide an initial written response within 15 days. No request for proposal may be issued by the DOT without the Commission’s written recommendation and concurrence by the Governor and Council of both the procurement method and content of such request for proposal.

Reports

Under the P3 Law, the Commission will be responsible for issuing certain reports, including the following:

• An initial report on the framework for submission and evaluation of P3 projects;
• Annual reports on the work of the Commission, including the number of projects reviewed, recommendations for such projects and the number of requests for proposals being developed; and
• A report for each P3 contract relating to the project’s impact on current state employees; policy and regulatory structure for overseeing a privately operated transportation facility; taxation, profit-sharing and resolution of new revenue producing ideas; advertising and marketing; use of new technologies; lease terms and termination clauses; additional responsibilities by both the private infrastructure operator and the State during the lease period; financial valuation of the state transportation facility; issues of public concern; and anticipated advantages of entering into such P3 contract.

Contributions from Other States

A P3 project in New Hampshire may involve one or more neighboring states. For such a project under the P3 Law, the Commissioner may receive and accept capital contributions and funding from other states and may approve the transfer of support personnel and experts.

New Hampshire’s P3 Law is limited to transportation infrastructure projects and does not allow for social infrastructure projects, such as schools, hospitals, and housing, which have become more popular throughout the country. The P3 Law also limits the delivery methods in which P3 projects can be procured.

Attorneys in Ballard Spahr’s P3/Infrastructure and Public Finance Groups will continue to monitor and report on new developments in public-private partnerships in New Hampshire and other states. The Groups are recognized leaders in representing government and private sector developers, investors, and lenders in innovative public-private projects.

 

July 15, 2016

Copyright © 2016 by Ballard Spahr LLP.
www.ballardspahr.com
(No claim to original U.S. government material.)

All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, including electronic, mechanical, photocopying, recording, or otherwise, without prior written permission of the author and publisher.

This alert is a periodic publication of Ballard Spahr LLP and is intended to notify recipients of new developments in the law. It should not be construed as legal advice or legal opinion on any specific facts or circumstances. The contents are intended for general informational purposes only, and you are urged to consult your own attorney concerning your situation and specific legal questions you have.

Executive Summary

Kroll Bond Rating Agency (KBRA) has affirmed the insurance financial strength rating of AA+ with a Stable Outlook for Municipal Assurance Corp. (“MAC”). The rating affirmation incorporates the reduction in claims paying resources from MAC’s repayment of $400 million of surplus notes effective June 30, 2016 to its affiliates.

Key aspects of KBRA’s rating assessment are MAC’s strong claims-paying resources and the company’s diverse insured portfolio which consists of lower risk, predominantly investment grade U.S. municipal exposures. MAC has no exposure to Puerto Rico, which, in light of the Commonwealth’s severely stressed financial position, KBRA views as a credit positive. As a major part of our analysis, KBRA used a Monte Carlo simulation analysis to determine a level of stress losses to be applied to MAC’s insured portfolio. KBRA tested MAC’s ability to pay this stress level of claims, and other expenses, in a run-off scenario. Under KBRA’s Bond Insurer Financial model, MAC satisfied all projected claims due with an adequate balance remaining.

Since the company’s capitalization in 2013, new business origination has fallen short of management projections and has not kept pace with the fairly rapid amortization of MAC’s legacy exposures. The decline in the insured portfolio combined with MAC’s large and stable balance sheet has pushed leverage ratios lower than historical levels.

KBRA also conducted a detailed review of MAC’s governance, credit, and risk management protocols and found them to be strong and reflecting best practices. MAC has a proven management team and a well-developed governance framework.

Late in the second quarter of 2016, MAC received permission from its New York regulator to repay the full amount of both series of outstanding surplus notes, ultimately resulting in an asset transfer of $400 million to MAC affiliates, Assured Guaranty Municipal Corp. (“AGM”, AA+/Stable) and Assured Guaranty Corp. (“AGC”). Since its capitalization in 2013, MAC has not paid any dividends. KBRA views the surplus note repayment as equivalent to an extraordinary dividend and we factored this transaction into our rating assessment. While MAC’s financial model results from KBRA’s stress test remain above the AA+ rating level, the amount of projected excess assets is lower than was calculated for KBRA’s last review on August 3, 2015, reflecting the now lower level of claims paying resources following the repayment of the surplus notes.

This rating is based on KBRA’s Financial Guaranty Rating Methodology dated December 15, 2015.

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Fear mongers on both sides of the Atlantic would have us believe that governments are failing. They cite racially-charged violence from Dallas to Charleston, South Carolina; voters in Britain choosing to exit the European Union; the flood of migrants from the war in Syria; terrorist-inspired massacres from Brussels to San Bernardino, and the anemic global economy that is dividing generations of workers, families and communities.

Among investors, though, the full faith and credit of governments is at an all-time high, according to data compiled by Bloomberg. If low interest rates on sovereign debts are the ultimate measure of confidence in the governments that issue them, the market remains unshaken. The yield on short- and long-term securities has never been lower, according to Andy Haldane, chief economist and executive director of monetary analysis and statistics at the Bank of England.

As these interest rates are benchmarks for state and local governments, their cost of borrowing has plummeted to record lows as well. U.S. municipalities are financing at 1.54 percent this month, less than the 1.67 percent of 1945 or 4.71 percent of 1933, according to Bloomberg data and the U.S. Government Publishing Office.

The once-widening budget deficit as a percentage of gross domestic product is shrinking in the U.S., to 2.5 percent from 10.1 percent in 2009, and is now a 0.7 percent surplus in Germany.

30-YEAR RETURNS

For bondholders, the total returns (income plus price appreciation) have been a bonanza — surpassing gold, the fear monger’s favorite store of value. During the past 30 years, global sovereign debt returned 576 percent, or more than twice the 271 percent return for gold, while U.S. Treasury securities returned 529 percent, according to Bloomberg data. The yield on the 10-year Treasury note, which climbed to a high of 15.8 percent in 1981, is 1.3 percent this month, the lowest since Bloomberg began compiling such data in 1962.

Secular Stagnation

The record-low rates are a symptom of what many economists, led by former Treasury Secretary and former Harvard President Larry Summers, call secular stagnation: Slowing population growth and insufficient technological innovation and capital investment. These economists also see the low rates on U.S. and other sovereign debt as the most propitious opportunity to get economies moving faster because governments can borrow so cheaply to pay for infrastructure improvements, thereby creating demand from higher-paying construction jobs while investing in everyone’s future.

The market agrees. So far in the 21st century, the bonds sold to finance roads, bridges, hospitals, sewers and schools have outperformed all state and local government debt as well as the stock market and even gold, according to Bloomberg data. That’s because of the combination of after-tax returns and record-low financing costs. The borrowing cost to toll and turnpike authorities, a proxy for U.S. infrastructure financing, is an unprecedented 1.7 percent.

PERFORMANCE SINCE 2004

Since such data became available in 2004, toll and turnpike bonds returned 89 percent, easily beating the 74 percent benchmark for the municipal-securities market. The Standard & Poor’s index of U.S. stocks had an 87 percent after-tax return for those in the lowest 28 percent tax bracket — since most investors in tax-exempt securities are in the higher 35 percent tax bracket, though, the advantage to investors in infrastructure bonds has actually been greater.

To be sure, nothing approached gold’s 403 percent return during the past 15 years when global high-yield corporate bonds returned 223 percent, investment grade corporate bonds 139 percent, global sovereign bonds 132 percent and Treasuries 102 percent. But gold’s price fluctuations are four times that of U.S. Treasuries. On a risk-adjusted return basis, gold has been lagging all categories of the credit market. During the past five years, for example, global high-yield corporate bonds gained 32 percent, followed by U.S. Treasuries at 19 percent, global investment-grade bonds at 18 percent and global sovereign debt at 9 percent. Gold lost 16 percent, according to Bloomberg data.

Gold also loses when taxes are taken into account. U.S infrastructure debt is mostly tax exempt, which helped it outperform stocks and bonds not only in the long term but also during the past two years and, most recently, during the last 12 months. In that year they returned more than 10 percent compared to the municipal-bond benchmark of 8 percent and the S&P 500’s 3.6 percent after-tax return. During the past 10 years, when infrastructure bonds returned 82 percent, gold gained 76 percent on an after-tax basis (assuming most investors are in the 35 percent tax bracket) and gold’s volatility, or price fluctuations, was almost six times that of bonds.

So far this year, nothing comes close to matching the returns of infrastructure debt in the municipal market, where North Carolina Turnpike Authority debt has appreciated more than 22 percent, followed by Colorado’s E-470 Public Highway Authority’s 12 percent and California’s Riverside County Transportation Commission’s 11 percent, according to Bloomberg data.

So when Larry Summers calls for “a new approach” starting from “the idea that the basic responsibility of government is to maximize the welfare of citizens, not to pursue some abstract concept of the global good,” and to let people “feel that they are shaping the societies in which they live,” the market already has ratified this policy by making infrastructure one of the best investments of our time.

BloombergView

By Matthew A. Winkler

(With assistance from Shin Pei)

JULY 13, 2016 5:00 AM EDT

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

To contact the author of this story:
Matthew Winkler at mwinkler@bloomberg.net

To contact the editor responsible for this story:
Jonathan Landman at jlandman4@bloomberg.net

With U.S. bond yields near record lows, municipal-debt investors are finding a way to pick up a little extra return: Buying lower-coupon securities, which provide fatter payouts because they’ll be harder hit once interest rates start to rise.

The discrepancy was on display when Massachusetts sold bonds late last month. The state paid a 2.18 percent yield on those maturing in 2038 that pay annual interest of 5 percent. For debt with a 3 percent coupon, the yield was half a percentage point more.

Even such a small pickup can be alluring with negative interest rates overseas, Treasuries paying near record lows and the difference between long and short-term municipal debt narrowing to the least since 2008 — meaning there’s less extra income for holding the longest-dated securities. And the risk that the Federal Reserve will soon tighten monetary policy appears to have receded: prices in the futures market suggest a rate increase isn’t likely until the second half of 2017.

“Absolute levels of rates are getting so low that for people, particularly high-grade buyers afraid of credit risk, a strategy to outperform is to buy lower coupons,” said Peter Block, managing director of credit strategy at Ramirez & Co Inc., a New York-based underwriter.

The discrepancy stems in part from a quirk of the $3.7 trillion municipal market, where most state and local governments give themselves the option to buy bonds back before they’re due — usually in a decade — in case they can be refinanced at lower costs.

Because interest rates have largely been on a steady decline since the 1980s, governments have almost always exercised that option. If rates were to rise, which would cause prices of outstanding bonds to fall, those with rock-bottom coupons are more likely not to be called back, leaving investors with the choice between selling at a loss or holding them until maturity.

For bonds with top tier credit ratings, that risk has caused investors to demand about one-quarter percentage point more in yield to hold 10-year bonds with a 4 percent coupon instead those set at 5 percent, Block said. Some mutual funds also have little option but to buy the lower-coupon debt, he said: Many are restricted from paying too much above the bond’s face value. As yields have declined, the price of fixed-income securities with higher annual interest payments has soared.

“The question is,” he said, “Will four’s become the new five’s? Will orange become the new black?”

Bloomberg Business

by Molly Smith

July 13, 2016 — 2:00 AM PDT

Douglas Offerman, Senior Director at Fitch Ratings, talks about the landscape for public pensions with The Bond Buyer. He looks at how state pensions are faring and discusses what impact the new GASB requirements have on disclosure.

Watch the video.

Social impact investing describes the direction of investment funds to opportunities or companies that have desirable environmental, governance or social factors, and is related to social finance, which involves the use financial assets or instruments to fund projects that have a positive social or environmental impact.

Through impact investing, America’s capital markets enable programs to improve local outcomes and help communities combat the challenges of long-standing problems such as poverty, pollution, and other social needs.

Watch the video.

SIFMA hosted a roundtable on Social Impact Investing with industry experts and Members of Congress. The event fueled a discussion on the role of America’s capital markets in creating and funding programs designed to improve local communities. Participants discussed Social Finance’s Pay for Success Programs, such as the Nurse-Family Partnership in South Carolina and the Connecticut Family Stability Project; and Morgan Stanley’s underwriting work for Sustainable Neighborhood Bond, which funds affordable housing in New York, and its Investing with Investing with Impact Platform and Sustainable Investing Portfolios, which allow investors of all sizes to invest with impact, making scale in the social finance market possible.

July 14, 2016

By: Chris Killian

NEW YORK, NY, July 14, 2016 – CUSIP Global Services (CGS) today announced the release of its CUSIP Issuance Trends Report for June 2016. The report, which tracks the issuance of new security identifiers as an early indicator of debt and capital markets activity, suggests a steady issuance of new corporate and municipal debt offerings over the next several weeks.

Total CUSIP requests for all U.S. and Canadian corporate securities reached 3,864 in June, up 9% from May
monthly totals. Within that broad asset class, there were 797 security identifier requests for new U.S. corporate debt issues, a decline of 9% from May, and 304 CUSIP request for Canadian corporates, a 20% increase over the previous month. On a year-over-year basis, corporate CUSIP request volume for both debt and equity asset classes across the U.S. and Canada was down -0.3% through June 2016 versus June 2015, reflecting weak volumes in January 2016 and comparatively strong issuance volumes in the early part of 2015.

The volume of requests for new municipal CUSIP identifiers saw a fifth consecutive month-to-month increase in June. A total of 1,754 new municipal bond identifier requests were made over the course of the month, a 1% increase from May. On a year-over-year basis, municipal bond identifier requests were up 1.3% in June.

Regionally, municipal bond issuers in Texas demanded the highest volume of new CUSIP identifiers in the first half of 2016, accounting for a total of 1,013 identifier requests during the period. Texas was followed by New York (774 CUSIP requests) and California (656 CUSIP requests).

“While the month-to-month growth rate of new CUSIP requests in the corporate debt and municipal bond market
has slowed from the break-neck pace we were seeing earlier in the year, we’re still seeing indications of very steady new issuance volume for the coming months,” said Gerard Faulkner, Director of Operations for CUSIP Global Services. “As we turn the corner to the second half of the year, we expect the CUSIP indicator to be a telling signal for the market appetite of major debt and equity issuers.”

International debt and equity CUSIP International Numbers (CINS) were mixed in June. Requests for new
international debt CINS were down 9%, while requests for new equity CINS were up 48%. On a year-over-year
basis international debt CINS were down 30% and international equity CINS were down 61% through June 2016.

“Given all of the uncertainty in the global economy right now, it’s actually quite amazing that CUSIP request volume has stayed so strong,” said Richard Peterson, Senior Director, S&P Global Market Intelligence. “Clearly, issuers across several asset classes still see an attractive environment for raising new capital and that sentiment is continuing to show up in our CUSIP request data.”

To view a copy of the full CUSIP Issuance Trends report, please click here.

That may seem like an odd question until you consider that a tax­-credit financing could easily be viewed as ‘AAA.’ That contrasts with Illinois bonds that trade below their ‘BBB’ benchmarks. The difference represents significant value — perhaps more than 100 basis points of savings on long­-term offerings.

Here’s a simple example of a proxy financing. Instead of issuing a 1­year note that paid $100 at maturity, Illinois would sell a $100 tax credit that could be applied any time after one year. It’s an alternative that produces identical net cash flows.

What’s the appeal of the tax­-credit alternative? It guarantees that a holder will receive full value as long as he has a matching tax liability. That’s true even if the issuing State is in a financial crisis and can’t pay its bondholders. Imagine where a State’s bonds would trade if it missed a payment. But a tax credit would still be worth 100%. In fact tax credits may be the perfect hedge: as long as taxes are owed, they retain full value.

You might also notice something interesting – using tax credits in this way allows a holder to prepay his taxes at a market discount, which is probably the safest and most efficient way to lend to a municipality.

Still, the ideal solution would be to wrap an ordinary bond around the tax credits, so that a holder has both the convenience of cash pay and the safety of back­-up tax credits. That’s the thinking behind a proposed GO structure, Tax Offset Municipal Securities (TOMS). In its simplest form it’s a cash­-pay bond, but in the event the issuer can’t pay, bondholders receive equivalent tax credits instead.

In terms of mechanics the Trustee purchases tax credits from the State at the close of the underwriting. This is done under an agreement which acknowledges that the credits are receipts for estimated tax payments. The Trustee would then automatically “put” these tax credits to the State at each payment date for its cash equivalent. If all goes well bondholders would be paid cash as expected and the matching tax credit would expire. But if the State failed to pay, the Trustee would simply distribute the tax credits.

You might ask about the behind­-the-­scenes machinery. It establishes that a holder’s credit is for estimated taxes already paid. That makes it secure. No one has ever suggested that a State could say to a taxpayer, “We’ve cashed the check for your taxes, but we’re not going to allow the deduction.”

In the end it’s a structure that has the potential to deliver high­-grade enhancement without counterparty exposure or credit risk, in effect bond insurance which no traditional insurer can match.

The Bond Buyer

By Paul Fennell

June 30, 2016

Paul Fennell is an independent investment banker specializing in capital market and fixed-income
solutions.

Property-assessed financing for energy-related improvements to homes and businesses is starting to take off in Florida.

Since Florida’s Supreme Court upheld the state’s Property Assessed Clean Energy (PACE) law against challenges last autumn, applications for the innovative financing have been rising fast, and more local governments are signing up to offer the program in their areas, PACE leaders in Florida say.

“We were probably getting 200 to 300 applications a month, and last month, we got about 1,200,” said Joseph Spector, vice president of operations for Ygrene Energy Fund Florida, the largest PACE lender by far in the state. “Now, we’re active in an area of about 2.7 million people. By the end of the summer, as more cities and counties join, we could be at 5 million people – or about 25 percent of the state.”

Ygrene already has contracted about $74 million in PACE financing in Florida since starting three years ago in the state. It expects to sign up $100 million in new financing this year and at least $200 million more next year, Spector told Southeast Energy News.

Two other PACE players active nationwide also are ramping up in Florida. Renew Financial of Oakland, California entered the state last fall by buying EcoCity Partners of St. Petersburg, and is revising its PACE offerings. And Renovate America of San Diego, California is working to launch a residential program in Florida this October and to expand to businesses financing later, executives confirmed.

“There are no more regulatory or legal challenges” to PACE expansion in the state, said Mike Antheil, market development director in Florida for Renovate America. “It’s now about getting the word out to the people, and it’s trending in the right direction.”

A slow start amid legal challenges

Florida’s Legislature authorized the PACE program in 2010. The law lets property owners borrow funds to make energy improvements such as installing more efficient air conditioning systems, solar panels or hurricane-impact windows. The participants then pay back the money together with property taxes – just like an assessment.

In many cases, savings from increased energy efficiency as well as lower premiums on property insurance are big enough to cover the full cost of PACE repayment. That means the owner has no outlays upfront and no added costs in making the property improvements through PACE. Communities also gain, because contractors get new business and improved energy efficiency helps slow demand for new power plants, PACE advocates say.

Begun in California in 2008 and key to financing solar projects there, the PACE program was slow to take off in Florida – until this year.

That’s largely because of legal challenges, including one by the Florida Bankers Association. The bankers worried that repayment of PACE financing would come before repayment of bank mortgages, when properties were sold or re-financed. Similar cases have surfaced at the federal level and been resolved; the Federal Housing Administration is soon to publish guidance aimed to “unlock” PACE for homes with federally-backed mortgages, industry leaders said.

Last autumn, the Florida Supreme Court dismissed the bankers’ case for lack of standing, and it has upheld PACE in several other challenges, said attorney Erin L. Deady, who wrote an extensive article on PACE for the June 2016 issue of the Florida Bar Journal.

Some cities and counties in Florida delayed authorization for PACE, pending the court rulings.

Brandsmart USA, a chain of consumer electronics and appliance stores based in Hollywood, Florida has become the biggest commercial user of PACE funds in the state so far, with projects totaling $5 million. It’s mobilized the financing for new air-conditioning, lighting, roofing and other improvements at several stores in what executive vice president Larry Siniwitz calls “a phenomenal program.”

Brandsmart already is “cash-positive” on PACE at its south Miami-Dade store after the first year, saving about 10 percent more on energy bills and maintenance than it costs to back the money – and all without paying a dime upfront, Siniwetz said. It works through a services contractor, ABM, who handles all the property improvements and also guarantees that the savings from the improvements will be enough to repay PACE, he said.

Governments keen on consumer protections

Some local governments in Florida also had concerns beyond the bankers’ and legal challenges.

South Florida’s Broward County, home to Fort Lauderdale, was worried about protections for consumers and for local governments themselves, said Alan J. Cohen, assistant to the county administrator. The county wanted to make sure that consumers knew that PACE may not pay for itself and could cost them money out of pocket. Plus, the government wanted to find a way to protect cities and the county from lawsuits, if borrowers filed suits against contractors or lenders on PACE projects, Cohen said.

To address those issues, Broward now is putting safeguards in its PACE authorization. First, it is requiring PACE providers agree to cover any costs in the event of a lawsuit related to their projects. Next, it is limiting payments for annual taxes and assessments including PACE to 5 percent of the fair market value of properties – a step taken in other jurisdictions.

In a unique move, Broward also is asking participants to affirm one of three other things when using PACE: Either that the mortgage lender or servicer consents to escrow the PACE assessment; that energy or insurance savings can cover the cost of the PACE assessment; or that the PACE repayment won’t exceed 4 percent of their gross income. The county came up with that income standard because of concern over low-income senior citizens being targeted for financial products, Cohen said.

“Consumer protections by far are the most important aspect of what we are moving forward with,” Cohen said of PACE.

Unlike some other states, PACE programs in Florida are not run by governments but rather by third-parties such as Ygrene and Renew Financial. Programs typically involve a district that cities and counties can join. The trend now is for local governments to sign up with multiple providers, so that the programs compete.

Not much PACE funding for solar so far

By volume, competition will be largely for residential financing.

At Ygrene, about 99 percent of PACE contracts in Florida so far are for homes and then mainly for hurricane-related protection such as impact windows and new roofs, said Spector. Those upgrades cut insurance premiums. Thicker windows, often with tinted film, also help trim energy costs by keeping out more sun. So far, Solar accounts for only about 6 percent of the PACE funding in Florida, Spector added.

“We recommend property owners secure the building envelope first” with impact windows, roofs and other improvements, said Spector. If people want solar panels later, they can opt for a smaller installation to meet lower energy needs.

Rivals also will compete on terms for funding. Ygrene now offers financing for terms of 5, 10, 15 or 20 years with rates ranging about 6.5 percent to 7.4 percent linked to indexes, Spector said. The average amount financed now runs about $22,500, he said.

But the biggest difference between programs, industry leaders agree, will be how they treat consumers and contractors.

At Ygrene, Spector said staff is trained to describe PACE to consumers in detail. Some people call in and think because PACE is government authorized, it’s free. “You have to explain that it’s like going to a bank. You have to qualify first, and you have to pay it off,” he said. To protect customers, Ygrene also won’t pay contractors until an inspection is complete or the borrower has signed off on the project, added Spector.

The competition is expected to grow as Renew Financial and Renovate America get active in the state. Over time, predicts Spector, “You’re looking at a PACE industry that could potentially be at half a billion dollars in financing per year in Florida.”

Southeastern Energy News

by Doreen Hemlock

July 6, 2016

Doreen Hemlock writes on energy, business, travel and other topics. She’s worked on staff at newspapers in the U.S. Virgin Islands, Peru, Venezuela, Puerto Rico and South Florida and contributed to publications worldwide. She holds an MBA from Columbia University and lives in Miami Beach.

For the average citizen, comprehending government finance is along the lines of comprehending quantum physics.

Fortunately, a new company, ClearGov, has been launched to address the former. We’ll leave the latter to institutions of higher learning.

Based in Hopkinton, the startup was founded last year to bring clarity to government finance, hence its name.

And the company has already been making news. Earlier this year, it took first place in AOL Inc.’s TechCrunch Pitch­Off at the Royale nightclub in Boston. Billed as an event showcasing the “Cream of the Boston Startup Crop,” TechCrunch has been hosting startup competitions in Boston every year since 2013.

ClearGov ​was one of only 10 finalist start­up companies chosen to participate. At the event, its CEO and founder Chris Bullock was given 60 seconds on stage to pitch ClearGov​ to a packed house of hundreds of attendees and a panel of judges made up of local venture capitalists and TechCrunch editors.

“Everyone has a right to know how their local property tax dollars are being managed,” said Bullock. “ClearGov ​transforms complex and confusing municipal financial reports into easy-­to-­understand infographics that benchmark cities’ and towns’ performance against statistical peers. The platform helps local governments better communicate their financial performance to help inform voters and policy makers. Being selected by the panelists as the winner was a great validation for our business and clear indicator that there is demand for tools that help governments drive efficiencies.”

As result of its victory, ClearGov​ was awarded an exhibitor table in May at TechCrunch Disrupt NY 2016, an event described as “the world’s leading authority in debuting revolutionary startups.”

ClearGov ​was also recently named by the editors of Government Technology magazine to the GovTech100 comprised of 100 government-­focused companies with innovative or disruptive offerings.

Bullock recently discussed his company with Daily News staff writer Bob Tremblay.

QUESTION: Why was the business started?

ANSWER: ClearGov was born from a simple question: “How are my property taxes being spent?” I searched municipal websites and found large, annual reports 200-300 pages long. About halfway into them I would find the financial statements, but they used unfamiliar terminology, had complex transfers between funds and generally lacked any context to the numbers. For example, seeing that a municipality spends $60 million on education is nothing more than looking at a large number without context. What people want to see is how much of their money goes towards things like education and are the tax dollars being spent efficiently compared to other cities and towns. In other words, I could see a tremendous need for clarifying government data and putting it into perspective. Fulfilling that need facilitates the overall enhancement of government efficiency and public engagement in a most productive manner.

This isn’t my first time taking an opaque industry and making it transparent. I did that in the legal industry as well as co-founder of Sky Analytics, which helped large corporations benchmark attorney rates and matter costs. It has since been sold to Huron Consulting. I was fortunate to combine my analytic background with my co-founder’s solid municipal and executive management operations. ClearGov is my fifth company.

Q: Why did you choose your current locale?

A: I live in Hopkinton and decided to base the business in my hometown.

From April to June, ClearGov was invited to be part of the Innoloft Acclerator at the Constant Contact headquarters in Waltham. We’ve grown from four to eight employees and our development team will soon be expanding, so we have since relocated from Waltham to Hopkinton.

Q: Do you have other businesses or work in other businesses?

A: No.

Q: What does your company do?

A: ClearGov creates financial transparency pages on our website for every town in Massachusetts (and several other states) that are free to the public. We sell expanded, more robust and granular data platforms to the municipalities for an annual fee. Those platforms are linked or embedded in their municipal websites to provide a user-friendly consumer interface for local government transparency. Local municipalities add more recent and detailed financials to the site along with commentary to better tell the story behind figures, to share the metrics that drive budgetary decisions and to access tools to benchmark their municipal budget against the state and their statistical peers.

Q: What makes you different from the competition?

A: Benchmarking: Numbers by themselves are near meaningless to the average citizen. To know that your town spends $55 million on education is not too helpful, but to know that your town spends 47 percent more than similar towns on education is interesting. Benchmarking provides powerful context to data.

Visual format: Our infographic format is easier to digest for the average citizen; other platforms often have a lot of bells and whistles, but too many options can confuse the average citizen. So we’ve purposely taken a simpler approach to the user interface modeled after infographics.

Market approach: From a more holistic standpoint, our whole market approach is unique. ClearGov.com is a resource for taxpayers. Towns have a presence on ClearGov even without their participation, so towns are drawn to want to manage their presence.

Non-financial metrics: ClearGov intertwines demographic and educational data to better communicate the factors that may be driving costs.

Q: What is the price of your service?

A: ClearGov’s annual fee is based on the municipality’s annual budget and ranges from $2,500 a year to $25,000 a year. ClearGov launched its service to municipalities in December 2015. Framingham, Sudbury, Holliston, Norwell, Norwell, Easton, Athol, Brookline and Upton are just a few of the towns that have already signed up.

Q: Any future plans?

A: ClearGov will be launching in several new states in the coming months.

Q: Any news to report?

A: ClearGov is currently raising a seed round of investment.

Q: Apart from residing in Hopkinton, do you have any other MetroWest connections?

A: I was born and raised in Framingham and graduated from Framingham High School in 1995.

ClearGov’s website is www.ClearGov.com.

The Milford Daily News

By Bob Tremblay
Daily News Staff

Posted Jul. 11, 2016 at 12:01 AM

In the past, states and local governments have relied in large part on low-cost tax-exempt financing to meet their infrastructure needs. While there is a growing consensus that our present infrastructure needs are great, many states and local governments are finding it more difficult to continue to borrow to address such needs due to a number of factors, including constitutional and statutory debt limitations, mounting pension liabilities and flat and/or declining revenues. As a result, a number of states and local governments have turned to public-private partnerships (“P3s”) to address infrastructure needs. P3s have been successfully used in Western Europe and Canada for many years but have only recently taken root in the United States. A P3 is an arrangement between a governmental entity and a private entity that allows for greater private sector investment and participation in public projects. Sectors where P3s have been used include transportation, energy (including municipal electric and gas generation and distribution facilities, as well as renewable energy projects), telecommunications, water and wastewater, governmental buildings, healthcare, education, housing (affordable, senior, student and military) and hospitality. While Federal tax law requirements often force governmental entities to choose between low-cost tax-exempt financing and P3s, there are a number of proposals pending that would expand the ability of governmental entities to use both together.

Under Federal tax law, governmental entities may only issue tax-exempt governmental bonds to finance projects where there is little to no private business use. Private business use can arise from any number of arrangements with private entities, including leases and management contracts. Until recently, management contracts generally had to fit within one of the safe harbors set forth in IRS Rev. Proc. 97-13, which essentially only allows for compensation to the private party to be a fixed amount or a fixed amount per unit of service. However, the IRS has recently provided more flexibility with the respect to the terms of such arrangements.  Notice 2014-67 added to the list of allowable agreements an agreement where the compensation paid to a private party may include a percentage of gross revenues or expenses of a facility (but not both) so long as the term of the contract is not more than 5 years. In addition, the Notice clarified that a productivity reward generally does not cause the compensation to be based on a share of net profits, which would result in private use, if the eligibility for such award is based on the quality of the services rather than increases in revenues or decreases in expenses and the amount is a stated dollar amount. Even more recently, the IRS released Private Letter Ruling1 201622003, which approved a management contract where a portion of the compensation is an incentive fee that is partly triggered by a variant of net profits. The IRS found that the incentive fee was not structured in such a way that its amount rose in proportion to increases in net profits or fell in proportion to decreases in net profits, and therefore ultimately was not based on a share of net profits. The IRS has indicated that it intends to publish further guidance on management contracts sometime this year, and it is our hope that such guidance will allow for even more flexibility with respect to the terms of such agreements.

In addition to guidance on management contracts, in 2015, the IRS released final allocation and accounting regulations that will also help to facilitate P3s. These regulations allow for “mixed-use” projects where the governmental portion is financed with tax-exempt bonds and the private portion is financed with equity. In addition, with respect to partnerships, the new regulations look through to the partners so that the amount of private business use is only the private partner’s use of the property.

In addition to tax-exempt governmental bonds, Federal tax law currently allows tax-exempt private activity bonds to be issued to finance a variety of specified projects, including airports, water and sewer infrastructure, solid waste facilities, public education facilities and highway infrastructure. In fact, a number of large P3 projects in the transportation sector have paired credit assistance under the Transportation Infrastructure Finance and Innovation Act (“TIFIA”) with tax-exempt qualified highway facility private activity bonds. There are also several administration and congressional proposals to enhance existing private activity bonds and to add new categories of private activity bonds. As part of his 2016 proposed budget, President Obama presented the concept of qualified private infrastructure bonds and there is proposed legislation in Congress that would create Move America Bonds, both of which would help encourage private investment in infrastructure through P3s by allowing for tax-exempt financing of certain types of public facilities where there is private use. Another legislative proposal would add to the list of tax-exempt private activity bonds certain types of governmental buildings and thus allow for state and local governments to utilize tax-exempt financing for P3 projects involving public libraries, public universities and colleges, courthouses, public hospitals and health care, research and laboratory facilities, government offices, and public safety facilities. Under current law, the amount of many private activity bonds that may be issued annually is limited, but water and wastewater infrastructure P3 projects, which municipalities all over the country have increasingly looked to in order to fulfill the massive need for capital improvements in that sector, could be bolstered by proposed legislation that would remove this volume cap limitation for private activity water and wastewater bonds. In a related development, Congress also recently amended the Water Infrastructure Finance and Innovation Act (“WIFIA,” and modeled after TIFIA) to allow the use of tax-exempt bonds with WIFIA credit assistance.

All in all, leaders in Washington seem to have recognized the growing use of P3s by state and local governments, have taken positive steps to facilitate the combination of P3s and low-cost tax-exempt financing, and are poised to take further action in this area.

by Michael J. Bradshaw

Last Updated: July 6 2016

Butler Snow 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.

Bank of America Merrill Lynch stormed back in the second quarter to rank first among municipal underwriters for the first half of 2016, increasing its par amount and market share from a year earlier.

League Tables

Public Financial Management Inc. remained atop the financial advisor league table and the state of California was the largest municipal issuer.

BAML closed the quarter with a par amount of $20.76 billion in 161 issues, or 17.5% market share for the second quarter. For the first half, the firm finished at $33.98 billion in 283 deals, for a 15.8% market share, up from $27.85 billion in 263 deals or 13% market share in the first half of 2015, according to data from Thomson Reuters.

Overall, the top 10 firms combined for a total par amount of $214.51 billion in 6,417 transactions compared to $215.01 billion in 6,839 transactions in the first half of last year.

“It’s a spectacular opportunity right now and we are working hard at helping our clients to come to market and take advantage of the low rates,” Jonathan Nordstrom, head of municipal sales and trading at Raymond James, which climbed two places to eighth in the first half ranking. “There is excellent interest in muni bonds and we are even seeing the international customer coming in, it’s an incredible market right now but rates could go lower.”

Citi, which finished in first place after the first quarter, dropped back down to second place with a total of $27.29 billion in 290 deals or 12.7% market share in the first half. That compares with to $25.34 billion in 279 deals or 11.8% market share in the same period last year, when Citi was also in second place.

For the second quarter, Citi had a par amount of $14.05 billion or 11.8% market share. Citi was the lead bookrunner on some of the largest deals so far this year, including the $2.9 billion general obligation sale in March from California and the $2.4 billion LaGuardia airport deal, which was the biggest airport and alternative minimum tax deal to ever hit the market.

JPMorgan finished both the quarter and first half in third place. For the quarter, the bank had $13.56 billion in 133 transactions or 11.4% market share. JPMorgan finished the half with $22.03 billion in 221 deals or 10.3% market share, down from $24.67 billion in 245 deals or 11.5% market share in the first half of last year, when it also ranked third.

Morgan Stanley finished the first half in fourth place, with $14.91 billion or 7% market share, down from $18.02 billion or 8.4% market share a year earlier. They also finished in fourth place for the second quarter, winding up with $7.92 billion or 6.7% market share for the past three months.

Rounding out the top five is Wells Fargo, which moved up one spot from last year and finished the first half with $14.75 billion or 6.9% of the market, which compares to $11.54 billion or 5.4% in the first half of 2015, which was good for sixth place.

RBC Capital Markets was sixth with $10.94 billion, followed by Stifel with $9.14 billion but had the most number of deals with 485.

Raymond James was the biggest mover, jumping up two spaces to number eight with $8.98 billion.

“We are pleased with how the year has gone, working hard to try and increase market share and influence and impact on our customers,” said Nordstrom. “Our competitive underwriting desk has done a great job of pulling business and that is connected with our sales force, who continues to get better. We are seeing more engagement with customers and that has helped propel our performance.”

Piper Jaffray was ninth with $8.13 billion and Barclays finishes the top 10 with $6.97 billion.

Financial Advisors

Public Financial Management was once again atop the first half league tables for financial advisors, as they increased its par amount and market share from last year. PFM finished the half with $39.50 billion or 21.9% market share, which was up from the $35.65 billion and 19.8% market share from the first half of 2015.

“PFM was pleased to increase our market share during the first half of the year compared to the first half of 2015, even as bond volume declined,” said John Bonow, chief executive officer and managing director for the PFM Group. “We believe that the increase is due to two factors: our consistent ability to help clients identify refinancing opportunities in the prevailing low rate environment and a good number of clients focused on creative and sustainable ways to finance much needed projects and infrastructure.”

Bonow said low borrowing rates seem to have real traction as the world digests the U.K. exit path from the European Union.

“Domestic economic indicators continue to be mixed, but worldwide financial and economic uncertainty will likely depress the appetite for the Federal Reserve to take action on rate increases and that may encourage many state and local governments to make longer-term commitments to infrastructure and social program investments,” he said.

Bonow said he expects PFM to continue to bring effective solutions to its current and future clients who understand the value PFM provides through our practical and sustainable financial solutions to their challenges.

Hilltop Securities, which was in third place at the end of the first quarter, moved up into second place to finish the first half, the same position they were in at the end of the first half last year. Hilltop’s par amount was $18.49 billion. Public Resources Advisory Group finished the half with $17.36 billion for third place, after finishing the first quarter in second place.

The two biggest movers in the ranking were the firms rounding out the top five: Acacia Financial Group Inc. and Kaufman Hall and Associates Inc.

Acacia moved up to fourth, after finishing the first half of 2015 in sixth place. The New Jersey based company finished the first half with $8.30 billion, up from the $4.21 billion in the first half of 2015.

Kaufman Hall and Associates moved into the fifth spot after posting $4.04 billion in the first half of this year.

Negotiated Underwriting

BAML claimed the top spot for underwriting negotiated deals, with a par amount of $22.39 billion for the first half this year, compared with $17.78 billion during the same period last year when it finished third. Citi remained in second, the same spot as in the first half last year, with $19.91 billion. JPMorgan, which was in first at this point last year, fell to third with $15.50 billion. Morgan Stanley was fourth with $10.83 billion and RBC fifth with $10.68 billion.

Wells Fargo ranked sixth with $10.61 billion, followed by Stifel with $8.74 billion, Piper with $7.00 billion, Raymond James with $6.84 billion and Barclays with $6.31 billion.

Competitive Underwriting

BAML finished the first quarter atop the ranking for competitive-only deals with $11.59 billion, followed by Citi with $7.39 billion. JP Morgan was third with $6.52 billion. Robert W Baird & Co., was fourth with $4.28 billion, moving up from sixth at this point last year and Wells Fargo was fifth with $4.14 billion, as it made the biggest year-over-year leap, moving up from sixth place a year ago.

Morgan Stanley was sixth with $4.08 billion, followed by Raymond James with $2.14 billion, Hutchinson Shockey Erley & Co. with $1.24 billion, Piper with $1.13 billion and FTN Financial Capital Markets with $885 million.

Top Issuers

The state of California is the No. 1 issuer for the first half of the year, retaining the top spot it held after the first quarter of the year. In total so far this year, the Golden State has issued $4.52 billion of bonds.

“Our general obligation bonds are what we issued the most of so far this first half,” said Tim Schaefer, deputy treasurer, public finance, for California Treasurer John Chiang.

The Golden State came with a whopping $2.9 billion GO sale in March, which was more than half refunding. The final amount was split into $1.1 of new money and $1.8 of refunding, which gave the state $294 million of present value savings. In April, they came back with $1.5 billion, which was mostly refunding and they netted another $195 million of PV savings.

Schaefer said that refundings are driving the volume.

“With interest rates as low as they are, we are being very aggressive in refunding everything we can get our hands on as long as it makes economic sense,” he said. “The market has been very kind to us in the last 18 months, offering us very attractive yields and trading at much tighter spreads from the MMD scale that our ratings would imply.”

Schaefer also said that the state is in much better financial position than it has been in a long time and that the market appears to be telling us they have greater confidence in the state’s ability to manage it out of tough situations.

“As long as the supply and demand stays this way, we will take advantage. We are high grade, but not yet triple-A, so that hand full of basis points of extra yield makes a difference.”

Although an issuer from the west coast held the top spot, the east coast was well represented with four of the top five spots, including three issuers from New York City.

The New York Transportation Development Corp. was second with $3.25 billion, most of which came during the mega LaGuardia deal.

The NYC Transitional Finance Authority was third with $2.65 billion, followed closely by the Commonwealth of Massachusetts with $2.64 billion. The NYC Metropolitan Transportation Authority rounds out of the top five with $2.62 billion.

The Bond Buyer

By Aaron Weitzman

July 6, 2016

The social impact bond or pay for success program (“PFS program”) is an alternative private financing model used to test social impact programs before governments step up to finance such programs. In these programs the government contracts with a private sector intermediary to obtain social services. The intermediary obtains funds for the services by raising capital from private commercial and/or philanthropic groups. The intermediary uses these funds to pay a service provider to deliver the social services. Over a set period of time, performance of the social services is measured, usually by a third party consultant, based upon up-front established criteria. After the review period, the government pays the investors only if the performance targets are met.

As of the end of 2015, there were eight (8) established PFS contracts in the United States and more in the pipeline. The Corporation for National and Community Service through its Social Innovation Fund launched a PFS program and selected eight (8) initial grantees through which 43 programs are receiving technical assistance. Banks such as Goldman Sachs, Northern Trust, Bank of America, Merrill Lynch and Santander Bank have invested capital in PFS programs. In addition, federal legislation, known as the Social Impact Partnership Act, has been introduced to help establish PFS programs, and six (6) states (Colorado, Idaho, Massachusetts, Oklahoma, Texas and Utah) have passed PFS enabling legislation. Other states are considering legislation or participating without legislation.

Despite the trend toward expanding PFS programs, there are some criticisms. PFS programs can be more expensive than direct government funding due to costs of legal services, program administration and loan management. There are also questions about how outcomes are measured, since the “success” of most programs is measured in a relatively short time frame considering the deep-rooted social problems that are being addressed. In addition, data suggest that investors want to minimize risk and back programs where there is more evidence of possible success. Detractors of PFS programs argue that governments should finance these programs themselves based upon the probability of success. Despite the questions and criticisms, it appears from the significant increase in PFS programs that this type of investment tool is here to stay, at least in the short-term.

by Francina J. Critzman

Last Updated: July 8 2016

Miles & Stockbridge

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.

How do they do it?

Municipal bonds maintained a trajectory to the record highs reached last week as a series of bankruptcies, budget debacles and defaults failed to damage investor confidence in the industry as a whole.

Municipal analysts and experts say decades of improvements – from enhanced disclosure and heightened enforcement to increased transparency and growth of technological advancements – have helped the broader tax-exempt market build immunity to isolated debacles in distressed municipalities.

Improved credit surveillance and information flow, advancements in online trading platforms, better market technicals, and the economy have helped investors shrug off a range of fiscal debacles from today’s credit crises in Puerto Rico and Illinois, to the historic $18 billion Detroit bankruptcy in 2013 and the $2 billion Orange County, Calif., default back in 1994.

Robert Doty, president of Annapolis, Md.-based municipal securities consulting firm AGFS attributes munis’ staying power to better disclosure practices and market discipline enforced by the Securities & Exchange Commission.

“The market continues to function even though we have a major issuer in the market – Puerto Rico – defaulting, and Illinois is teetering,” he said.

Disclosure and Market Stability

Some analysts say the stability of the market is tied to economic progress and the general credit worthiness and demand for tax efficiency in the $3.7 trillion municipal market.

“As long as the tax base and the population remain near current levels the market will continue to let Illinois kick the can down the road,” Michael Pietronico, chief executive officer at Miller Tabak Asset Management, said in an interview last week.

Overall, the municipal bond market has awarded lower borrowing costs to issuers with strengthening finances, and that has helped the market retain its positive nature in the midst of recent credit and fiscal crises, Pietronico said.

“Issuers believe market access is a right when in fact it is a privilege,” he added.

“Detroit is a prime example of that phenomenon as they leaned on the rest of the state of Michigan to gain market access when in many minds they were bankrupt and unable to fund their own liabilities.”

“Puerto Rico understands that ‘penalty box’ quite well, while states such as Illinois continue to pay a yield premium in a market starved for yield,” Pietronico added.

Doty, who has over 45 years of experience in the municipal industry, said disclosure and transparency enforced by the SEC have continued to improve, protecting today’s market in the face of credit debacles.

“We have a lot of guidance and the market has improved considerably,” he said, referring not only to SEC disclosure and enforcement practices, but also the guidance and market support from the National Association of Bond Lawyers and National Federation of Municipal Analysts.

Problematic credits, such as the state of Illinois, Chicago, and New Jersey are viewed as “one-offs” that are isolated from the general market, according to Jeffrey Lipton, managing director and head of fixed income research at Oppenheimer & Co.

“These are high profile names that take up significant headline real estate, and for the most part, should not deliver very many surprises given the information flow and heavy analytical coverage,” Lipton said. “The muni market is a $3.6 trillion entity with an extremely high percentage of bonds meeting timely payment of principal and interest. The asset class also experiences much higher recovery rates as compared to corporate bonds.”

David Litvack, managing director and head of tax-exempt research at U.S. Trust, Bank of America Private Wealth Management said the municipal market is “benefitting from a very favorable technical environment, in which demand for tax exempt income is overwhelming available supply.”

New deals are oversubscribed, and low nominal rates have caused credit spreads to tighten over the last few years as investors search for yield, he said.

“We believe Puerto Rico’s credit problems have not resulted in contagion to the broader muni market, because the commonwealth is seen as an outlier,” Litvack added.

Puerto Rico’s fiscal and economic declines with associated bond defaults are not expected to have a systemic impact upon the broader municipal market, because its fiscal story has been widely publicized in recent years, according to Lipton.

“There has been a substantive shift in trading participants and commonwealth bond ownership to more sophisticated investors such as hedge funds and distressed buyers,” Lipton said in an interview last week. “We continue to believe that any temporary market sell-off that may be triggered by a Puerto Rico event could give rise to buying opportunities,” he said.

Historical Comparison

Decades of industry advancements – some as basic as information flow – have helped the market evolve and strengthen.

“In the 1970’s the market still had physical certificates and coupons to clip,” John Donaldson, director of fixed income at The Haverford Trust Co. said last week. “Today, municipal bonds trade and settle like any other issue.”

Transparency has evolved and contributed to better market participation.

“We can see the details on any public issue from our Bloomberg terminal; we can access updated financial reports with a click,” Donaldson said. “Back then it could easily take a week to get information necessary to make a decision on a credit you did not own.

“Price information in the form of MSRB trading data is also transparent. Secondary market pricing in the 1970’s was anything but transparent,” he added.

The advent of official statements on general obligation deals helped to define the practice of increased disclosure to and education of investors over the last three decades, Doty of AGFS said.

The market in recent years has fared significantly better than it did back in the mid-1970s when New York City faced default on its GO debt in 1975 due to the ill effects of a stagnant economy, according to Doty. It narrowly avoided default after the Teacher’s Union agreed to invest $150 million to buy Municipal Assistance Corporation bonds, followed by a $1.3 billion in federal loans to the city for three years.

“The market was extremely disruptive when New York City had its problems, but it’s a contrast, and the difference in my view is that investors can distinguish between credits and back then they couldn’t,” Doty said. “Official statements weren’t being used very much for GOs, and New York City didn’t use one until 1975.”

Now, traders are able to value so-called troubled bonds based on the specific risk and arrive at yields that satisfy the investor community – something that couldn’t be done in the 1970s because the pricing and credit information wasn’t easily and readily accessible, Doty of AGFS said.

Despite the distressed outliers, investors can rely on municipal bonds for capital preservation, portfolio liquidity, tax-exemption, as well as strong credit quality, Lipton said.

“The muni market of 2016 has, in some ways, become an extension of 2015, but overall performance is poised higher this year,” he added. “Muni bond buyers have been nicely rewarded just by staying invested and clipping their coupons,” he added. “Year-to-date, Barclays shows munis have returned 4.49%, versus 5.52% for Treasuries.”

Lipton said a so-called “perfect storm” may create an attractive municipal bond market that may lead to even lower yields – even with the ongoing debacles.

“A more accommodative Fed, the Brexit vote – with all of the associated uncertainty – variability in economic data, strong market technicals, and an enduring competitive edge are all converging,” Lipton said. “This dynamic is expected to extend the market’s 38 consecutive-week run of positive mutual fund flows, despite noted retail and institutional resistance to currently lofty prices.”

The Bond Buyer

By Christine Albano

July 1, 2016

Clayton County officials blocked without explanation Tuesday night a plan to issue tax-exempt bonds to renovate three apartment complexes that are home to 2,500 residents.

The plan Tuesday would have enabled a nonprofit to buy and renovate the apartment complexes using tax-exempt bonds issued by Wisconsin-based Public Finance Authority. The project now will have to be done using taxable bonds. About 50 residents from the three apartment complex showed up for the commission meeting.

Commission Chairman Jeff Turner, who supported the deal, asked commissioner Michael Edmondson, who brought the measure before the board, to explain his reasoning for blocking the deal. Edmondson replied “I don’t think it’s in the best interest of the county.” When asked after the vote to elaborate, Edmondson declined to give details.

The Public Finance Authority deal would not have created any financial risk to the county, said Richard deGorter, executive director of Linked Economic Development & Affordable Housing Foundation or LEDAHF. LEDAHF is a 22-year-old nonprofit in the Washington, D.C. area that has been buying and rehabbing properties along the east coast to preserve affordable housing. The Clayton project is LEDAHF’s first in Georgia.

The loss of tax exempt status for the $50.7 million bond issue will cost LEDAHF about $500,000 a year more or about $17 million over the life of the 35-year bonds, deGorter said.

DeGorter told The Atlanta Journal-Constitution he will look at taking the case to federal court with the help of national nonprofits that pursue such litigation.

“In 40 years as a developer, I’ve never encountered anything as irrational and, I believe, illegal as this vote,” deGorter said. “The lack of accountability and transparency on the board is unprecedented in my experience and extreme. We’re exploring bringing the federal government (into to this case) because it’s a violation of the Fair Housing Act because they’re obstructing the provision of affordable housing.”

Despite the county’s decision, deGorter said: “We’re still going to buy the properties but this action bars us from getting tax-exempt bond financing. ”

LEDAHF is under contract to buy Laurel Pointe and Bradford Ridge apartments, both of which are in the northwestern part of Clayton, Commissioner Gail Hambrick’s district. Hambrick voted to block the plan. The nonprofit also plans to buy Ashford Ridge, a 250-unit complex in the center of Clayton, commissioner Michael Edmondson’s district. Edmondson also voted to reject the financing by Public Finance Authority. Commissioner Sonna Singleton Gregory cast the third vote, effectively killing the tax-exempt bond deal. Commissioner Shana Rooks voted in favor of the deal.

The three apartment complexes are owned by JAMCO Properties, which owns 20 apartment properties in metro Atlanta, most of which are clustered in Clayton. A review of online comments about JAMCO showed complaints about the properties ranging from aging pipes to poor treatment by staff to flooding.

“I’m very disappointed. It’s a decision that has great impact on a whole lot of people. This (plan would) renovate apartments, beautify the area and increase the tax base. I don’t know why he’s doing this,” Turner told the Atlanta Journal-Constitution regarding Edmondson’s action. “He owes the citizens of Clayton County an explanation.”

The Atlanta Journal-Constitution

By Tammy Joyner

Posted: 3:05 p.m. Wednesday, July 6, 2016

As bond yields dwindle worldwide, investors are turning to a $150 billion niche of the municipal market that offers higher payouts because of the risk they’ll be subject to a tax that few Americans actually pay.

The securities, which finance airports, housing agencies and non-profits, provide yields that are more than half a percentage point above typical state and local debt. That’s because the interest is covered by the Alternative Minimum Tax, a federal provision that applies to about 4 million high-income earners a year. For everyone else, it’s tax free.

“The demand for AMT bonds has grown because everyone is in search of yield in this yield-starved market,” said Tommy Chan, a senior credit analyst in New York for Ziegler Capital Management, which oversees about $11 billion and has been buying some of the debt for clients who aren’t subject to the tax. “The yields have compressed over the past year, but we still think there’s value there.”

Taxable debt has been among the best performing in the municipal market, in part because of money pouring in from overseas while officials hold interest rates below zero in Germany and Japan to spur economic growth. The bonds have returned 11.2 percent since the beginning of the year, more than double the 4.7 percent on traditional tax-exempt securities, according to Bank of America Merrill Lynch’s indexes.

When New York’s LaGuardia Airport sold $2.4 billion of the AMT debt in May, 30-year securities with a 5 percent coupon yielded 3.27 percent, about 2 percentage points more than top-rated debt, according to data compiled by Bloomberg. The price has since climbed, pushing the yield down to about 2.8 percent, narrowing the premium over the benchmark to 1.6 percentage points.

The prospect of paying the AMT — which ensures that deductions aren’t used to erase most or all of one’s bill to the Internal Revenue Service — has usually made the bonds less appealing to municipal debt investors, who typically look for tax-free investments with little risk. The AMT, however, has become less likely: It applied to just under 4 million tax returns — or 2.7 percent of the total — in 2013, according to data compiled by the Tax Policy Center. That’s down from as much as 4.3 million in 2011.

The more one earns, the less of a concern the AMT becomes, according to Chan. For those whose income exceeds $1 million, the likelihood drops to just 18 percent, compared with 63 percent in the $200,000-$500,000 bracket.

Nor is the tax risk an issue for investors outside the U.S., who have been stepping up purchases of municipal bonds that offer bigger yields than can be found at home.

Investors are still looking to take advantage of owning more AMT bonds in their portfolios, said Rob Amodeo, head of municipals in New York for Western Asset Management, which oversees about $440 billion.

“If you have a standalone portfolio and understand your clients’ tax status that they’re not subject to AMT and don’t anticipate being subject to it in the future, then absolutely, it’s an opportunity,” he said. “It’s a strategy we’ve been using over the last few years.”

The increased demand from buyers has been a boon for public-works projects by driving down the cost of financing. AMT bond issuance totaled about $16 billion in 2015, and $12 billion has been sold already this year, according to data compiled by Bloomberg. The Massachusetts Port Authority is planning to offer $172 million next week for Boston’s Logan International Airport.

“The country has embarked on large infrastructure projects, which has been reflected in a pickup in AMT bond issuance,” Amodeo said.

Bloomberg Business

by Molly Smith

July 8, 2016 — 2:00 AM PDT Updated on July 8, 2016 — 9:19 AM PDT

The world’s bubble-like bond rally has found its way to the U.S. municipal market.

The price of junk-rated Ohio tobacco debt that may never be paid in full has climbed 14 percent since the start of the year. New York City’s Albert Einstein College of Medicine sold $175 million of unrated securities in January at par for a yield of 5.5 percent. Now, they’re worth 122 cents on the dollar and yield 2.8 percent, according to data compiled by Bloomberg. Even those issued by Puerto Rico, which has been defaulting on a growing share of its debt, have returned 8.4 percent.

“What has changed in the last six months that makes the credit worth more?” said Lyle Fitterer, who oversees $40 billion as head of tax-exempt debt for Wells Capital Management and has been buying higher-rated bonds instead. “I’ll tell you what’s changed: the money flowing into high-yield funds.”

That corner of the $3.7 trillion municipal market, home to bonds backed by hospitals, speculative real estate developments and settlement payments from tobacco companies, has turned into a mad scramble. With interest rates hitting record lows around the world, investors are grasping for anything that promises bigger returns, driving a run up that will leave them at risk if the pendulum swings the other way.

As money poured into municipal mutual funds for the last 39 straight weeks, $8.3 billion — or more than one-third of the total — went to those focused on high-yield securities, according to Lipper US Fund Flows.

As a result, the extra payouts investors demand to compensate for risk has shrunk. Excluding Puerto Rico bonds, the difference in the yields of investment-grade and high-yield munis has narrowed to about 2.7 percentage points, 0.65 percentage point less than the average since 1995, according to Barclays Plc.

Securities that can be bought in blocks of $1 million or more, such as new issues and tobacco debt, are in high demand. When a private consortium borrowed $2.4 billion to finance the redevelopment of LaGuardia Airport’s Central Terminal Building, investors placed 10 times as many orders as bonds available, according to LaGuardia Gateway Partners, the manager of the project. The securities were rated Baa3 by Moody’s Investors Service, one step above junk.

John Miller, who oversees Nuveen Asset Management’s $14 billion high-yield muni fund, said a more accurate gauge of the risk of high-yield securities is to compare them to AAA rated tax-exempt bonds. By that measure, high yield municipals — excluding Puerto Rico — are trading at 2.4 percentage points more than top-rated bonds, or 0.1 percentage point less than the historical average.

“That’s attractive for having already eliminated the most volatile part of the market and the market that has the highest default risk,” said Miller, co-head of fixed income for Nuveen in Chicago. “Outside of Puerto Rico, we’re not seeing real stress.”

Tobacco bonds, which are backed by payments from cigarette companies under a 1998 settlement with 46 U.S. states, have benefited as smokers plowed savings from lower gasoline prices into cigarettes.

Moody’s projects 80 percent of the securities may default, based on historical declines of 3 percent to 4 percent in U.S. smoking. Cigarette shipments, which determine the payouts that states used to fund the debt, increased 1.9 percent last year, the most ever, according to the National Association of Attorneys General.
“That’s a big swing,” said Miller.

Last year’s bump is an anomaly, said Ken Shea, a senior analyst with Bloomberg Intelligence in Skillman, New Jersey. In the first three months of the year, shipments declined 5.5 percent from the previous quarter, according to Management Science Associates, a data and analytics firm.

The muni market is pricing high-yield bonds with the belief that interest rates will stay low for a long period and the economy will grow at a moderate rate, said Wells’s Fitterer.

He said that forecast may not be far off the mark. But with prices already having rallied so much, Fitterer is buying the least risky securities and letting his fund’s high-yield holdings decline as bonds mature. For example, a AA- rated Metropolitan Transportation Authority bond maturing in 2044 is trading at an average yield of 2.3 percent, just 0.5 percentage point less than the unrated Albert Einstein bonds. Einstein forecasts a $62 million loss in 2016, and 60 percent of its revenue comes from grants, contracts and gifts.

“We all know that at some point the markets will turn,” he said. “You have to look at the portfolio and say, ‘Gee, am I getting paid enough to take the incremental credit risk?’”

The indicated yield on Wells’s high-yield fund is 2.79 percent, compared to 6.35 percent for the Oppenheimer Rochester High Yield Municipal Fund, the highest of 40 such funds tracked by Bloomberg.

“We’ve always told people if we don’t see value in high yield we’re going to go where we see the best relative value,” Fitterer said. “If people don’t want to buy my fund, I’m fine with that.”

Bloomberg Business

by Martin Z Braun

July 7, 2016 — 2:00 AM PDT

Taylor Riggs, a contributor to Bloomberg Briefs, talks with reporter Joe Mysak about this week’s municipal market news.

Watch the video.

July 7, 2016

The price of security in financial markets keeps rising, and many investors are still paying up.

As investors have flooded into government bonds in recent weeks, pushing yields on the 10-year Treasury note to record intraday lows, they also bought shares of utility companies. Known as bond proxies because they pay relatively high dividends and are considered less risky than other S&P 500 sectors, shares of U.S. power and water providers have climbed 21% in 2016, gaining along with other haven assets like gold.

The run-up has made utility shares more expensive than usual compared with their last 12 months of earnings. The price-to-earnings ratio for utility stocks was roughly 21 on Thursday, compared with a 10-year average of 15 and higher than the S&P 500’s P/E ratio of 18.

It is a reflection of investors’ continued jitters about slowing global growth and the political and economic fallout from the U.K.’s vote to leave the European Union. Utilities were the only S&P 500 sector to rise in the meltdown immediately following the result.

Because utility companies provide critical services to U.S.-based customers, their stocks are relatively isolated from the turmoil overseas, while the recent fall in already-low government bond yields has also made such dividend-paying stocks more attractive in comparison, several analysts and investors said.

A wave of fear in the aftermath of the Brexit vote and an extended period of economic anxiety in 2016 have been more than enough to overwhelm concerns that the stocks are overpriced and suffering from diminishing returns.

“All of those components together lead to a favorable environment for utilities,” said Erik Davidson, chief investment officer at Wells Fargo Private Bank. “And yes, valuations are stretched, but if you look at global bonds, valuations are even more stretched.”

Last year, the sector lagged behind the broader market, falling 8.4% in 2015 as the S&P 500 lost 0.7%.

Utility stocks in the S&P 500 offer a dividend yield of 3.4% according to FactSet, behind only telecommunication stocks. That compares with a yield of 1.492% on the 10-year Treasury note on Thursday.

Government bond yields hit record lows in countries including Germany and Japan after the U.K. vote. Investors’ expectations for a rate increase from the Federal Reserve have fallen precipitously, increasing the appeal of dividend-paying stocks.

Some of the better-performing utility companies this year include American Water Works Co., Inc., which has gained 40%, NiSource Inc., a natural gas and electrical provider that is up 36%, and CenterPoint Energy, which has risen 31%.

There is relative certainty about utilities’ performance and ability to pay dividends, said Mike Barclay, senior equity portfolio manager at Columbia Threadneedle Investments. “When people are looking for yield in a low-rate environment, that’s very attractive. You can sleep a bit at night.”

Other haven assets have also gained considerably this year. Gold is up 25%. Yields on municipal bonds hit historic lows in June. Yields fall as prices rise.

Some investors said that even as low bond yields demonstrate the appeal of relatively safe, income-producing investments, utility stocks have grown very expensive, underscoring the risk of sinking money into stocks that have already shown big gains.

Other assets favored because of their dividends have taken a hit recently. These includes bank stocks, which have fallen amid concerns that low rates will pressure their profits, and energy-focused master limited partnerships, which suffered when oil prices fell.

“Don’t chase income and especially don’t chase it after everyone else has started chasing it,” said Allan Roth, a financial adviser at Wealth Logic in Colorado Springs. “The fact that utilities have gone up so much means it’s an especially poor time to do it.”

While expectations for rising rates have dwindled, utility stocks are expected to suffer if bond yields rise, making debt more competitive with the shares because investors have less need for utilities’ income. Economic growth could also cause investors to rotate to faster-growing sectors, leaving utilities behind.

“If we see growth prevail, we suspect they’ll be less rewarded than other spaces,” said Eric Wiegand, senior portfolio manager at U.S. Bank’s Private Client Reserve.

Still, some investors and analysts said it makes sense to stick with the stocks because there are few alternatives.

“People come in, they hit the switch and they expect the lights to go on,” said Jack Caffrey, equity portfolio manager at J.P. Morgan Private Bank. He has trimmed his utility exposure, but the run-up means he’s still overweight the sector. “You’re not worrying about how a plebiscite in a country 12 hours away is going to do to demand for electricity.”

THE WALL STREET JOURNAL

By AARON KURILOFF

July 1, 2016 2:53 p.m. ET

Write to Aaron Kuriloff at aaron.kuriloff@wsj.com

PORTLAND, OREGON — The National League of Cities (NLC), PolicyLink and the Urban Land Institute (ULI) are convening today in Portland, Oregon to launch the first-ever Equitable Economic Development Fellowship. Six cities were chosen to participate in the inaugural year of the fellowship: Boston, Charlotte, Houston, Memphis, Milwaukee, and Minneapolis.

The Equitable Economic Development Fellowship is a two-year, $1 million effort to help equity, transparency, sustainability and community engagement become driving forces in local economic development efforts. During the fellowship, which is generously funded by the Surdna Foundation and the Open Society Foundations, economic development leaders will convene for leadership development, technical assistance, and peer learning. Another class of six cities will be invited to participate in the second year of the program in 2017.

“Historically, many communities have not seen the benefits of local government economic development policies and programs. It isn’t difficult to find examples in cities and states around the country where local governments have particularly shortchanged people of color, immigrants and low-income neighborhoods,” said Jess Zimbabwe, director of the Daniel Rose Center for Public Leadership in Land Use at NLC and ULI. “Some cities are looking for a new path forward, developing creative strategies to jumpstart their economies and to more inclusively invest public dollars.”

While in Portland, each city team will identify a particular equity challenge in economic development to focus on during the course of the fellowship. The cities will receive support and technical assistance from NLC, PolicyLink and ULI, as well as their peer cities, to address the specific diversity and inclusion challenge. While in Portland, the city fellowship teams will also hear from Mayor Charlie Hales and leaders from the Portland Development Commission about the city’s strategies for moving the needle on equity and inclusion.

“It’s important for cities of all shapes and sizes to have economic policies that impact and benefit all of the members of our communities,” said Clarence E. Anthony, CEO and executive director of the National League of Cities (NLC). “This fellowship will bring together six different cities to tackle six different inclusion issues. We are excited to partner with these cities to address these challenges and create solutions that will help lead to a more equitable future.”

“Cities are recognizing that creating equitable and sustainable economic prosperity for all should be the goal of their activities across the board,” said Angela Glover Blackwell, PolicyLink president and CEO. “We are excited to be working with economic development leaders who are eager to integrate an equity approach into their efforts to grow strong local economies.”

“We’re excited about the launch of the new fellowship and its significance in helping us create more livable, vibrant, and economically successful cites,” said ULI Global Chief Executive Officer Patrick L. Phillips. “The involvement of community stakeholders in the economic development process is a key part of creating places that are appealing to residents, visitors and investors.”

“At Surdna, we believe it’s essential that cities develop new approaches to economic development that ensures greater prosperity for all communities. The Equitable Economic Development Fellowship will advance new thinking and best practices that we anticipate will influence the broader field”, said Phil Henderson, president of the Surdna Foundation. “We are truly grateful to partner with the National League of Cities, Urban Land Institute and PolicyLink to launch this ambitious program that will transform economic development practices across the country.”

“All too often, government is challenged in its ability to deliver economic opportunity to the communities that need it most. We are excited about the potential of this fellowship to help bring new ideas and new leaders to the table, and to demonstrate that equity and inclusion can drive economic growth for the many, not just the few,” said Ken Zimmerman, director of US Programs at the Open Society Foundations.

JUNE 28, 2016

A flood of state and local government debt in June wasn’t enough to dampen a rally in the municipal-bond market.

While states and local governments sold $44 billion fixed-rate bonds, more than any month since October 2010, the securities returned 1.6 percent, buoyed by steady investor inflows and a flight to the safest assets amid speculation about impact of the U.K. vote to leave the European Union.

It was the best June performance since 2000 and the market’s biggest advance since January 2015, according to a Bank of America Merrill Lynch index. In a sign of the market’s strength, 30-year yields declined 0.15 percentage point the day after England’s June 23 referendum, slightly more than Treasuries. At 3.18 percent, the Bond Buyer’s 20 Year General Obligation Bond Index is at its lowest since May 1965.

“We’re talking about massive issuance and nevertheless deals have been vastly oversubscribed, at least until now,” said Mikhail Foux, head of municipal strategy at Barclays Plc. “People just can’t get enough despite rates actually falling.”

Historically, June has proven to be a weak time for the local bond market because it has the heaviest supply of new bonds. The Bank of America Merrill index has posted positive returns in the month only three times since 2006.

Macroeconomic forces this year combined to push up prices instead. June began with a disappointing jobs report that showed employment growth was the lowest in five years, weakening the case for the Federal Reserve to raise interest rates. It ended as investors took shelter from the fallout from the so-called Brexit. In between, the Fed’s statement that inflation remains below its 2 percent target stimulated demand for longer-dated bonds.

U.S. state and local-government debt funds have taken in cash for 39 straight weeks, according to Lipper US Fund Flows data, the third longest streak. Even before the U.K.’s vote triggered turmoil in markets worldwide, the funds picked up $1.4 billion in the week ending June 22, the most since January 2013.

Foreign buyers, faced with negative interest rates in their own countries, are contributing to the flood of cash.

With yields at a more than 50-year low, such inflows may be curtailed if investors start looking elsewhere for higher returns, said Matt Dalton, who oversees $5 billion of munis as chief executive officer of Rye Brook, New York-based Belle Haven Investments.

“There’s just not as much meat on the bone,” Dalton said. “When you’re at a low yield level like we are, at some point you just run out of gas.”

The only part of the muni yield curve that has slightly underperformed is the short-end, said Foux.

Investors should add short-dated bonds and hedge them with Treasuries, he said. Short-dated New Jersey general obligation and appropriation-backed bonds and Detroit Public School bonds are attractive as is zero-coupon debt.

In July and August, the strength of the $3.7 trillion market may continue as issuance declines and bondholders reinvest debt payments and proceeds from callable bonds. Nuveen Asset Management forecasts $48 billion will be reinvested in July and $44.5 billion in August, compared with issuance of $39 billion and $37 billion, respectively.

Since the beginning of the year, munis have returned 4.3 percent, or 6.2 percent on a tax-adjusted basis, according to Barclays. That’s better than the 5.4 percent return for Treasuries. The S&P 500 has gained about 2.7 percent.

“All those features in terms of tax exemption, the yield, and negative correlation to equities have attractive characteristics, so they keep putting money to work and that money is coming in globally as well,” said John Miller, co-head of fixed income in Chicago at Nuveen, which oversees $120 billion of munis.

After Brexit, the Fed likely won’t raise interest rates for the rest of the year, eliminating a risk to the value of outstanding fixed-income securities, Miller said.

Meanwhile, a victory by Democrat Hillary Clinton in the presidential election would also support municipal bonds because she would likely raise taxes, increasing the value of the tax exemption, said Foux. Conversely, a Trump victory would hurt.

“For the most part, I see the market being supported near term,” Foux said. “It’s a defensive asset class. It should perform well in times of stress.”

Bloomberg Business

by Martin Z Braun

July 1, 2016 — 2:00 AM PDT Updated on July 1, 2016 — 4:54 AM PDT

U.S. municipal bond and note sales will total just $1.6 billion during next week’s shortened calendar because of the July 4th holiday, compared with nearly $9 billion this week, according to Thomson Reuters estimates.

The biggest deal on the calendar is from the South Carolina Transportation Infrastructure Bank for $204 million of revenue refunding bonds.

Low supply has contributed to strong muni market performance. The 30-year yield on top-rated muni bonds hit another record low on Friday, closing at 1.99 percent, according to Municipal Market Data, a Thomson Reuters unit.

The 10-year yield was 1.34 percent on Friday, just 5 basis points off its the record low of 1.29 percent hit on June 27.

Muni bond issuance levels dropped to $214.5 billion in the first half of 2016, a 0.2 percent decline from the same period last year.

Fri Jul 1, 2016 5:29pm EDT

(Reporting by Hilary Russ; Editing by Dan Grebler)

“Blended” models have the potential to bridge some big gaps in infrastructure finance.

Public-private partnerships are the future of public finance. That little sentence can light a fire in the world of public money, which is struggling to find the wherewithal to pay for infrastructure.

For a while now, public-private partnerships (P3s), which let a private entity handle everything from the development and operation of a public project to its financing, have become a standard option to replace roads, bridges, wastewater treatment facilities and other core infrastructure. Recently, there’s been talk of using P3s for the reimagining of such icons as New York’s Penn Station and LaGuardia Airport, Chicago’s “L” train, and the Los Angeles Convention Center.

It has become increasingly clear that P3s are a badly needed alternative to finance projects. One reason: Many states and localities have reached either the end of their political will to take on more debt or their legal limits on borrowing inexpensive, tax-exempt money. Federal law does not permit the use of tax-exempt bonds on a project if more than 10 percent of the money comes from private sources, which is why projects are usually financed with all public money or all private money.

At the same time, there is concern that P3s are giveaways to the private sector. The pushback centers on a contention that many P3s don’t shift enough of the financial, operational and political risks onto the private sector.

Despite the unease, there is widespread agreement that the private sector can add value. This is especially true for project management and operations. Private partners don’t answer directly to a political process. They can deploy new technology, invest in preventive maintenance, rearrange staffing and bring in new expertise, all without asking permission. Many government infrastructure managers would give anything for that kind of speed and flexibility.

So what’s got public finance folks excited about P3s’ future? Recent attempts to blend the public sector’s access to low-cost, tax-exempt financing with the private sector’s expertise and agility. Three emerging strategies are moving in that direction.

One is to bring nonprofit partners into the mix with the goal of allowing private partners to have financial skin in the game so that they are more excited about managing or operating a piece of public infrastructure.

Here’s how this strategy would work: A government and its private partners structure a P3 around a nonprofit corporation. That nonprofit sells tax-exempt municipal bonds to finance most or all of the project, leases the project back to the government and then uses those lease payments to pay off the bonds. Because it’s a nonprofit, it can also take money from private-sector investors and write contracts with private partners to maintain and operate a project.

The National Development Council claims to have pioneered this “American Model” of P3s. Seattle’s South Lake Union and the Riverside County, Calif., Law Building are good recent examples.

A second strategy is to expand the scope of tax-exempt financing. Under federal law a government can use tax-exempt private activity bonds to finance infrastructure that’s managed by private operators — airports and water-sewer systems, for example. However, federal law also limits the size and scope of the private activity bond market. Expanding the amount of private activity bonds allowed and the types of projects they can finance would expand these joint benefits.

A third is for governments to grow their role as lenders. States have a variety of infrastructure loan programs for local governments. The federal government does the same through Transportation Infrastructure Finance and Innovation Act loans and similar programs. Under some P3 models, private partners can access these programs and use them as loan guarantees against other investments. This can help to leverage enough private investment to make a P3 pencil out. The Move America Act legislation now pending in Congress seeks to boost these types of loan financing tools.

Right now these “blended” P3 models are just a small part of the infrastructure finance landscape. But they have potential to bridge some big gaps.

GOVERNING.COM

BY JUSTIN MARLOWE | JUNE 2016

The governors of Louisiana and New Hampshire recently signed transportation P3 enabling bills into law.

Although the Louisiana Transportation Authority already is permitted to use P3s, Act 519, which was introduced as SB 549, extends this authority to the state’s Department of Transportation and Development.

The law also stipulates that a quarter of all P3 projects the department conducts must be located outside a metropolitan planning area. This subset of projects must be approved by House and Senate transportation, agriculture, forestry, aquaculture and rural development committees.

The law, which took effect June 13, specifically prohibits the department from accepting unsolicited proposals.

The law also sets up a public-private partnership transportation infrastructure oversight commission, whose members are appointed by the governor and other state officials, to review and recommend suitable projects to the commissioner. The commission is required to hold at least one public meeting to solicit feedback on draft requests for proposals, followed by a 30-day comment period.

This is the first law the state has enacted authorizing the use of P3s to procure infrastructure projects.

“Senate Bill 549 will help build innovative public-private partnerships that are critical to moving commuter rail forward,” Gov. Maggie Hassan said in a June 16 statement upon signing the bill. She also expressed dismay over legislature’s refusal to include her proposal to build a commuter rail line from Boston to Nashua and Manchester, N.H., in the 10-year transportation plan. Hassan had previously signed into law a bill authorizing a study to assess the feasibility of using P3s for such projects.

NCPPP

June 30, 2016

A brief historical stat sheet to the municipal ARS, FRN, and VRDO market ending June 2016. In excel format only.

Read the report.

July 1, 2016

Kroll Public Finance: Special Tax Revenue Bond Rating Methodology.

6/17/16

Kroll Public Finance: U.S. Local Government GO Methodology.

6/17/16

Kroll Public Finance: Private, Not-For-Profit U.S. Higher Education Rating Methodology.

6/17/16

Kroll Public Finance: General Property Tax/Assessment Revenue Methodology.

6/17/16

Kroll Public Finance: General Revenue Bond Methodology.

6/17/16

Kroll Public Finance: U.S. State and Local Government Abatement Lease Rating Methodology.

6/17/16

Kroll Public Finance: U.S. General Airport Revenue Bond Rating Methodology.

6/17/16

Kroll Public Finance: U.S. Municipal Water and Sewer Revenue Rating Methodology.

6/17/16

Kroll Public Finance: U.S. Public Toll Roads, Bridges & Tunnels Revenue Bond Rating Methodology.

6/17/16

DALLAS — Cash­-strapped colleges and universities are finding public­/private partnerships as an attractive avenue for financing student housing and other campus infrastructure projects, according to Fitch Ratings.

The benefits of a P3 financing include an efficient construction process and less operational risk for the school, Fitch analysts said in a new report on college P3s.

“Recent P3s by some colleges have been able to procure funds more quickly and efficiently than traditional sources while offloading risk to the private sector and preserving colleges’ balance sheets,” said Fitch senior director Seth Lehman, chief analyst on the report.

College campuses are like small cities that provide a number of public services that can generate the revenues sought by private investors, Lehman said.

“It’s not for every university,” Lehman said. “The schools have to be willing to give up some control to the private investors, like the ability to set dormitory fees.”

Higher education P3 ratings are likely to fall within the triple­-B category but higher ratings are possible for P3s with robust coverage and little cost risk, he said.

“Strong contractors and sufficient third­-party security packages can also result in a higher rating for higher ed P3s” Lehman said.

Large public flagship universities with good credit ratings are less likely to turn to P3 financing than are the smaller schools, according to Lehman.

“The larger schools with good access to the municipal market often don’t see that they can justify it but secondary institutions are less certain to find funds for renovations or other infrastructure needs,” he said.

A $1.14 billion campus expansion project at the University of California at Merced announced in November 2015 could be a model for future higher education P3 projects, Lehman said.

“That’s one that a lot of people are going to be looking at,” he said. “It’s certainly one of the larger ones you’ll see in the higher ed market.”

The UC Merced 2020 Project will be financed with $600 million of University of California revenue bonds that the UC Board of Regents will be asked to approve in July and $157 million of UC­Merced funds.

Plenary Properties Merced was selected Wednesday as the winning bidder for the 39­-year concession to build and operate almost 1 million square feet of new facilities on the campus located near Yosemite National Park.

Plenary Group, an international infrastructure developer, is the lead partner and equity provider.

The consortium of international financial, engineering, and design partners will contribute $386 million of equity to the four­-year construction effort and receive $51 million per year of availability payments for 35 years.

The UC Merced project will include classrooms and housing for 1,700 students as well as recreational areas, dining spots and walkways. Work will begin later this year and be completed by 2020.

The new buildings will feature classrooms and meeting spaces on the ground floors and student residences on the upper levels.

The Merced deal is the largest P3 of its kind in the U.S. higher education sector and the first time that the UC system will use a single private development team for a multiyear, multi-building project, said UC president Janet Napolitano.

The work will be completed nearly twice as fast as a traditional public construction project, she said.

“UC Merced is poised to become a model for our other campuses as we look for the most efficient ways to construct, operate and maintain facilities that enable us to pursue our teaching, research and public service missions,” Napolitano said.

UC Merced is the newest and smallest full­-service campus in the UC system, with 6,685 students. The expansion project will provide space for 10,000 students.

The Bond Buyer

By Jim Watts

June 16, 2016

In one of the biggest rallies in recent memory, municipal bonds surged on Friday after Britain voted to leave the European Union.

Yields on some top-rated municipals fell as much as 17 basis points to record low levels. Analysts said the move signaled that yields will remain near all time lows longer than anyone had expected and that negative U.S. interest rates may be on the horizon.

A New York muni trader who has been in the business for over 25 years said that Friday was one of the wildest trading days that he had ever seen.

“The flight to quality was crazy overnight and muni ratios got ridiculous cheap,” the trader said. “We pretty much had two types of buyers who came in and bought. We saw the mutual funds who were getting squeezed because they were getting higher coupons getting redeemed and taken out, which forced them to re-invest at lower yields. When they come in, they chase the market. But on top of that, we saw absolute low yields and attractive relative yields.”

While analysts saw Friday’s trading as just a one-day price movement, they also felt there were longer-term implications looming for the market.

“Today’s rally is an overreaction, no doubt” said Vikram Rai, CFA and head of municipal strategy at Citi. “But there is no doubt that Brexit will mean lower yields for a longer time.”

Rai said Federal Reserve Chair Janet Yellen is very cautious about roiling the financial markets by raising interest rates too early – and that she had waited and bypassed a chance for a June hike in order to study any possible effects of a Brexit yes vote.

Others also saw a cautious Fed ahead.

“With the news, it seems pretty likely you take the Fed off the table now,” said Jim Grabovac, senior portfolio manager at McDonnell Investment Management.

“It is off the table for July [and] unlikely conditions would warrant actions prior to the end of the year,” Grabovac said. “Aside from the near-term shock, over the medium-term I think this will put pressure on rates to remain low and will stay persistent. This could also be seen as a positive for the dollar, and a stronger dollar would pressure U.S. inflation higher.”

Municipal Market Data’s Senior Market Analyst Randy Smolik also said he that a July rate hike by the Fed was probably off the table, but that doesn’t mean the Fed won’t move later in the year.

“There’s no immediate satisfaction,” he said, noting that Britain has up to two years to negotiate a withdrawal from the EU and that a lot could change in that time.

On the buy side, sources stressed both the short- and long-term consequences to the Brexit vote.

“The immediate impact is lower yields and higher dollar prices on most high to medium-quality bonds,” said Michael Pietronico, chief executive officer at Miller Tabak Asset Management in New York City. “We sense 5% coupons will begin to lag as the ultra-high dollar prices will turn retail investors off.”

Pietronico said his firm has long held that negative interest rates were heading to the United States. “We have been vocal on that call for months with our target for this to occur in the second half of 2017,” he said. “If we are wrong on this call it will only be because it happens sooner.

“The United States economy cannot sustain growth with a strong U.S. dollar and the direct consequence of Brexit will be downward pressure on inflation here in America, and a Federal Reserve [that] will no longer even challenge the notion outwardly of raising rates again.”

According to Friday’s final read of Municipal Market Data’s triple-A scale, the yield on 10-year benchmark muni general obligation fell 17 basis points to 1.36% from 1.53% on Thursday, while the 30-year muni yield declined 15 basis points to 2.08% from 2.23%. Both maturities are now at record low levels. At one point during the day, yields were down by as much as 20 basis points.

Markit said the effects from Brexit vote were felt throughout the market early on Friday, with yields on investment-grade bonds tightening 17 to 20 basis points from previous day’s close.

According to Markit’s evaluated bond pricing service (http://www.markit.com/Product/Pricing-Data-Bonds-Municipal), yields on University of California, 5’s of ’46, tightened by 18 basis points.

And the rally was not isolated to top rated-munis, Markit said, adding that yields on lower rated Loma Linda University Medical Center, 5.25’s of 56, tightening 14 basis points as well. Taxable California, 7.6’s of 40, also rallied 10 basis points from previous day’s levels.

Some analysts see a continued demand from buyers of municipal securities.

“The market for munis has been strong and this will only add to the dynamic,” said Dan Heckman, senior fixed-income strategist at U.S. Bank Wealth Management. “I am not surprised the vote went that way, but I was surprised by the margin of Exit; it was a wider win than I thought would occur. What is happening today is a unwinding on the equity side.”

Other market strategists agreed.

“I expect business as usual for munis after the dust of today’s rally settles,” Janney Municipal Strategist Alan Schankel said in an email on Friday. “As low as our rates look (munis and Treasuries), they are still above rates of Euro economies, some of which are negative (Switzerland and Germany).”

George Rusnak, Head of Global Fixed Income at Wells Fargo Wealth Management, saw a fair amount of trading volatility but said that was “both exacerbated and muted by this being a Friday in summertime,” when there is typically less trading being done.

He said he was not seeing the market have any liquidity problems, but added there was a bifurcation in munis, with some buyers gravitating toward a risk off trade while other looking moving into it as a risk on trade.

Munis have done very well so far this year, he said, in terms of mutual bond fund inflows and muni to Treasury ratios.

He said the only fly in the ointment might be that low yields are forcing higher pricing and that issuers might have to change their focus.

“They are running into retail resistance,” he said, adding that there’s a recalibration taking in mindsets, so there may be more issues being priced with lower than 5% coupons.

But most saw strength in munis lasting beyond the day.

“We have lower yields now, but munis are hanging in there,” said Dawn Mangerson, senior portfolio manager at McDonnell Investment Management. “I would say hold onto your munis for a little longer, they are a safe haven and a complement to equities.”

She added that “positive yield is awesome for foreign investors.”

Other analysts agreed.

While there is likely to be global economic uncertainty and global financial-market volatility, Peter Donisanu, global research analyst, and Paul Christopher, head global market strategist at Wells Fargo Investment Institute believe that the domestic impact will be manageable and investors should remain active.

“Outside of limited trade ties, the direct impact around the world is likely to be contained, and we believe that growth in the U.S. economy may slow from 1.9% to 1.7% in 2016,” the team wrote in a June 24 global investment strategy report.

“Systemic risks are likely to remain subdued given significant financial tools available to central bankers and the significant amount of global liquidity available,” the analysts wrote. “We believe that it is important that investors look through the uncertainties related to UK’s upcoming negotiations with the EU and remain fully committed and fully invested in their long-term investment plan,” Donisanu and Christopher added.

There are longer-term effects of the Brexit referendum that should be taken into account as well, strategists said.

Rai saw three possible scenarios. Politically the vote could embolden some political parties in other EU counties to also push for a membership referendum. Economically, the impact could result in slower growth in the Eurozone, he said. Slower growth means lower yields, he said, and that could be good for U.S. Treasuries. Financially, it may mean many banks which had moved headquarters to London may move back to the continent, which might hurt bank profitability.

Heckman also saw a possible political danger

“On the long term, if other countries want to make votes to leave the EU, that would be problematic and create volatility,” said Heckman.

The Brexit vote should bolster and support municipal bond prices, especially with a favorable July and August seasonal period on tap, while the long term implications of the British exit from the EU will take time to evaluate, according to Anthony Valeri of LPL Financial.

“The negative economic implications and lingering uncertainty are positive for municipal prices,” Valeri told The Bond Buyer Friday afternoon. “As is typical during flight-to-safety rallies, munis lag Treasuries but are still enjoying broad-based strength — long-term bonds outperforming intermediate, which in turn is outperforming short-term bonds.”

“Despite a strong start to 2016, I don’t envision recent gains fading soon,” Valeri said.

Overall, Valeri said Brexit should reinforce investor demand for high-quality bonds, however, while a flight-to-safety is underway, he said municipals are unlikely to match the pace of Treasury gains. In addition, he said, central banks are now more bond friendly and the Federal Reserve rate hikes before end of year are highly unlikely.

The Bond Buyer

By Chip Barnett and Aaron Weitzman

June 24, 2016

Christine Albano contributed to this story.

NEW YORK, June 24 (Reuters) – U.S. municipal bond yields blew through previous record lows on Friday as investors snapped up tax-free debt amid a global flight to safety after Britain voted to leave the European Union.

Yields on top-rated munis fell as much as 20 basis points, with movement especially steep in longer maturities, according to a preliminary read of Thomson Reuters’ Municipal Market Data’s (MMD) benchmark scale. Bond prices move inversely to yields.

The $3.7 trillion muni market, most of which is investment-grade tax-exempt debt issued by states and cities, was already on a hot streak with no end in sight, with demand outstripping supply for months.

For 38 straight weeks, investors have poured money into muni bond funds with a net $30.4 billion added year-to-date. The week ended June 22 had the highest inflows in over three years at $1.4 billion, according to Lipper data.

Over the past 12 months, munis have returned 7.03 percent versus 5.18 percent for Treasuries, according to Barclays indices.

The “feeding frenzy” for muni bonds is unabated, said Bank of America Merrill Lynch research strategist Philip Fischer.

“Munis are very strongly bid and we’ve been bullish on the muni market for a long time. We remain bullish,” he said, adding: “We expect we will have another new low in muni rates in the next couple of weeks and we’ll probably get some profit taking then and rates will go back down before the end of the year.”

Low muni yields allow state and local governments to borrow, for infrastructure, school construction and more, and refinance old debt at affordable interest rates.

Yet debt issuance has been low in part because of a lingering austerity mindset among many public officials after the recession prompted painful public sector spending cuts.

Issuance totals $205.5 billion so far this year, a 2 percent drop over the same period in 2015, according to Thomson Reuters data.

Yields hit lows on June 16 for 10-year and 30-year munis, at 1.42 percent and 2.13 percent, respectively, according to MMD.

MMD data goes back to June 1981, when the yield on a AAA-rated 30-year bond was 10.20 percent.

Some have urged caution because even riskier muni bonds are now expensive.

Even so, investors are not likely to rush to cash out, said Dawn Daggy-Mangerson, director of municipal portfolio management at McDonnell Investment Management.

“Munis are a nice place to put your money until things settle down,” she said.

By Hilary Russ

(Reporting by Edward Krudy and Hilary Russ in New York; Additional reporting by Karen Pierog in Chicago; Editing by Daniel Bases and Tom Brown)

Public agencies enter into P3 agreements to reduce a project’s construction and life cycle costs, expedite their completion, and improve their efficiency and reliability. In addition to skills and experience, private developers often count on having the flexibility to use innovative techniques and technologies to help them meet these expectations.

Although more than half of the innovations that are typically incorporated into P3 projects are “incremental,” they can help to shave 30 percent from a project’s costs, especially in transportation and transit projects, a new study indicates.
“Understanding the Effect of P3s on Canadian Infrastructure Projects,” conducted by researchers at the Ryerson Institute for Infrastructure Innovation at Toronto’s Ryerson University, reports the results of a literature review of P3 project documents and interviews with 19 people who were associated with 15 successful Canadian P3 projects.

The researchers found that about 60 percent of the innovations these projects included were relatively modest in scope because timely, cost-effective project delivery, not innovation, are procuring agencies’ top priority. The relatively short time frame developers have to respond to requests for proposals and the tendency of public and private partners to be risk averse also discourage exploratory approaches to project development. As a result, proven rather than experimental technology tends to be proposed and accepted, the study’s authors found.

This finding notwithstanding, many of the requests for proposals Canadian agencies issue encourage developers to propose innovative approaches, although their means of doing so varies. British Columbia and Alberta use very general terminology to attract innovative proposals, for example, while Infrastructure Ontario will issue required or preferred innovation provisions in its RFPs.

The researchers found that the types of new technology or techniques that were introduced, and when, varied by project type. Facility P3s, such as hospitals and court houses were most likely to incorporate innovation in the design rather than construction phase and were often described in the RFP. These new approaches usually involved technological adaptation or changes to respond to the demand for services or to achieve energy or architectural sustainability.

Most innovations in transportation and transit projects, on the other hand, were proposed and implemented after financial close and focused on construction challenges. These changes were often developed to address geotechnical, traffic management and project durability challenges. “This is a good indication that P3s have successfully transferred the construction risk to the private sector,” the researchers wrote.

The authors also provided a glimpse into major innovations interview subjects had introduced in specific P3 projects. These included “compact footprint, building orientation and use of spandrel glass panels” to make a courthouse project more green, installing a pneumatic tube system and automatic guided vehicles to streamline a hospital’s delivery process, and building cut-and-cover tunnels rather than boring them as part of a railway project.

Almost all of the interview subjects agreed that the procuring agencies accepted proposed innovations based on cost and said that far more proposed innovations were rejected than accepted. Approval was based on the proposed innovation’s affordability and ability to enhance performance.

The researchers made several recommendations to public agencies and private developers to encourage innovation and its acceptance in P3 projects. They called on agencies to focus less exclusively on contract compliance and more on addressing the needs a project is intended to address, its preferred functionality, performance and the level of services it is intended to provide.

Private developers were encouraged to focus on projects that involve life cycle development rather than short-term project completion.

The researchers also urged the P3 community to collaborate with universities and applied research centers to spur radical innovation and advised governments to invest in infrastructure research and development.

Finally, they called for more research into innovative ways to finance P3s.

NCPPP

June 23, 2016

Carol Spain, an Associate Director in the States Group out of Chicago, discusses our recently published article “Debt Levels Flatline As US States Prioritize Budget Management Over Investment”.

Listen to the Podcast.

Jun. 23, 2016

By using data analytics to make decisions about pretrial detention, local governments could find substantial savings while making their communities safer.

Few areas of local government spending present better opportunities for dramatic savings than those that surround pretrial detention. Cities and counties are wasting more than $3 billion a year, and often inducing crime and job loss, by holding the wrong people while they await trial. The problem: Only 10 percent of jurisdictions use risk data analytics when deciding which defendants should be detained.

As a result, dangerous people are out in our communities, while many who could be safely in the community are behind bars. Vast numbers of people accused of petty offenses spend their pretrial detention time jailed alongside hardened convicts, learning from them how to be better criminals.

Ideally, deciding who should stay in jail and who can safely be released would be based on the individual’s risk of not showing up for court and his or her risk of committing a crime while awaiting trial. Instead, the deciding factor is often the defendant’s pocketbook. Those who have the money for bail — including those who are more successful criminals — get out, while the rest remain in jail. Nearly half of Americans don’t have $400 for emergencies; if they get arrested, they are probably going to stay in jail until trial or a guilty plea. The long-term economic impact of incarceration is an earnings drop of 40 percent.

In this era of big data, analytics not only can predict and prevent crime but also can discern who should be diverted from jail to treatment for underlying mental health or substance abuse issues. Avoided costs aggregating in the billions could be better spent on detaining high-risk individuals, more mental health and substance abuse treatment, more police officers and other public safety services.

Jurisdictions that do use data to make pretrial decisions have achieved not only lower costs but also greater fairness and lower crime rates. Washington, D.C., releases 85 percent of defendants awaiting trial. Compared to the national average, those released in D.C. are two and a half times more likely to remain arrest-free and one and a half times as likely to show up for court.

Louisville, Ky., implemented risk-based decision-making using a tool developed by the Laura and John Arnold Foundation and now releases 70 percent of defendants before trial. Those released have turned out to be twice as likely to return to court and to stay arrest-free as those in other jurisdictions. Mesa County, Colo., and Allegheny County, Pa., both have achieved significant savings from reduced jail populations due to data-driven release of low-risk defendants.

Data-driven approaches are beginning to produce benefits not only in the area of pretrial detention but throughout the criminal justice process. Dashboards now in use in a handful of jurisdictions allow not only administrators but also the public to see court waiting times by offender type and to identify and address processing bottlenecks.

Fast-tracking minor cases allowed Tarrant County, Texas, for example, to reduce its jail population by 40 percent; mental-health diversion resulted in $10 million in savings per year in Bexar County, Texas; and New Orleans reduced crime while witnessing a two-thirds decrease in its in jail population by using risk-based pretrial decision-making and turning to summonses rather than detention for low-level offenses such as disturbing the peace and marijuana possession.

Why isn’t every jurisdiction moving toward data-driven criminal justice decision-making? One of us served as a three-term “tough-on-crime” district attorney and the other as a high-ranking state criminal justice official, yet neither of us saw much semblance of a systemic approach. Change that involves multiple stakeholders is hard and requires dedicated leadership. Only a coordinated system can accurately balance community risk and benefit. There will be mistakes. Someone who is released will commit a serious crime. But large-scale pretrial incarceration of minor offenders just creates more crime.

As more jurisdictions realize that what is fiscally responsible is also just, we have the opportunity not only to save money but also to make our communities safer and economically stronger. Data-driven decision-making might not solve all of the challenges of achieving justice, but it’s a good place to start.

GOVERNING.COM

BY STEPHEN GOLDSMITH, JANE WISEMAN | JUNE 22, 2016

Governments’ increasing reliance on special funds can put them in financial and legal trouble.

State and local budgets are based on general fund revenues. The cash usually comes from such primary sources as income and sales taxes, and pays for a wide swath of government services. When managers talk about “balancing the budget,” they’re almost always referring to balancing the spending and revenues from this repository.

Reliance on the general fund as the centerpiece of fiscal management, however, has growing flaws. This is largely because the general fund is diminishing as the main source of money for governments. Data from the National Association of State Budget Officers shows a fairly steady drop in the portion the general fund makes up of the total — 41 percent in 2014 compared with 52 percent in the early 1990s. In Virginia, the general fund made up 47 percent of the total in 2006 and only 39 percent in 2015.

Some of the drop comes from an increase in bonds and, even more so, federal funds, but there’s also been a slow and steady rise in the size and quantity of special funds that are earmarked for specific purposes and get little attention in the annual budget debate.

The Fiscal Futures Project at the University of Illinois at Chicago (UIC) has pinpointed a number of problems with this shift. Depending on state law, special funds may bypass the appropriations process, and unlike the general fund, money collected and unspent may be retained at year’s end rather than being returned to the general coffers. This makes special funds an appealing target when tough budget times hit. Lawmakers see these plush balances outside the general fund as a means to balance the budget. They may transfer or lend money from the special funds to the general fund.

That leads to additional problems. It is a common tenet of responsible budget management that one-time money be used for one-time expenditures. If these funds are raided, then unless revenues are raised or expenses are cut, the government will still come up short in the next budget cycle.

The movement of money between general and special funds “has reduced the transparency of budgeting,” says David Merriman, a professor at the Institute of Government and Public Affairs at UIC. The cloudiness of the budget picture enables political leaders to boast about a reduction of general fund spending, when spending has just been added to one or more special funds.

States can also put themselves in legal peril by using funds for general purposes that are restricted to a specific use. Just after the recession ended, for example, the Wisconsin Supreme Court nixed the transfer of money from a malpractice fund into the state’s general fund. The state had to pay back the $200 million along with interest.

New Mexico’s reliance on special funds has led to a host of policy and management problems. As the state auditor pointed out in a February analysis of fund balances, New Mexico had $4.4 billion in unused balances socked away outside of the general fund at the end of fiscal year 2015. Some of that money is untouchable because of iron-clad restrictions about its use.

The large amounts of unspent money raise questions about whether so much should be in funds that get so little attention. Auditors in New Mexico, for instance, found that a significant amount of money was being retained in revolving funds, which are intended as a cash-flow device for agencies and local governments. Localities are supposed to use this money and then return it so it can be used again. The practice isn’t the problem, but the auditor found that some of the funds had very little lending activity, even though the state faces critical infrastructure needs for which it could be used. For example, $34 million sat unused in a revolving fund account for rural infrastructure between fiscal years 2014 and 2015. “You can’t justify a loan fund that had no loans out of it,” says Tim Keller, New Mexico’s state auditor.

Keller, who was a legislator for six years before he took over last year as state auditor, spells out the real-life drawbacks of low-attention money. As a member of the legislature, he helped secure financing to build a dam in Las Vegas, N.M. “I thought that fixing the dam was important and I put my political weight behind it,” he says. He wasn’t alone. The governor and local legislators “were all taking credit for the dam,” he says.

But that back-patting was premature. With less visibility, money outside the general fund can go unspent, particularly when a legislative appropriation only provides partial funding as was the case for the dam. That’s because “there’s no one constantly monitoring it,” says Sarita Nair, general counsel in the auditor’s office.

Today, the dam is half finished, the money that was appropriated is largely unspent, the project’s opponents have brought a lawsuit to stop its progress and the town still has a water crisis. “You can take credit for funding something, but that’s a different question than actually having it built,” Keller says.

GOVERNING.COM

BY KATHERINE BARRETT & RICHARD GREENE | JUNE 2016

The average funded status of public pension plans dipped slightly in 2015 and could continue in that direction if plans consistently fail to meet their desired investment rate of return, according to a new report.

The report, released by the Boston College’s Center for Retirement Research, found that the average pension plan in 2015 had about 72 percent of the assets on hand to pay its total liabilities. That’s down from 74 percent the year before. The decrease can largely be attributed to mediocre stock market returns in fiscal 2015, causing most plans to miss their target rate of return of 7 or 8 percent.

The decline comes even as governments are getting better about paying their pension bills. On average, they paid 90 percent of their pension contributions in 2015 — up from about 86 percent the year before.

The Takeaway: If plans continue to miss their marks, the center predicts that pensions’ health could continue to decline to about 71 percent funded by 2020. On the other hand, if market conditions improve, then pensions’ funded status could improve to nearly 78 percent. “What happens from here on out depends very much on investment performance,” the report concluded.

GOVERNING.COM

BY LIZ FARMER | JUNE 24, 2016

Investors who’ve come to depend on steady income checks from leveraged municipal-bond funds are starting to feel the pinch from the narrowing in the difference between short- and long-term borrowing rates.

BlackRock Inc., Nuveen Investments Inc. and Eaton Vance Corp. earlier this month made widespread cuts to distributions in their closed-end funds as the cost to borrow to boost returns rose and higher yielding bonds held were called as longer-term rates fell. The three companies are among the biggest providers of closed-end funds.

UBS Financial Services, Inc. said in a June 16 report that it couldn’t “recall a period in recent memory when so many funds cut distributions at one time.” The cuts, which only affected leveraged funds, ranged from 2 percent to 15 percent, UBS said.

“In the flattening yield curve environment, add in the higher cost of leverage, a lot of these funds haven’t been able to maintain their high payouts,” said Ryan Paylor, a portfolio manager at Thomas J. Herzfeld Advisors, Inc. in Miami.

Closed-end funds raise a fixed amount of money from shareholders in a public offering, unlike mutual funds, which continually sell and redeem shares. Closed-end funds are traded on stock exchanges and can trade at premiums or discounts to their net asset value. Open-end mutual funds trade daily at their net asset value.

Most municipal closed-end funds borrow short-term and buy long-dated debt. The weekly benchmark for yields in the variable-rate tax-exempt bond market surged in March from 0.02 percent to 0.4 percent as investors tapped muni money-market funds to pay taxes.

In the last 12 months, the three-month London interbank offer rate, or Libor, has increased to 0.64 percent from 0.28 percent. The Federal Reserve raised its target rate for overnight loans between banks in December for the first time since 2006.

The slope of the municipal yield curve has flattened to the lowest in more than eight years as investors, including foreign buyers in search of higher yields, have poured money into municipal bond funds for 38 consecutive weeks, according to Lipper data. While short-term rates have risen, the demand helped push 30-year tax-exempt yields to a record-low of 2.23 percent on June 16.

“Because municipal bond yields are so low, as funds have bonds called away they can’t be reinvested at the same rate,” said Sangeeta Marfatia, a UBS executive director for closed-end fund research. “They’re reinvesting the proceeds at lower rates and that’s putting pressure on the earnings too.”

On June 1, BlackRock said it cut distributions on 38 of its 52 closed-end muni bond funds, according to a news release. Eaton Vance cut distributions on 11 of 21 funds. Nuveen cut 17 of 55.

The average distribution yield for municipal close-end funds is 5.2 percent, a decline from 5.8 percent at the beginning of the year, Paylor said.

“If we get another rate rise and the curve flattens even more it’s going to be really tough to sustain their dividends,” he said.

Despite the cuts, share prices have gone up. National, New Jersey and New York leveraged funds were up an average of 10 percent in terms of market returns through June 10, compared to their net asset value returns of 6 percent, according to UBS.

After the “Taper Tantrum” in May 2013, when then-Fed Chair Ben Bernanke jarred bond investors with plans to scale back asset purchases, muni closed-end funds traded at a discount to net asset value of more than 13 percent on average, Paylor said. Now they trade at a 1.7 percent discount.

“Muni investors usually are the type that like to chase returns, especially in the closed-end funds space,” Paylor said. “As a result they’re pushing these things towards premiums.”

Bloomberg Business

by Martin Z Braun

June 23, 2016 — 9:05 PM PDT Updated on June 24, 2016 — 7:15 AM PDT

• Suit Seeks Payment On $9.2 million Bond Issue Used to Finance the Building of the Municipal Golf Course, Vista Links 
• Legal Action Could Result in the Foreclosure of City Property including the City Hall, the Police Department Building, and Vista Links Golf Course. 

NEW YORK–(BUSINESS WIRE)–ACA Financial Guaranty Corporation (“ACA”) filed suit today against the City of Buena Vista, Virginia for its default on $9.2 million in Lease Revenue Bonds issued in 2005 (“Series 2005”) to refund debt the City had incurred building the municipal golf course, Vista Links.

Steve Higgs, Principal Attorney with The Higgs Law Firm stated, “ACA has worked with the City of Buena Vista for many years to accommodate its needs, and more recently has worked to come to a comprehensive resolution that would benefit all parties. After 16 months of continued non-payment by the City, ACA has decided to sue the City to force it to renew payments on the money it borrowed, and to demand it comply with the promises it made under the Bond agreements. The failure of the City to pay back its Bonds has already resulted in it being excluded from some state borrowing programs, and is likely to impair future efforts for it to borrow from debt markets as long as it remains in default.

“The City’s failure to make its Bond payments could result in the foreclosure of its City Hall, its police department building, and its municipal golf course.”

The City of Buena Vista, Virginia issued annual appropriation bonds in 2005 in the amount of $9.2 million to refund debt the City had incurred to build Vista Links, a municipal golf course. The Bonds are “moral obligation” bonds to be paid back from monies appropriated by the City Council. The City further secured the bonds through a lien on certain city property including the City Hall, the police department building, and municipal golf course, Vista Links. The City also promised to give ACA a first lien on any building to which it moves its municipal services.

In July 2011, at the City’s request, ACA and the City entered into a Forbearance Agreement in which ACA allowed the City to reduce its debt payments to 50% of required debt service for five years. ACA agreed to allow the City to defer repayment of this money until 2035-2040, interest free.

In January, 2015 the City Council unilaterally violated the forbearance agreement by discontinuing all payments on the Series 2005 bonds, despite four members of the City Council having voted in favor of the forbearance agreement. The City then offered to settle the 2005 bonds by paying the value of the municipal golf course, City Hall and police department building, a value prohibitively less than the $9.2 million outstanding.

Mr. Higgs continued, “When the City was having problems in 2011, it came to ACA and asked for help. ACA agreed to reduce the payments by 50%, to be paid back on an extended basis. That’s a deal you would be hard pressed to get from any financial institution. Now the City has broken even that promise, and claims it cannot afford to pay the money back. But the City is not pursuing bankruptcy and is still paying all its other debt. That is unfair.

“In the long run, when you factor in the costs of litigation, the potential loss of the municipal buildings and golf course, the impaired ability to borrow in the future, and uncertainty about whether you can trust the City’s promises, the City would be better off paying the Bonds. The only way that not paying the Bonds makes any financial sense is if the City was contemplating reverting to town status and have Rockbridge County agree to accept it as part of the County.

“The City is engaging in conduct it would never allow from its own citizens. The City Council should honor its promises and pay back the money it borrowed. Even the City has to pay its debts.”

ACA is represented in this matter by Steven L. Higgs of STEVEN L. HIGGS, P.C. in Roanoke, VA.

June 13, 2016 05:30 PM Eastern Daylight Time

After a small increase in fiscal 2014, the amount of aggregate tax-supported debt outstanding among the U.S. states declined in 2015. According to S&P Global Ratings’ calculations, total tax-backed debt balances outstanding fell by 1.04% compared with 2014. In some states, sluggish economic and revenue growth has limited bonding capacity. But even where legal debt limits aren’t a constraint, still-lean fiscal margins have contributed to a general reluctance on the part of many states to add new spending commitments despite low interest rates.

For instance, adding new infrastructure can involve more than incrementally higher debt service costs. Often, it also entails new ongoing spending to operate and maintain new roads or facilities. According to the Congressional Budget Office, it’s common for more than half of total spending on transportation and water infrastructure to be for operations and maintenance.

Continue reading.

14-Jun-2016

Seventh Securitization of PACE Bonds by Renovate America Totals $305.3 Million; Brings Company’s Total of Widely Marketed PACE Green Bonds to $1.35 Billion

SAN DIEGO, June 6, 2016 /PRNewswire/ — Renovate America, the largest provider of residential Property Assessed Clean Energy (PACE) financing in the U.S., announced the closing of its seventh securitization of PACE bonds – the largest ever completed to date by any issuer and a designated green bond. The securitization, HERO 2016-2, includes $305,313,000 in Class A Notes rated AA (sf) by Kroll and AA (sf) by DBRS, secured by 13,432 PACE assessments levied on residential properties in 31 California counties. The PACE assessments have an average balance of approximately $24,433, a weighted-average annual interest rate of 7.96 percent and a weighted-average original term of 14.95 years. The PACE assessments were originated between January 2016 and April 2016.

“This transaction is our most successful issuance so far in terms of the level of interest from investors including, for the first time, international investment,” said Renovate America’s CEO J.P. McNeill. “This private capital is directly benefitting homeowners and communities by lowering utility bills, reducing carbon emissions, and creating clean energy jobs. This all comes at no cost to taxpayers.”

The HERO Bond platform is the first asset-backed securities (ABS) platform to solely produce green bonds, with each of the company’s seven securitizations having been assessed by Sustainalytics, a leading provider of ESG and corporate governance research and ratings. The company provided a second opinion that the bonds adhere to the Green Bond Principles, and that the proceeds fund projects with measurable environmental benefits. PACE green bonds have received significant interest in part because they do not fund aspirational or speculative projects; the proceeds have already been invested in projects with verified environmental impact.

“Investor interest in HERO Bonds is growing with each issuance because the bonds provide significant relative value versus bonds of similar credit and duration,” said Renovate America’s SVP for Capital Markets Adam Garfinkle. “Our core investor base remains solid and we add new investors with each transaction.”

Renovate America partners with local governments to provide its version of PACE, the HERO Program (Home Energy Renovation Opportunity), to homeowners who finance a wide variety of product installations to conserve water and energy. These installations include energy-efficient products like HVAC, windows, and roofing; renewable and alternative products like solar; and water efficiency products for indoor systems and outdoor landscaping. HERO is unique in that it provides 100 percent financing for energy and water saving products for up to 20 years with fixed interest rates designed to make payments affordable. Homeowners make payments along with their property taxes, and in the event the property is sold, the remaining balance may be able to transfer to the new owner.

Since 2011, the HERO Program has financed more than $1.5 billion in home improvements which will save more than $2 billion on energy bills, conserve nearly 10 billion kWh of electricity, reduce emissions by more than 2.6 million tons, and save more than 4.4 billion gallons of water. It has already created 12,700 jobs across California and had a local economic impact of more than $2.6 billion.

HERO is the largest and most successful residential PACE program in the United States. More than 415 cities and counties have adopted the program across California, including the cities of Los Angeles, San Francisco, San Diego, Sacramento, San Jose, Fresno, Riverside, Anaheim, Santa Ana, Bakersfield, and San Bernardino, among others. HERO will expand into the states of Missouri and Florida in 2016.

About Renovate America

Renovate America is the leading provider of financing for energy and water efficiency home improvements in the U.S. The company’s HERO Program provides local governments with a comprehensive residential PACE financing solution that also includes consumer protection, business automation software, workforce training and ongoing access to private capital. This unique public-private partnership offers consumers access to more than 60 types of products that reduce energy and water consumption, without the need for government funding. The HERO Program has received a number of awards including the Governor’s Environmental and Economic Leadership Award in California, the Urban Land Institute Best of the Best, and the Southern California Association of Governments President’s Award for Excellence. In March, HERO was awarded the U.S. Climate Leadership Certificate for Innovative Partnerships by the U.S. Environmental Protection Agency and was a participant in the 2016 White House Water Summit. Additional information can be found at www.renovateamerica.com and www.heroprogram.com.

Jun 06, 2016, 16:24 ET from Renovate America

The performance fees that public pension plans pay private equity and hedge fund managers are coming under scrutiny. Some say the high fees aren’t worth the returns on investment and complain that many costs remain hidden. Those two points were part of a critical report last month by the right-leaning Maryland Public Policy Institute on Maryland’s hidden Wall Street fees.

Now, the Maryland State Retirement Agency has issued a lengthy response questioning the institute’s conclusions. In a letter published this month by Executive Director R. Dean Kenderdine and Chief Investment Officer Andrew C. Palmer, the system’s officials attack the institute’s methodology while defending its own financials.

Maryland reported paying $85 million in performance fees in 2014, but according to the report it may have actually paid more than $250 million. The policy institute made that estimate by comparing Maryland’s disclosed performance fee rate against the rate of performance fees disclosed by New Jersey, which has a similarly sized alternative investment portfolio and fairly comprehensive fee disclosure policy.

But Kenderdine and Palmer say Maryland’s $85 million in reported fees are accurate because New Jersey has been “much more aggressive in its pacing of investments.” In other words, the private equity funds New Jersey invests in are designed to start producing returns soon after the pension puts money in the fund. Maryland’s private equity funds, however, haven’t hit that so-called harvesting period when investments are sold and managers receive performance fees from that profit, said Kenderdine and Palmer. So the performance fees are smaller but could theoretically be larger in the coming years.

Though Maryland’s investment performance is lagging compared with most plans, according to Kenderdine and Palmer, they may be better off later. That’s because stock market losses in the 2001 and 2008 financial crises left them feeling too exposed to one of the “most volatile asset classes,” so Maryland now has less of its investments in public stocks than most other plans. That means that “during periods of strong public equity performance, as has been experienced over the past five years, [Maryland] will lag the peer group,” the officials said. But, Maryland “should perform better during periods of market stress.”

The Takeaway:  The pension system’s dispute of the figures in the institute’s study shows just how murky the issue of reporting Wall Street fees is. In their response, Kenderdine and Palmer also say they support an effort to standardize performance fee reporting. But they join many public pension officials in arguing that even if Maryland’s fees were higher, they would be worth it.

“Large amounts of [performance fees] should be considered a positive result, as this would imply much greater gains to the investor,” they noted.

In other words, the higher a performance fee, according to them, the higher Maryland’s profit from that investment is. While that’s true, many contend that cheaper funds can produce comparable (or better) returns on investment.

GOVERNING.COM

BY LIZ FARMER | JUNE 17, 2016

Like most bond investors, you probably check your online brokerage accounts two to three times a week. You might brace yourself for alerts advising you that another bond or two is being called. You may flinch, wince and may even shout a few expletives. Welcome to the insane world of zero/negative interest rates whose ramifications are painful.

The global drive for yield has broken all the rules: Europeans, Asians and foreign corporations are buying taxable and tax-free municipal bonds like crazy. The tax status is irrelevant; it’s the yield that matters. The global demand for all U.S. bonds has been insatiable. You may hate U.S. bond yields but foreign investors find them luscious.

Think about it. If you are a German citizen or the cash manager of a German insurance company and have a choice of investing in a ten-year German bund at 0.02% or a ten-year U.S. Treasury at 1.65%, which would you choose? Asked and answered. Plus, capital flows are a simple click away.

With interest rates grinding lower, it’s important to stay on top of your bond positions. A perfect example is municipal housing bonds. These are bonds used to finance multi-family or single family mortgages secured by the payments of the underlying mortgage loans. These bonds raise money for affordable housing. Most states issue such housing bonds. Their credit quality overall is good but there is a downside. When there are mortgage prepayments, unexpended, unused proceeds from the bonds issue—you guessed it—bonds can and will be called. If you paid a premium when you purchased the housing bonds and the bonds get called at par, the yield you thought was locked in wasn’t.

Many of my California clients and I own California State Department of Veteran Affairs Home Purchase Revenue bonds. Bonds were state and federal tax exempt, 3.50% due December 1, 2021. When the bond was issued in 2011 it had serial maturities going from December 2013 to the longest dated maturity of December 2028.

As rates have continued to grind down we looked at which bonds have been called and where we stood in the maturity conga line. We were right in the line of fire. Most bonds in the series have already been called. Even though the 2018-2020 maturities are non-callable, they have caveats: Bonds can be called, “from unexpended proceeds at any date prior to their respective stated maturity dates,” according to the official statement.

As you can imagine, our bonds were selling at a premium over par value, roughly $110 ($1,100 per 1,000 face value). Brokers’ bids varied widely and wildly. The low bid was $107; the high bid was $109.983. What were the odds that our issue would be called at par? Difficult to say. But we’ve seen other lower coupon housing bonds called. So the old saying, “a bird in the hand…” We sold our bonds at the high premium and let the new owners worry about losing their premium.

Bottom line: Check your bond positions for call provisions—both those that are clearly stated and those that have unusual call features. If you aren’t preemptive and sell, then your premiums will vanish. ‘Tis the season of low interest rates.”

All issuers—taxable, tax free, corporations, government agencies—wish to lower their net interest costs. Calling bonds is one way to accomplish this. Good for them, bad for us bondholders.

FORBES

MARILY COHEN

JUN 13, 2016 @ 12:18 PM

Marilyn Cohen is founder and CEO of Envision Capital Management, Inc., a Los Angeles fixed-income money manager.

General obligation bonds have encountered problems as municipal issuers face rising fixed legacy costs that challenge revenue growth

A municipal bond is a municipal bond is a municipal bond. Anyone who believes that to be true has failed to see the increasingly idiosyncratic nature of the municipal marketplace.

A testament to that fact: The Barclays Puerto Rico Index declined 12% in 2015, and nothing else followed suit. Muni investors were wise not to draw conclusions about the broader market based on the unique case of Puerto Rico.

The need to be discerning doesn’t stop at credit ratings. In fact, it’s important to be selective even among traditionally high-quality credits. Currently, there is a strong case to be made for favoring revenue bonds over general obligation bonds.

GO bonds, which today make up one-third of the investible muni market, historically have been considered among the safest forms of municipal debt. Repayment of GOs is secured by a constitutionally prescribed “general obligation” or “full faith and credit” pledge. GOs are paid out of tax revenues and are deemed to have first priority of payment. But municipalities also must use their tax revenues to cover onerous operating costs, and that can leave less money available to pay debt service.

In the past, the security of the GO pledge was rarely questioned. More recently, however, GOs have encountered problems as municipal issuers face rising fixed legacy costs that are challenging or outpacing revenue growth.

Detroit was the first to call into question the sanctity of the GO pledge. As the city took steps to negotiate its way out of Chapter 9 bankruptcy, the repayment of GO debt became a question of willingness, rather than ability, to pay. The question was raised again in discussions in Puerto Rico. There, GOs’ constitutional priority had given bondholders confidence in their legal remedies should the commonwealth default. That sense of safety was compromised when a preliminary restructuring plan last year indicated “sacrifice” was needed from all creditors, including holders of GO bonds.

The market has now started to infer potential implications for GO debt in stressed locales such as New Jersey, Illinois and Chicago. While these issuers could raise taxes to meet their debt obligations, such moves are always politically difficult, unpopular and therefore, not easy to implement. The question becomes not whether these stressed locales are able to make the necessary decisions, arrangements and concessions to pay their GO debt, but rather: Are they willing to do what’s necessary? Willingness is much harder to read and analyze than ability, and that means GO bonds have been and may continue to be volatile.

Revenue bonds, on the other hand, are underpinned by a dedicated revenue stream, which essentially eliminates any question around a municipality’s willingness to pay. Monies generated are specifically assigned to pay debt service. The most common types of revenue bonds are essential-service, revenue-generating projects such as toll roads, airports and water and sewer systems, where the money made (via tolls, fees, etc.) is used to repay bondholders. Revenue bonds are not backed by a full faith and credit pledge, but issuers have the ability to increase user rates should the dedicated revenue stream fall short, and traditionally they have done so to ensure full debt payments.

Not only are revenue bonds showing lower volatility than GOs, but at two-thirds of the investible municipal universe, they represent the largest subset of the market. This means ample opportunity for investors. The health care and transportation sectors, in particular, present some attractive income and return possibilities — the former underpinned by Affordable Care Act-induced demand, demographically driven health care needs and merger-and-acquisition activity, and the latter supported by lower gas prices and increased travel.

Looking to the opposite end of the credit quality spectrum, high yield remains another high-potential area of the municipal market. The sector has produced strong results, tobacco in particular, and is outperforming the broad market year-to-date — notwithstanding Puerto Rico. High yield represents an important source of carried interest and, therefore, income.

Municipal high yield is distinctly different from the corporate high yield market. The two, in fact, have been shown to be uncorrelated. In 2015, for example, collapsing energy prices weighed on corporate high yield and contributed to rising defaults. The Morningstar taxable high yield bond fund category lost 4%, while the high yield municipal fund category was up by slightly more than 4%.

Overall, creditworthiness in the broad municipal space is stronger than at any time since the financial crisis. The market also appears well positioned to continue the solid performance it exhibited in 2015 and so far in 2016. But investors should pick their places, conduct diligent credit research and seek to make the most of all the municipal bond market has to offer.

Investment News

By Peter Hayes

Jun 13, 2016 @ 10:52 am

Peter Hayes is head of the municipal bonds group at BlackRock Inc.

BlackRock’s municipal group said any seasonal pullback in the market this month should be seen as restoring value and presenting a buying opportunity.

Entering June, BlackRock shortened duration in its portfolio in recognition of the market’s strong run and increased gross issuance. Issuance generally picks up meaningfully in June, the market’s worst-performing month over the past five years, but considering the uptick this May, the usual pattern may not fully develop, BlackRock wrote in its monthly municipal market update.

“On balance, we would see any pullback as healthy, short lived and a potential buying opportunity,” the report said. “We continue to favor the A-rated space, revenue bonds and the health care and transportation sectors.”

In a presentation to reporters Wednesday Peter Hayes, managing director and head of the municipal bonds group, pointed to the strong demand.

“We are seeing a lot of non-traditional buyers have [become] interested in the asset class as well just because global rates are so low and in many cases, negative,” he said.

“$28 billion coming into the asset class this year alone is phenomenal but it is not sustainable,” said Blackrock Director Sean Carney, head of municipal strategy. “Because of what is driving it, we don’t see any catalysts that will change it. Fund flows are the product of past performance and future rate forecasts. Performance has been better than good and future rate forecasts are sideways to lower.”

Carney noted the deals have been digested easily and oversubscribed as issuance picked up, as sellers offered a something for everyone with bonds that are evenly distributed across the credit curve.

“2016 issuance is still running about 19% above the five and 10 year average, although its true its down about 7% year over year but we are still on track to end the year around $400 billion and we are about to enter a strong seasonal pattern,” Carney said. “Coupon payments will be coming in soon and get re-invested in the market, come July and August.”

Illinois, which still doesn’t have a budget, is going to access the market with only a minor penalty on yields, the Blackrock strategists said.

“I think it has gotten some attention but the struggle over what is preventing the budget from passing to me is more indicative of the broader market and more problematic of things you might see going forward,” said Hayes.

Yesterday, Illinois announced plans to borrow $550 million on June 16. The Prairie State is currently the lowest rated U.S. state.

“We as municipal market participants should really be penalizing in some way, by almost not giving them any access to the market,” said Hayes. “Think about it, they are a state without a budget, they refuse to pass a budget, they have the lowest funded ratio on their pension of any state, and yet they’re going to come to market and borrow money.”

Carney said the strong demand has reduced the penalty for fiscal problems.

“Spreads have widened quite considerably,” he said. “There are a few ways to look at it. One way is that you see the spreads widening but another way to look at it is that with rates continuing to fall, even though they are coming in at wider spreads, the all-in interest cost is not that much greater then where they were, when they previously issued.”

The Bond Buyer

By Aaron Weitzman

June 8, 2016

The yield on top-rated municipal bonds due in 10 years dropped to 1.42 percent on Thursday, joining 30-year bonds in reaching record lows on Municipal Market Data’s benchmark triple-A scale.

The five-basis-point fall in the 10-year yield pushed it below the previous record low of 1.47 percent set in November 2012, according to MMD, a unit of Thomson Reuters. The 30-year bond yield continued its recent move to all-time lows, ending Thursday at 2.13 percent.

The market where states, cities, schools, and other municipal issuers sell bonds has been in rally mode as cash-heavy investors chase low supplies of debt.

Reuters

Thu Jun 16, 2016 3:48pm EDT

(Reporting By Karen Pierog; Editing by Dan Grebler)

Illinois can thank plunging global interest rates for saving the state from the consequences of its spreading financial disarray.

The state sold $550 million of bonds on Thursday for a top yield of about 4.1 percent on securities due in 2041, or about 2 percentage points more than benchmark debt, according to data compiled by Bloomberg. Illinois’s first offering since January came after yields on German and Japanese debt slipped deeper below zero and Treasuries veered back toward levels not seen for more than half a century at least.

Rock bottom payouts have sent money pouring into state and local debt as investors search for even modest returns, which allowed Illinois to borrow easily from bond buyers once referred to as vigilantes for imposing discipline on spendthrift governments.

“It’s obviously a very favorable environment to sell anything, Illinois included,” said Matt Fabian, a partner at Municipal Market Analytics, a research firm based in Concord, Massachusetts. “People are more worried about yields going negative than they are rising, so there’s clearly demand for strong positive yield like in Illinois.”

The worldwide rally has pushed Illinois’s 10-year yields down over the past three months by more than a quarter percentage point to 3.3 percent, despite a record-long budget impasse that caused Moody’s Investors Service and S&P Global Ratings to downgrade it last week to the lowest level for a state in over a decade.

BlackRock Inc.’s Peter Hayes, who oversees $119 billion of municipal bonds for the world’s largest money manager, suggested investors consider not buying Illinois’s debt to pressure elected officials, a call that didn’t keep the state from returning to the market.

“Clearly the political inaction has soured the taste for many investors,” said Gabe Diederich, a portfolio manager in Menomonee Falls, Wisconsin at Wells Fargo Asset Management, which manages about $39 billion of munis, including Illinois debt. “Investors will lend them money again at a very steep penalty relative to the rest of the market, but with the expectation that ultimately the state will take the appropriate steps to fix their issues.”

Governor Bruce Rauner, a first-term Republican, and the Democrat-led legislature have been unable to agree on a budget since temporary tax-increases expired last year. Stop-gap measures to keep the government running have left it spending more than it brings in, with a deficit of as much as $6 billion projected for the year ending June 30. The political discord has also kept Illinois from finding a way to pay down its $111 billion pension-fund debt, which is the biggest among U.S. states.

Moody’s lowered Illinois’s credit grade on June 8 to Baa2, two steps above junk and its lowest for a state since Massachusetts in 1992. S&P followed the next day by cutting the state to BBB+, one rank higher than Moody’s. Fitch Ratings warned it may downgrade Illinois, too.

The diminished standing on Wall Street has extracted a cost, preventing Illinois from capturing the full benefits as municipal-market rates hold at the lowest since 1965. The 10-year portion of the bonds sold Thursday yielded 1.86 percentage points more than benchmark debt, according to data compiled by Bloomberg. Bank of America won the bonds after an auction among underwriters.

Rauner, a former private equity executive, told reporters in Chicago on Tuesday that bond buyers support reforms he has pushed as a way to stoke the Illinois economy. Since he took office, Rauner has tried to tie any spending plan to changes in Illinois worker-compensation laws, property-tax reductions and limits on unions, an agenda that’s drawn opposition from Democrats who say it would hurt lower-income residents.

“They’re fed up with the financial mismanagement of the state of Illinois,” Rauner said, referring to investors. “This has been going on for decades.”

Still, Illinois remains investment grade and isn’t seen at risk of default. Illinois law gives debt service priority over other expenditures and requires the state to make monthly deposits for interest and principal payments. And given the decline in yields around the world, Illinois may look appealing.

Investors have added money to municipal-bond mutual funds every week since October, the longest stretch since 2010, Lipper US Fund Flows data show. At the end of March, foreign buyers held a record $89.2 billion of state and local debt, almost triple what they owned a decade ago, according to the Federal Reserve Board.

“Instead of just on the surface saying no to potentially deteriorating credits, they’re going to take a really hard look because that’s the only place to go to get any kind of yield in the public fixed income markets,” said Adam Buchanan, senior vice president of sales and trading at Ziegler, a broker-dealer in Chicago. “Borrowers will benefit from that, no doubt.”

Bloomberg Business

By Elizabeth Campbell

June 16, 2016 — 2:00 AM PDT Updated on June 16, 2016 — 8:59 AM PDT

Representatives from Renovate America, Kramer Levin and T-Rex recently discussed the development of the renewables ABS market during a live webinar hosted by SCI (view the webinar here). Focusing on the PACE and solar sectors, this Q&A article highlights the main talking points from the session, including structuring and performance considerations. For a broader and more in-depth exploration of these themes, download a special SCI/Renovate America research report on green securitisation.

Q: How has the renewables ABS sector evolved?
Craig Braun, md, capital markets at Renovate America: Beginning with the PACE sector, Renovate America was able to complete the first securitisation in the space in 2014 in a transaction of just over US$100m. We followed this issuance up with six further deals since then and plan to be an active issuer in the ABS space for years to come. In total, we’ve completed over US$1bn of green bonds that meet the Green Bond Principles of 2015.

PACE is a common form of financing that can be paid back via a voluntary assessment on an annual property tax bill. It has a lien priority that is equal to all other taxes and assessments, which makes it a low-risk asset class from an investor and rating agency perspective.

PACE is a public-private partnership, whereby a PACE provider teams up with a municipal issuer, such as the County of Los Angeles. The municipality uses its bonding ability to issue limited obligation improvement bonds that are backed by the various assessments put in place by PACE providers.

Homeowners can apply for PACE financing to upgrade their HVAC systems, or install solar panels or water conserving measures. There are 55 different product categories that qualify for PACE financing and over a million products within those categories, but the improvements must be energy-efficient, renewable energy-generating or water conserving. For instance, the Californian regime heavily promotes water conservation and even includes seismic protection, while Florida provides for wind protection.

PACE empowers homeowners to make the right choice and the smart choice by providing them with a tool to pursue these improvements with no money out of pocket.

California is by the far the most active state out of the 32 states plus Washington, DC that have implemented PACE legislation. In terms of total PACE volume, around US$1.5bn has been originated so far. HERO, our platform, is available throughout California and will soon be available in Missouri and Florida.

Benjamin Cohen, ceo of T-Rex: The other main renewables ABS asset is solar, which can be purchased via PACE, as well as through power purchase agreements, loans and leases. There has been a 65% compound growth rate in residential and commercial solar panel installments in the US over the last decade, facilitated by improved technology. Technology has enabled the cost of solar power to drop from US$40 per watt four years ago to 60 cents per watt today.

SolarCity and Sunrun have been at the forefront of the development of solar ABS. We have seen seven solar ABS issued to date – six by SolarCity and one by Sunrun. The majority of these deals securitise power purchase agreements and over time the deals have increased in size and in yield as investors become more comfortable with the asset class.

One issue you find with solar and not with PACE is tax equity. Tax equity is derived from the investment tax credit, which typically provides 30% of the capital stack and is incredibly complex – but not impossible – to structure around in a securitisation.

Q: In terms of structuring, what are the differences between PACE bonds and regular ABS?
CB: The main difference is that the underlying asset is a tax lien and those are bundled up into limited obligation improvement bonds, which serve as the collateral for the securitisation. The interesting aspect of the PACE assessment is that, like most taxes, the only money that’s due is the annual or semi-annual tax payment.

If there is a default or a foreclosure, the principal balance does not accelerate. This is a unique feature of the asset class, which isn’t widely appreciated. The only thing that is at-risk during a foreclosure is the tax payment due during that period.

If a homeowner doesn’t pay their taxes, they’re subject to a penalty – which in California is 10% of the tax due – and after a certain number of months interest begins accruing at 1.5% a month. In the event of delinquencies, there’s actually more cashflow available to a PACE deal than if the property owners default on their mortgage payment.

That being said, PACE delinquencies are very low – people tend to pay their taxes, and people with PACE assessments tend to perform better than the average tax payer because they’re somewhat of a self-selecting pool. These are people that are investing in their homes and seeking to reduce the cost of ownership.

Finally, the servicer on PACE deals – certainly in the case of the Californian regime – is the county in which the assessment is being levied. Typically in securitisations, the servicer is an affiliate of the originator or the B-piece buyer. So, in the case of the HERO platform, 28 different servicers are billing and collecting the taxes.

Laurence Pettit, partner at Kramer Levin: Both the solar and PACE asset classes have initially struggled with educating investors as to how servicing works. In the ABS world, we’re used to the servicing process being done in a certain way, but in both solar and PACE there are unique aspects to servicing.

In solar, as there is some ongoing maintenance involved on the solar installations and because historically there weren’t many companies involved in the sector, the idea of there being a back-up servicer was challenging. In PACE, the challenge is parsing out the different servicing roles: as well as the counties which handle billing and collecting, other servicing duties are performed by the trustee, while the municipality is responsible for foreclosures.

Other than that, the structuring differences are fundamental because PACE is a tax and thus has a benefit from the lien perspective and is secured by the entire property, which is not the case with rooftop solar ABS. In terms of cashflows, you can look to tax lien ABS for comparable payment history and you can access data from counties on how often people are delinquent on their real estate taxes. In the case of California, where limited obligation improvement bonds have been popular for years for other purposes, there is also an indicative history of how those bonds have performed.

Rooftop solar is novel in many respects. We know how diligently people pay utility bills, but the extent to which you can apply that payment history to rooftop solar was open to question from rating agencies and investors. But over time a consensus has formed on how that should be analysed and, as more deals are done, we’re starting to develop our own payment history for the bonds – which will provide a significant benefit as the years go by.

Q: California accounts for the majority of PACE assessments currently in place. What are the challenges of expanding the PACE programme into other states?
LP: The initial challenge is something that none of us in the ABS world are very familiar with and it involves state-level politics: each state has its own priorities and legislative issues to deal with. That being said, there is a huge take-up nationwide of PACE legislation – so, despite having to navigate each statehouse separately, PACE is gaining traction because it is popular with both elected officials and consumers.

It resonates with elected officials because the Californian experience has shown PACE to have a tremendous economic stimulus, and it’s popular with consumers who embrace new ways to finance home improvements. Seeing as consumers vote for elected officials, PACE creates a virtuous circle.

The most significant attraction is that PACE has a measurable impact on the use of renewable energy and on energy savings. In addition, although it provides a public benefit, it doesn’t cost the public sector any money because whoever is hired as the programme administrator (such as Renovate America) will be responsible for ensuring that funding is in place for the improvements installed using PACE.

The programme administrator also has to find an investor to buy the individual assessments or the improvement bonds that are backed by the assessments. There is no period of time during the origination process where the sponsoring municipality has to use its own funds to pay for any of the programme costs.

Renovate America and others have proven that PACE assessments are an interesting asset for ABS investors, but they derive from municipal finance and marrying some legal and contractual concepts from muni finance with the expectations of ABS investors can be a challenge. Therefore it is important to be involved early and scrutinise the contracts and agreements, and the underlying muni bond indentures to ensure they comply with the expectations of an ABS investor and that they provide for contracted cashflows to be paid from the consumer all the way to the ABS investor.

There are always wrinkles in each state that need to be addressed or at least understood before a programme is launched to ensure there’s an efficient means for collecting the tax. Clearly California is a good example.

There also needs to be a clear legal framework that tells you as an ABS investor at what point someone has the right to enforce on a delinquent property owner and that there is someone monitoring the process, who will enforce the remedies where necessary.

Q: Why is the scalability of PACE platforms an advantage?
CB: Once you get beyond the political and legislative challenges, with a tech-enabled platform, the PACE business is highly scalable. We estimate that the opportunity for PACE in the US is an annual market of US$159bn in home improvements, which either reduce energy or water consumption, or generate renewable energy.

California represents about US$22bn of this opportunity and so far we’ve just scratched the surface in the state. If you translate this across other states, there is a huge opportunity – especially considering residential properties account for 20% of US energy consumption and, of that, HVAC systems represent 40%.

However, there are a number of barriers to entry. Each programme administrator has to work in each state and get the issuers lined up and then get each community to the stage where consumers can opt into a PACE programme. It’s a lot of hammer-and-chisel work upfront, but once the infrastructure and the contractor (point of sale) network is in place, the platform can easily be scaled up.

Q: How do commercial PACE financings differ from residential PACE financings? Can we expect any term securitisations in the commercial space?
LP: Residential and commercial programmes are almost exactly the same, except that the improvements/projects are larger in the commercial sector and can be more complicated. They tend to require accommodation or negotiation with the property owner/commercial mortgagee and that makes the origination process more time-consuming.

It is just a question of time before commercial PACE programme administrators can put together portfolios that are suitable for securitisation. It is taking time for commercial property owners to realise the benefits of participating in commercial PACE programmes.

Unlike residential consumers, commercial property owners have multiple options available to them and are more cautious on adopting PACE. But the popularity of commercial PACE is growing and there are no structural or legal reasons why there can’t be term securitisations of commercial PACE – it’s more about accumulating an appropriate pool.

Q: In terms of refinancings, do lenders typically require PACE obligations to be repaid prior to the new funding?
CB: Yes they do. The options for a homeowner are either to pay their PACE obligation off, have it transferred to the new property or apply for a limited subordinate PACE product, which we call PACE 2.0. Any time there is a problem with a homeowner in terms of a refi, we have a dedicated group of property advisors that work with realtors and mortgage brokers to facilitate the sale or transfer.

Q: How should investors evaluate risks in solar and PACE securitisations?
BC: There are a handful of risks to be aware of: the typical prepayment and refinancing risk; if there is a default, what is the lag before payment; and what recoveries can be expected. A lesser risk is creditworthiness. Investors have to figure out the likelihood of these risks occurring across an entire portfolio under various scenarios.

The risks become more complex for solar ABS, but also more transparent. An additional risk for solar is how many hours of energy will be produced by the installation. It is necessary to evaluate the characteristics of the solar panel itself, as well as the purchase/lease/loan agreement.

It also important to look at forward power market conditions – especially when evaluating residual positions – because many contracts are for 20 years, yet the life of the panel will likely last for 40 years. Understanding these risks is critical for liquidity and access to capital.

Q: In general, how have PACE securitisations performed?
CB: Renovate America has only issued six deals and two of our competitors have done a deal each, but they were pure private placements and so there’s limited information publicly available. With respect to our transactions, delinquencies tend to rise just after the tax payment is due – because sometimes people forget to pay or they have other issues – and then trend downwards.

For the HERO Funding Trust 2014-1 and 2014-2 deals, delinquencies for the 2014-2015 fiscal tax year are averaging just under 40bp. On the 2015-1 and 2015-2 deals, for the 2015-2016 fiscal tax year, delinquencies are a little over 2%. Overall Californian tax delinquencies are on average double that figure, so the transactions are showing very good performance.

Q: Have solar securitisations performed as well as expected?
BC: Solar securitisations have performed better than expected across a few different metrics, including the default rate applied by rating agencies. While more solar securitisations have been issued than PACE securitisations, the total volume of securitised solar assets is lower and so the sector also has limited data points.

Without adequate tools and confidence in the numbers, rating agencies have taken conservative assumptions towards solar. But all the data that has come in over the brief 2.5 years since the first deal in the space shows that default rates are incredibly low – a fraction of what the rating agencies expected them to be – and all the note ratings have been affirmed thus far.

Another good indication of the performance of solar ABS deals is how the securities trade in the secondary market. A great example is SolarCity’s first securitisation: it was rated triple-B plus, with a seven-year WAL, and priced in November 2013 at a spread of swaps plus 265bp. Eight months later, its third deal priced at plus 180bp, with a higher advance rate but the same rating and WAL.

A secondary trade of the first deal was subsequently executed at similar levels. Such spread compression reflects the fact that investors are becoming more comfortable with the asset class and the collateral is becoming more seasoned.

Q: Looking ahead, how is the recent extension of the investment tax credit (ITC) likely to impact the solar sector?
LP: The ITC was extended in December 2015 as a 30% credit for residential and commercial solar projects until end-2019, after which the credit drops year by year. The decreases are to 26% in 2020, 22% in 2021 and then permanently to 10% for commercial solar and zero for residential solar. The Solar Energy Industries Association projects that the extension of the credit will result in 50%-55% additional installation capacity, compared to what would have been expected without the extension.

The association is projecting the installation of 98 gigawatts of solar power by end-2020, which is enough to power over 20 million homes. This is, of course, good news for the solar ABS market and indirectly for PACE providers as well.

Q: What are the prospects for tapping the European investor base?
CB: We view the prospects as bright: we’re hoping to attract European investors to the US PACE ABS deals we’re issuing. We’re aiming to provide additional supply this year and recently had our first four HERO deals verified as being in alignment with the Green Bond Principles. This means that the HERO programme is the first ABS platform to issue solely green bonds and the first entirely green bond platform in the world.

PACE aligns nicely with green bond principles because the energy savings/impact is known upfront. We recognise that the European investor base has certain pockets of money that are dedicated to green investment. We plan to take the HERO programme on the road to Europe and meet with investors at the Global ABS conference in Barcelona.

We’re unfamiliar with the legislative landscape in Europe, although PACE can work anywhere – it’s a matter of having the enabling legislation in place.

Q: Will PACE cannibalise current renewable energy type-deals?
BC: It can and it has. Because PACE is such a straightforward structure and is very easy for investors to understand, you see Renovate America as a market leader originating tremendous volume in a short space of time. Other renewables finance companies have typically struggled to replicate the efficiencies of PACE and so there is significant opportunity to grow its market share, both in the US and – with appropriate legislation – beyond.

Structured Credit Investor

Monday 13 June 2016 11:04 London/ 06.04 New York/ 19.04 Tokyo

The Blue Ridge mountain hamlet of Buena Vista, Virginia, is in danger of having its City Hall, police headquarters and municipal golf course seized for defaulting on its debt.

The city, with 6,600 residents, has failed for more than a year to make payments on $9.2 million of debt that’s insured by ACA Financial Guaranty Corp., the company said in a statement Tuesday. The securities are a “moral obligation” paid with money appropriated by the city council and secured by the golf course and municipal buildings, according to ACA, which said it filed suit over the default.

“The city’s failure to make its bond payments could result in the foreclosure of its City Hall, its police department building, and its municipal golf course,” Roanoke attorney Steve Higgs, who is representing the company, said in the statement. “The City Council should honor its promises and pay back the money it borrowed.”

It would be highly unusual for a city to lose its buildings because of a bond default, highlighting the risk of municipalities putting their credit on the line for speculative projects. Even in municipal bankruptcies, such as Detroit’s, residents are protected from having government assets sold off to satisfy creditors, as is routinely done when corporations collapse.

The golf course has been a money-losing proposition since 2004, running up losses of $3.2 million, according to Buena Vista’s annual report. It didn’t lead to the development of nearby real estate, as the city expected, nor did it draw enough players to cover its costs.

ACA said that in July 2011 it agreed to let the city cut its debt payments by half for five years, but in January 2015 Buena Vista stopped paying altogether.

The city stopped making payments to support the debt service “when it became clear that essential government services would have to be drastically slashed,” Brian Kearney, the city’s attorney, said in a statement. He said ACA has been unwilling to negotiate a reasonable settlement.

“All bond holders have been paid in full because the city purchased payment insurance from ACA,” Kearney said.

Bloomberg Business

by Darrell Preston

June 14, 2016 — 10:34 AM PDT Updated on June 14, 2016 — 2:17 PM PDT

Only four school districts have declared Chapter 9 bankruptcy in the past 62 years, and two of those abandoned the process, says a municipal bankruptcy expert asked about the possibility of Chicago Public Schools doing the same.

CPS, the nation’s third-largest school district, faces a nearly $1 billion budget deficit and the possibility of staying closed in the fall if the state fails to pass a budget.

Rather than compromise with legislators over education funding, Gov. Bruce Rauner has publicly supported a bill introduced by Rep. Ron Sandack that would allow Illinois school districts and other local units of government access to Chapter 9 of the federal bankruptcy code.

James Spiotto, managing director of municipal finance consulting firm Chapman Strategic Advisors LLC in Chicago, points out that only four school districts have filed for Chapter 9 out of 322 total filings since 1954. He adds that two of those dismissed their cases in favor of other resolutions.

“The reason for that is there are better methods that states have developed to deal with troubled school districts,” Spiotto said.

“School districts are so important to the economy, the community and the citizens that states have developed mechanisms to monitor, supervise, provide oversight, and if necessary, change the superintendent or board.”

He explains that the San Jose School District in California filed for Chapter 9 in 1983, after a contract dispute with teachers that resulted in an arbitration award that the school district couldn’t afford.

The school district used the process to resolve the dispute and dismissed the bankruptcy without a plan of debt adjustment less than a year later.

Spiotto says Richmond Unified School District in California filed for Chapter 9 in 1991, and announced that it would close several schools. But after students’ parents filed a lawsuit to prevent the closings, the state legislature gave the school district $29 million to bridge its gap in funding.

The school district hired a new superintendent and dismissed the bankruptcy without a plan of debt adjustment later that year. It also changed its name to West Contra Costa School District.

Spiotto contends that the other two school districts that have filed for Chapter 9 in the past 60 years – Copper River School District in Alaska and Chilhowee R-IV School District in Missouri – are too small to serve as examples for larger, urban school districts like CPS that may consider bankruptcy.

He says that Copper River only had 511 students and six schools when it filed for Chapter 9 in 1986. The school district rejected the teachers’ union contract because it couldn’t pay salaries, but in the plan of debt adjustment, the salaries were frozen and significantly reduced.

Spiotto adds that Chilhowee R-IV filed for Chapter 9 in 1992, after five former teachers won a $200,000 judgment against the school district. The school district only had an annual budget of $650,000 at that time.

“Chapter 9 really just deals with debt adjustment,” Spiotto said. “Chapter 9 cannot interfere with the property, government and affairs of the municipality, which can be a school district, without the consent of the school district. So the school district would still control its operations.”

“Since you don’t reach issues of operations, you don’t reach issues of academics and performance and achievement,” he added. “Those are other critical issues, so Chapter 9 really is not a holistic approach for a school district.”

Spiotto contends that major school districts should instead consider state-sponsored resolution mechanisms rather than bankruptcy. For example, he says, California allows state takeover of school duties with an appointed administrator and enables the school district to receive emergency loans from the state general fund.

In Ohio, he says, an academic distress commission helps school districts develop a recovery plan when their academic performance is low. The commission can reassign or appoint school administrators, terminate contracts and develop budgets.

Spiotto points out that Illinois takes a different approach. The Illinois State Board of Education can take control of troubled school districts in cities of less than 500,000 inhabitants, but that obviously doesn’t apply to CPS.

“They are separate from any oversight, or setting up a physical oversight panel to review them, which other school districts do have in Illinois,” Spiotto said. “Because of the separateness of Chicago Public Schools, it’s left to the control of the city.”

Spiotto suggests that Illinois set up an oversight authority for CPS that could help the school district with its funding. The authority would provide interim financing and determine what is affordable for the school district, recommend to the legislature additional tax sources or increases in tax limits and ensure that academic achievement continues to improve.

Ted Dabrowski, vice president of policy at the Illinois Policy Institute, points out that the State Board of Education has taken over a few failing school districts, including East St. Louis and North Chicago, but the results have been mixed.

“The biggest issue is that you have one large bureaucracy stepping in to take the place of another bureaucracy,” Dabrowski said. “While that might fix some of the financial problems, it doesn’t really address the true question, are they helping student outcomes and are we seeing better education for children?”

While Chapter 9 bankruptcy might temporarily improve CPS’ finances, Dabrowski also contends that Mayor Rahm Emanuel and the Chicago Board of Education have not made tough decisions on how to use taxpayer money more efficiently and properly provide funds for school programs and teachers’ salaries and pensions.

“I would say that a state takeover will only help when there is pension reform and when the Chicago Teachers Union is forced to back off of its unrealistic claims and demands,” he said.

Spiotto says despite the “theater that you read about in the newspapers,” he wouldn’t rule out CPS and the teachers reaching a resolution for the sake of students and the community.

“They work through the problems,” Spiotto said. “That is the best solution. And if they need help from the state, that could help them bridge the financial problems that school districts obviously find themselves in from time to time.”

FORBES

BY AMANDA ROBERT

JUN 16, 2016 @ 10:01 AM

When Philip J. Kennedy needed financing to buy low-income housing in a wealthy Dallas suburb, he bypassed Texas agencies for a tax-exempt bond issuer 700 miles away in Gulf Breeze, Florida.

Leaving the state allowed Kennedy’s non-profit American Opportunity Foundation Inc. to secure $35 million to buy Garden Gate Apartments in Plano, Texas, and a development in Fort Worth without answering questions from local authorities about AOF’s past difficulties repaying debt.

Scores of non-profit organizations like AOF are required to use government-created agencies when selling bonds. In return, the agencies charge fees. At times, these conduits aren’t in the same state as the projects they’re financing, giving officials on the ground little incentive to scrutinize the deals.

It’s all perfectly legal. But for investors, it can be risky. Such conduit deals account for nearly 60 percent of the defaults in the $3.7 trillion municipal-bond market, according to Municipal Market Analytics. In most cases, bondholders, not taxpayers, are on the hook if the projects flop.

Default History

Between 2000 and 2004, Kennedy’s AOF defaulted on 14 of 18 outstanding municipal bonds issued in the 1990s, affecting about 5,550 units, according to data compiled by Bloomberg. In 2014, AOF defaulted on bonds issued by a Texas affordable-housing agency to buy apartments in Houston, Dallas, and San Antonio. More than 1,700 apartments lost their subsidies, and rents at one complex climbed 22 percent.

Kennedy, 62, didn’t disclose AOF’s default history in materials submitted to Plano, and the town council didn’t ask him whether any of his projects had failed, according to a video of the meeting. The Florida agency that issued the bonds said its due diligence indicated that AOF “know what they’re doing.”

“If they had gone through the Texas finance authorities, like the state one, maybe someone at the state would have questioned whether they should be approved or not,” said Plano resident Jim Dillavou, a retired Deloitte LLP partner and critic of the city’s plan to develop more apartments. “By using a Florida outfit they avoided that scrutiny.”

 

In an interview, Kennedy said the decision to use a Florida agency wasn’t motivated by AOF’s past defaults in Texas, though it allowed him to avoid the need to win approval from the state’s bond-review board.

“It’s a very, very difficult process in Texas,” he said. “They’ve had a lot of issues with 501c3 defaulted deals and so they just make you jump through a lot of hoops.” Non-profit organizations are known as 501c3s, after the relevant section of the U.S. tax code.

Kennedy said he chose a Florida conduit because his original plan was to also buy an apartment complex in that state. That deal fell through, he said.

AOF was founded in Atlanta in 1983 to sponsor low-income housing. Kennedy became president in 1991. His compensation was about $360,000 in 2014, according to tax filings. AOF owns or has ownership interests in 14,000 apartment units, which are managed by outside firms that it hires.

West Coast

AOF has been successful on the West Coast, where one of its subsidiaries, AOF/Pacific, serves as as general partner and has small ownership interests in more than 100 affordable properties with more than 13,000 units. Many are financed with low-income housing tax-credits so there’s less leverage, Kennedy said.

AOF has also acquired, rehabbed and sold 125 single-family homes to first-time buyers.

“I’m not particularly proud of what I did in the 90s,” Kennedy said. “I’m proud of the way I hung in there and got it all worked out.”

Capital Trust Agency, the Florida conduit, has issued about $1.9 billion of debt for projects such as private-jet facilities and hotels. To raise the money for AOF, Capital Trust charged about $97,400 in fees.

Ed Gray, the executive director, said his agency reviewed financial statements and visited the apartment complexes in Plano and Fort Worth. About $81 million of the debt Capital Trust has issued has defaulted, according to data compiled by Bloomberg.

“I can’t speak to that,” Gray said of AOF’s default history. “I can only speak to projects that I’m aware of that they currently operate, and have found no lack of expertise.”

Little Regulation

Public agencies like Capital Trust operate in a little-regulated corner of the municipal market. They issue bonds for private companies and nonprofit organizations that would otherwise lack access to tax-exempt borrowing. Local taxpayers benefit from the fees and aren’t on the hook to repay the bonds, which are often used for riskier real-estate projects.

All 50 states have conduit issuers. Florida is one of seven that allow some conduits to issue debt for out-of-state projects, according to the Council of Development Finance Agencies. The practice has drawn criticism from some public officials, who say it can allow debt issuers to elude oversight by financing projects through authorities beyond their jurisdiction.

AOF’s Plano and Fort Worth debt was good enough for Bank of America Corp. The bank bought $26.1 million of the bonds, which yielded 5.5 percent. Fundamental Advisors, a New York-based private equity firm, bought another $11 million of subordinate notes that pay interest as high as 15 percent. AOF provided $600,000 in equity, according to Capital Trust. Melissa Kitlowski, a Bank of America spokeswoman, and Julie Oakes, a Fundamental spokeswoman, declined to comment.

Public Purpose

Gray of Capital Trust said AOF’s housing complexes were in good shape and generate enough income to support the debt.

“We felt this financing for these properties was a good public purpose for us to be involved and therefore when the applicant came to us to consider issuing the bonds, we did so,” Gray said.

Plano, whose median household income is 60 percent higher than the state’s, has a population of 280,000 and is located about 20 miles (32.2 kilometers) northeast of Dallas. It’s dotted with corporate campuses. In 2014, Toyota Motor Corp. decided to move its North American headquarters to Plano from California. Garden Gate, AOF’s apartment complex, is the town’s only subsidized low-income housing for families.

“All we’ve done is allowed them the ability to issue tax-exempt” debt, said Denise Tacke, Plano’s finance director. “We have no responsibility for repayment.”

Bloomberg Business

by Martin Z Braun

June 9, 2016 — 2:00 AM PDT Updated on June 9, 2016 — 7:24 AM PDT

The yield on AAA-rated 30-year U.S. municipal bonds fell for the third consecutive day to an all-time low of 2.27 percent on Thursday, according to Municipal Market Data’s benchmark scale.

A surge in municipal bond issuance this week was met by strong demand from investors, many of them foreign buyers being drawn to the market in an attempt to escape negative interest rate policies abroad.

“Munis are the most attractive ugly duck left,” said Greg Saulnier, municipal analyst for Municipal Market Data. “Given what foreign money looks like, investors are snapping these up.”

Investors this week saw a whopping $12 billion of new sales enter the market, a high for the year to date.

Municipal market investors have also been encouraged by Federal Reserve Chair Janet Yellen’s comments on Monday that rate hikes could be pushed off until later in the year.

The streak of record lows may not be over yet. July is typically the biggest month for principal and coupon redemptions, which will likely again boost demand for municipals.

Over the past two days, the market also saw record low yields on 30-year AAA-rated municipal bonds of 2.36 percent on Tuesday and 2.34 percent on Wednesday.

The yield on AAA-rated 10-year bonds ended Thursday at 1.56 percent, nine basis points above the all-time low of 1.47 percent set in November 2012.

Reuters

By Robin Respaut

Thu Jun 9, 2016 4:08pm EDT

(Reporting By Robin Respaut; Editing by Bill Trott and Dan Grebler)

Donald Trump and Hillary Clinton don’t share many positions. But the need to revamp the nation’s infrastructure is one of them.

Clinton, the likely Democratic presidential nominee, says the U.S. is “dramatically underinvesting in our future,” and she’d pour money into roads and waterways. Trump, the presumptive Republican candidate, is blunter: the country’s infrastructure is “terrible” and airports are “a disgrace.” He wants to “start the greatest long-term building project in American history.”

It appears that local leaders are finally coming around to that line of thinking, seven years after the end of the recession. With interest rates the lowest since 1965, states and cities issued $67.3 billion of debt for infrastructure in the five months through May, the most since 2010, Bank of America Merrill Lynch data show. That was the last year of the federal Build America Bonds program, which encouraged governments to borrow by paying a share of the interest bills on debt sold for public works.

While the uptick is still just a fraction of what’s needed to shore up thousands of deficient bridges and countless pothole-laden roads, it reflects a long-awaited shift by municipal officials who have hesitated to borrow for new projects even with interest rates at five-decade lows. The increase coincides with unprecedented demand for tax-exempt debt, suppressing yields and saving states and cities millions of dollars.

“Recent history tells us that simply having low interest rates is not going to be what drives cities to take on new debt,” said Christiana McFarland, director of research in Washington at the National League of Cities. “The looming threat of infrastructure needs is certainly putting cities in a position to do everything they can to take on those projects now.”

The American Society of Civil Engineers estimates that the U.S. will fall $1.44 trillion short of the $3.32 trillion it needs to invest in infrastructure through 2025.

It’s not just states and cities that are responsible for that gap. Congressional officials last year spent weeks haggling over a transportation-funding measure before finally enacting a five-year, $305 billion bill that incrementally raises spending each year.

If presidential campaign promises are to be trusted, help could be on the way.

Clinton’s website features a plan that would raise federal spending on public projects by $275 billion over a five-year period, including a national infrastructure bank that would run an expanded Build America Bonds initiative.

In Trump’s book, “Crippled America: How to Make America Great Again,” he doesn’t put an exact price tag on infrastructure spending, but calls it “a trillion-dollar rebuilding program” that’ll be “one of the biggest projects this country has ever undertaken.”

“Regardless of what happens at the state and local level, the federal government needs to be a strong partner in any solution,” Brian Pallasch, managing director of infrastructure initiatives at American Society of Civil Engineers, said in an interview. “The presidential candidates, I’m heartened to see all of them in different ways at least mentioning infrastructure and saying it’s important that we start dealing with it.”

In the meantime, states and localities are stepping up borrowing for public works as their finances improve. Over the past year, they’ve boosted spending on public construction to the most since 2010, Census Bureau data show.

California, the most-indebted U.S. state, sold $813 million of bonds in March for projects including clean water and clean air, children’s hospitals, earthquake and highway safety, housing and emergency shelters, traffic reduction and port security, offering documents show. Across the country, Maryland borrowed about $1.04 billion on Wednesday for construction projects, grants to localities and other initiatives.

Even with municipalities ramping up bond sales, it’s unlikely the pickup will push interest rates higher, according to a report this week from Municipal Market Analytics.

That’s because individuals have poured money into muni mutual funds every week since October, the longest streak since 2010, Lipper US Fund Flows data show. The more than $16 billion of inflows to start the year is the most since at least 1992.

The yield on a Bond Buyer index of 20-year municipal general-obligation bonds plunged to 3.18 percent on Thursday, setting a new 51-year low. Top-rated 10-year munis yield 1.55 percent, according to data compiled by Bloomberg, while those due in three decades yield 2.36 percent, the lowest since the data begin in 2009.

“You have budget surpluses in a number of states, and extremely low yields available in the market right now allow them to borrow at attractive rates,” said R.J. Gallo, head of the municipal bond group at Federated Investors, which oversees $6.9 billion of the debt. “It all adds up that you’re seeing more new-money financing and more public construction. The muni market can certainly handle it.”

Bloomberg Business

by Brian Chappatta

June 10, 2016 — 2:00 AM PDT Updated on June 10, 2016 — 6:19 AM PDT

The muni bond market is now questioning the willingness and ability of some issuers to make payments on general obligation bonds: BlackRock’s Peter Hayes

Municipal bonds, a favored fixed income asset class among high net worth investors, are experiencing strong demand this year despite the debt troubles of Puerto Rico, New Jersey and Illinois and gains that, unlike last year’s, are lagging those of Treasuries and investment grade and high yield corporate bonds.

Flows into muni bond funds topped $22 billion for the first five months of the year, and muni fund assets reached a record high of $632 billion as of June 1, according to Lipper. Demand from foreign borrowers seeking higher yields is adding to demand. Year-to-date investment grade munis have returned just over 3%, capturing most of the gains that BlackRock’s Municipal Bonds Group had been expecting for the full year.

Peter Hayes, a managing director and head of the group, said Wednesday the firm is now reassessing its outlook but expects another 1.5% return for the remainder of the year.

Despite the relatively strong performance of municipal bonds overall, however, he expects the problems of issuers like New Jersey and Illinois, which have large fixed costs for pensions but not enough revenues to pay them, will likely get worse, and general obligation bonds will suffer the most.

The GO category of muni bonds, backed by the full faith and credit of the issuer, have traditionally been considered the gold standard and safest type of issue among muni credits, but that view has been upended by the problems dating back at least to Detroit, said Hayes.

“The muni bond market is now questioning the willingness and ability to pay of some entities to pay,” said Hayes. He doesn’t expect that sentiment will abate anytime soon.

“Two things have to happen first,” said Hayes. “You have to have significant pension reform and cut benefits or you’ve got to pay for it. Many of the entities have the ability to pay for it to some degree but politically they don’t want to.”

Those politics could potentially change in some states if elections result in one party rule of the governor’s office and legislature, but in the meantime the muni market “will continue to question the GO structure,” said Hayes. And spreads in such states, which also include Pennsylvania and Connecticut, could widen further.

About Illinois which recently announced plans to borrow $550 million for capital projects, Hayes said the state should be penalized by muni market participants “in some way, by almost not giving them any access to the market….Think about it — they’re a state without a budget, they refuse to pass a budget, they have the lowest funded ratio on their pension of any state, and yet they’re going to come to market and borrow money.”

ThinkAdvisor

By Bernice Napach
Senior Writer

JUNE 8, 2016

Municipal bonds that are taxable at the federal level are surprising outperformers this year. While tax-free munis were up 2.7% through the end of May, taxable munis were up 6.71%. That’s even better than high-yield munis, which were up 4.73% in that time frame, according to Eaton Vance.

It’s not just this year. The 5-year and 10-year returns of taxable munis are also higher than tax-exempt munis. Taxable munis gained an average of 8.1% a year over the last five years and 6% over the past 10 years. Tax-exempt munis gained 5.3% and 4.7% in those two time periods.

Most individual investors don’t know even know taxable munis exist. But institutional investors, looking for yield under every stone, are increasingly finding these securities attractive, says Adam Weigold, portfolio manager at Eaton Vance, who wrote a blog post Tuesday that explains the dynamics of the market.

One dynamic is that a lot of foreign investors are buying these bonds for their high yields and relative safety.

Weigold concludes his piece:

We believe a flexible opportunistic approach allows access to all parts of the muni market: Taxable or Tax Exempt. Taxable municipal bonds can round out a diversified fixed-income portfolio, offering competitive yields, high quality and low risks of default. As a result, taxable U.S. municipal bonds are bringing the potential rewards of investing in U.S. infrastructure and other public-purpose projects to a growing number of U.S. and non-U.S. investors alike.

Weigold manages Eaton Vance Municipal Opportunities (EMOAX ), which has returns in the top 3% of all muni funds for the five-year, three-year and one-year periods, according to Morningstar.

Barron’s

By Amey Stone

June 7, 2016, 2:42 P.M. ET

The possibility that Illinois could enter an unprecedented second straight fiscal year without a budget had the U.S. municipal bond market worried on Wednesday over when the state might begin to make progress in addressing its financial woes.

The Democratic-controlled legislature wrapped up its spring session late on Tuesday without a fiscal 2017 spending plan or even a school funding budget that both the House and Senate could agree on. Democratic leaders, who are battling Republican Governor Bruce Rauner over his pro-business and labor-weakening reform agenda, also refused to immediately take up the governor’s short-term budget plan.

Illinois has limped through 11 months of fiscal 2016 as the only U.S. state without a complete budget, operating under court-ordered spending, and continuing and stopgap appropriations. As of Wednesday, any budget legislation would need a more demanding three-fifths majority vote to pass.

“I don’t see anyone blinking an eye unless the political pressure becomes so intense or the finances and credit rating of the state become even more dire,” said Dan Heckman, senior fixed-income strategist at U.S. Bank Wealth Management.

Credit rating agencies have warned Illinois, which has the lowest bond ratings among the 50 states, of further downgrades if it fails to tackle a $111 billion unfunded pension liability and huge structural budget deficit.

“Political paralysis is preventing the state from addressing its pressing financial challenges,” said Ted Hampton, an analyst at Moody’s Investors Service, which rates Illinois Baa1 with a negative outlook.

Richard Ciccarone, the head of Merritt Research Services, which analyzes municipal bond credits, said he expects the state’s so-called credit spread to widen in the municipal bond market as a result of the continuing impasse.

On Wednesday, the spread for Illinois bonds due in 10 years remained steady at 175 basis points over Municipal Market Data’s benchmark triple-A yield scale. By contrast, the spread for New Jersey, another state with fiscal problems, was 100 basis points, while California’s was only 20 basis points.

“If (Illinois) made significant changes, the market would applaud with a little support,” Ciccarone said.

The state appears to be bracing for credit rating cuts. The governor’s budget office has hired consultants to help Illinois disentangle from interest rate swap agreements that could cost the state more than $100 million should its ratings fall below specified levels.

REUTERS

CHICAGO, JUNE 1 | BY KAREN PIEROG

(Editing by Matthew Lewis)

Cash has poured into muni-bond mutual funds this year, sending yields down to near-record lows

Investors are buying municipal debt at a record clip, enduring low returns in exchange for the relative stability of bonds sold by U.S. state and local governments.

Municipal-bond funds had more than $632 billion in assets as of June 1, a record high, according to Lipper data going back to 1992. Investors have poured a net $22.5 billion into such mutual funds in 2016 through Wednesday, the best start to a year since 2009. They have pulled $39.97 billion from equity funds in the same time.

The buying is being spurred by ongoing concerns about the slow pace of global growth and the prospect of interest rates staying lower for longer, concerns boosted by Friday’s weak jobs report.

In addition, low—or negative—yields on government bonds world-wide have made munis increasingly appealing relative to other fixed-income assets. The amount of municipal debt held by foreign investors increased 44% to $85 billion from 2009 through 2015, according to Federal Reserve data.

Munis also provided a haven for investors during sharp swings this winter in the equity and high-yield corporate-bond markets. And years of price appreciation in munis have left investors hungry to snap up new issues.

Enthusiasm for the debt has driven prices in the roughly $3.7 trillion market so high that yields have fallen to near-record lows. The enthusiasm comes even as Puerto Rico is defaulting and concerns persist about the financial health of some cities and states. In addition, U.S. interest rates are still expected to rise this year, which can hurt the value of outstanding bonds.

Investors prize munis in general because they are considered nearly as safe as Treasurys, backed by tax revenue or fees on critical public services, such as water. The debt also offers interest payments that are typically free from federal taxes. In the years since the financial crisis, the highest-rated municipal bonds have often yielded more than Treasury debt. But that trend has begun to reverse in recent months, intensifying some analysts’ concerns about the risks of purchases at current prices.

Yields “aren’t all that attractive anymore, yet we continue to see inflows into the funds,” said James Kochan, chief fixed-income strategist at Wells Fargo Funds Management. “It doesn’t take much to produce negative returns from these levels.”

Yields on the Barclays Municipal Bond Index fell to a record low of 1.75% in mid-May and were at 1.83% on Friday.

Municipal bonds have returned 2.89% so far this year, counting price appreciation and interest payments, according to Barclays PLC as of Friday. That compares with 3.88% for Treasurys, 6.14% for highly rated corporate debt and 8.09% for junk bonds.

Rick Taormina, head of municipal strategies at JPM Asset Management, said some investors have been experiencing “rate shock,” surprised by the low yields even on longer-dated or less-creditworthy debt.

Despite such low yields, the hazards of municipal bonds—including hundreds of millions in defaults from Puerto Rico—seem mild compared with the year’s swings in stocks and other riskier assets.

The supply of new bonds has fallen, helping to drive up prices. Government borrowers have issued $170 billion of bonds from the beginning of 2016 through June 1, down 4.2% from the same period of 2015, according to Thomson Reuters data.

“When there’s less volume, there’s more money chasing after fewer and fewer bonds,” said Howard Cure, director of municipal research at Evercore Wealth Management. “I think a lot of governments are still getting over how tight their finances were just a few years ago.”

For cities and states that do borrow, costs have fallen. Connecticut, which was recently downgraded to double-A-minus by two ratings firms amid concerns about the state’s budgetary flexibility, last month sold 10-year bonds yielding 2.33%, down from a yield of 2.75% on 10-year debt the state sold a year ago, notes Matt Fabian, partner at the research firm Municipal Market Analytics.

Despite the threat of higher interest rates, few are predicting a major pullback in munis this year. Analysts said that Puerto Rico’s defaults have had little impact on the broader market. And the tax break provided by municipal bonds helps offset the low yields the debt currently offers.

John Miller, co-head of fixed income at Nuveen Asset Management, which manages about $113 billion in state and local debt, said the imbalance between demand for the debt and the supply of new bonds is likely to keep prices high in the short term, even if the Fed raised rates.

“There’s a bit less fear around the implications of that,” he said. “Even though munis are at low yields relative to history, they’re at high yields relative to the rest of the world.”

THE WALL STREET JOURNAL

By HEATHER GILLERS and AARON KURILOFF

June 5, 2016 2:24 p.m. ET

The GASB added a project to its agenda in September 2015 to reexamine the financial reporting model. The primary guidance that would be impacted by this project is Statement No. 34, Basic Financial Statements—and Management’s Discussion and Analysis—for State and Local Governments, but also includes several other related pronouncements.

Issued in 1999, Statement 34 set the formats and measurement focuses of financial statements that are in place today. The Statement ushered in important innovations to general purpose external financial reporting and made it possible for users to more fully assess a government’s overall financial health.

As the GASB continues to work toward an initial document for public comment in its reexamination of the financial reporting model, this article previews key issues the Board expects to address.

Initial Document Expected In 2016

The GASB anticipates issuing an Invitation to Comment before the end of 2016. The Invitation to Comment will seek feedback from stakeholders on certain aspects of the current financial reporting model.

Based on the feedback received during the initial pre-agenda research, the Board decided that rather than starting from a blank slate, the approach of the financial reporting model reexamination should be to make improvements to the existing model. The overall objective of this project is to enhance the effectiveness of the model in providing information needed for making decisions and assessing a government’s accountability—and to address application issues.

The Invitation to Comment will address improvements to various aspects of:

• Governmental fund financial statements, which have traditionally focused on the short-term finances of the most basic activities of a government, such as police, fire, sanitation, and
• Government-wide financial statements formats, which cover both the short- and long-run finances of all of a government’s activities (except fiduciary activities).

Governmental Fund Financial Statements

GASB research has determined that governmental fund financial statements are not as effective as they could be in providing information that is essential for users to make decisions and for assessing a government’s accountability. Research also has led the GASB to determine that opportunities for improvement exist.

For example, rather than being based on a cohesive conceptual foundation, the current financial resources measurement focus used for reporting governmental funds is an accumulation over many decades of common practices and conventions. (A measurement focus describes the types of resources that are reported in a financial statement.) Furthermore, this measurement focus has not been comprehensively reviewed in nearly 20 years. As a result, the information reported in financial statements prepared using this focus can be inconsistent and does not necessarily provide users what they need.

Another issue the Invitation to Comment is expected to address includes how the format of governmental fund financial statements might be revised to improve their utility and understandability.

Government-Wide Financial Statements

Recent Video on the Model

The Invitation to Comment also is expected to address the format of the government-wide statement of activities. The statement of activities reports a government’s revenues and expenses, as well as other changes in the government’s net position. GASB research has indicated that some users find this financial statement to be somewhat confusing and not as helpful as it might be for making decisions.

Looking Ahead

The project is expected to unfold over a relatively long time horizon, which could mean the reexamination would extend into 2021.

We welcome your input once the Invitation to Comment has been issued. Sharing your views with the Board will be a key element of a successful outcome in this project.

Register to attend the June 21 Task Force meeting in New York.

Read a recent GASB Outlook article on the financial reporting model reexamination.

At “Just Say No: Financial Products and Strategies to Avoid,” a Tuesday session at GFOA’s annual conference, the panelists discussed the pitfalls of newer, more “innovative” financial instruments that local governments have access to.

Pension and OPEB obligation bonds were discussed first. The prospective benefit of these “benefit bonds” is that the investment income that the government earns on the bond proceeds would exceed the interest paid out to the bond buyers. Gaining this benefit requires the government issuer to correctly time the market so that the time period of the borrowing takes place during a time period in the economy when the returns on investments exceed cost of borrowing—something that is easier said than done. Further, benefit bonds can even lead to poor decision-making about future benefit levels. This is because the bonds cause the government’s benefit liability funding ratio to appear to be improved – the bond proceeds are used to fund the liability. However, this doesn’t take into account the offsetting liability of the need to repay the bonds. Hence, this illusory improvement might offer improved benefits to plan participants.

For more information, see GFOA’s advisories:

• Other Postemployment Benefits (OPEB) Bonds
• Pension Obligation Bonds

Social impact bonds are another financial instrument we’ve been hearing about. Most of them follow a basic formula – private investors pay a government to launch a new social program that’s designed to achieve a measurable result. If the program works, funders get their money back, and some or all of the savings attributable to that result. If it fails, the funders lose most or all of their investment. Most social impact bond programs are usually delivered by non-profits that want to try innovative approaches to solving social problems. If the program works, the participant that fronted the money (usually an investment bank) gets investment back plus a return, which comes from cost savings (from small case studies, less expensive cases, and so on). If the project fails, the investor loses its investment.

These investments are incredibly complex, multi-year undertakings, and the first thing a local government considering one needs to determine is whether it can commit to putting a lot of resources into managing the project for a long time. Sophisticated, solid program evaluation is required throughout the program.

The main advantages to social impact bonds are:

• There’s a lot to be said for focusing on impact, not outputs or throughputs (despite the difficulty).
• These projects are often about applying a little prevention (to, say, decrease homelessness), and a little prevention goes a long way.
• This can provide an opportunity to “backfill” federal and state funding that had been lost after the recession.
• Evidence-based policy is generally a good idea for new service delivery models.

The main concerns, and they are significant, are:

• It’s difficult to measure impact. How is it defined? How do we get the data to measure it? How do you isolate the program’s effect on second graders’ reading? Even the most sophisticated measures can’t single this sort of information out.
• Does “pay for success” imply that what we’ve been doing up until now is paying for failure? Some would say yes, but in many cases, this is not the case, and it does a disservice to the many government projects being run well and producing excellent results.
• What are “cost savings”? Is reducing marginal costs alone a compelling reason for social impact bonds?
• There’s upside risk. If a social impact bonds reduce costs more than expected, is there gain sharing for governments? Some programs have been wildly successfully, and the last thing you want to see is a headline that says “Goldman Sachs profits wildly from investment in City X.”
• Are social impact bonds sustainable without the role of philanthropy?

Why should finance professionals care? Because it’s going to start coming up more and more often. The idea has great headline appeal – no elected officials will want to avoid an opportunity to “leverage private sector and philanthropic investment to transform the lives of children.” Any finance officer approached bout a social impact bond deal should do a thorough feasibility analysis.

Government Finance Officers of America

Tuesday, May 24, 2016

Have you considered how you can use data to look at your city in a different way – to find out what it’s really worth? In his Monday conference presentation, “The Financial Impacts of Land Use Policy,” Joe Minicozzi, principle of Urban3, a consulting firm created by a real estate developer, discussed the importance of data modeling to determine your real potential for increasing tax revenues. His advice is, in short, “Do the math!”

The traditional development model favors big box retail – which does present a substantial tax payoff. But studying all the data can create a different picture. In other words, you have to measure everything to know what you really have.

Minicozzi told the audience to “divide the land into the value.” His research shows an exponential jump in the amount of county property tax received from one- to two-floor residential, and an even bigger jump from two- to three-floor residential. Adding in street-level retail makes the increase even greater. Adding the parcels of land a big-box store would require and comparing the numbers to expected tax returns from the retail development shows that overall, the smaller parcels lead to greater potential tax returns.

Minicozzi noted that this analysis often seems overly simplistic, but he added that simple doesn’t necessarily equate to wrong. After all, he pointed out, “We put a man on the moon before we put wheels on luggage.”

Finance officers can provide the information that makes this kind of analysis possible. Minicozzi noted that when we look at real estate, we tend to look at total value, which isn’t necessarily the best way to understand land use. Taxable value per acre is a better measure. He suggested ditching the spreadsheet and using modeling technology to demonstrate the true value of property.

Take a look at Minicozzi’s conference session slides, which show a number of interesting modeling possibilities.

Learn more about using modeling to affect land use policy in Minicozzi’s August 2013 article for Government Finance Review, “Thinking Differently about Development.”

Further information is available from GFOA’s best practice, Monitoring Economic Development Performance.

Government Finance Officers of America

Monday, May 23, 2016

This webinar covers various transportation financing options and tools available to states including Bonds, GARVEEs, P3s, Managed Lane Programs and TIFIA Loans as well as a brief overview of the U.S. Department of Transportation’s Build America Transportation Investment Center (BATIC).

Watch the Webinar.

State Debt Management Network

5/18/16

Sales of U.S. municipal bonds ticked up slightly in May, with more new sales and refunding deals coming to market than during the first four months of the year, according to Thomson Reuters data.

Total sales in May were $39.4 billion, 17 percent higher than in April, and 16 percent higher than in May 2015.

Overall, calendar year 2016 has thus far resulted in slightly less sales than the same period last year – there has been $168.6 billion of municipal issuance during the first five months of 2016 compared to $177.8 billion in the same period last year – in part due to fewer refunding deals.

Issuers sold $104.3 billion of refunding bonds in 2,653 deals during the first five months of 2016, compared to the $124.1 billion of refunding bonds sold during the same period in 2015 across 3,157 deals, the data shows.

The market saw a rise in new debt sales as issuers sold $16.6 billion in new bonds across 617 deals in May, compared to $13.2 billion over 652 deals in May 2015. Overall, new money deals rose in the first five months of 2016, with $64.4 billion compared to the same period in 2015 with $53.7 billion of new sales.

Municipal investors should prepare for a busy month in June, typically a time of year that experiences higher gross supply before the lethargic summer months, Morgan Stanley reported this month, although market participants should “keep some ‘powder dry’ due to the possibility of rising interest rates” later in the year.

Reuters

May 31, 2016

(Reporting by Robin Respaut; Editing by James Dalgleish)

The Massachusetts and Pennsylvania legislatures are considering bills that would authorize the development of certain infrastructure projects through public-private partnerships.

The Massachusetts bill (S. 1722), sponsored by Senate Minority Leader Bruce Tarr, would allow municipalities to enter into P3s to develop, finance, operate and maintain municipal water, wastewater and stormwater infrastructure projects for up to 30 years. The developer would be authorized to charge fees or negotiate service contracts for its services. The public agency that negotiates the P3 would be required to provide a copy of the preferred proposal to each affected local jurisdiction and to consider all comments received before signing an agreement. The bill has been referred to the Senate Ways and Means Committee.

The bill is supported by a coalition of associations and industry groups including the Massachusetts Municipal Association, the Massachusetts Municipal Lawyers Association, the American Council of Engineering Companies of Massachusetts, the Boston Society of Civil Engineers/ASCE and the National Association of Industrial and Office Properties.

Matthew Feher, an attorney with the law firm Burns & Levinson, LLP, and a staunch proponent of the bill since it was introduced in January 2015, will be a featured speaker at NCPPP’s annual conference, P3Connect 2016, June 27-29 in Chicago.

In Pennsylvania, Rep. Eli Evankovich introduced a bill that would launch a P3 pilot program to build up to 12 social infrastructure projects and establish a state P3 oversight board . The legislation (HB 2113) would authorize the use of P3s to develop water, wastewater and stormwater projects, schools and related infrastructure, government buildings, telecommunications infrastructure, and utility projects. To be eligible, all projects must be valued at $25 million or more and no more than two could be conducted in each of six regions. State agencies and local governments would be permitted to consider unsolicited proposals. The pilot program would end once the last P3 agreement negotiated under it has expired. The bill has been referred to the House Committee on State Government.

Massachusetts and Pennsylvania are the latest states to consider P3 legislation to meet their infrastructure needs. Kentucky and Tennessee recently enacted P3-enabling legislation. For a full list of state P3 laws and regulations, visit the Resources section of the NCPPP website.

NCPPP

June 2, 2016

In this week’s edition, Avani Parikh, Associate Director, and Sussan Corson, Director, discuss the requests for comments for proposed changes to rating criteria for charter schools and pensions funded by states.

Listen to the podcast.

May 31, 2016

In this CreditMatters TV segment, Gabriel Petek, Managing Director of U.S. Public Finance, and Sussan Corson, Director of U.S. Public Finance Ratings, discuss our new report outlining our request for comment on proposed changes to the ratings criteria for U.S. state and territory governments.

Watch the video.

May 31, 2016

As stewards of public spending, they are best positioned to help us invest effectively

We all know the story, or at least we think we do: The U.S. infrastructure machine is sputtering, and politicians are failing to fill up the tank with funding. But look under the hood and you will see that America’s infrastructure engine needs more than just gas. It needs a total engine overhaul and a new chief mechanic: Government’s chief financial officers (CFOs) need to be put in charge.

For years, we have let individual government agencies — separate departments of highways, water resources, energy and so on — drive independently while advocating for their favorite infrastructure projects. Procurement systems have favored low-cost capital bids, ignoring the long-term maintenance requirements of assets meant to last a longer lifetime. Most politicians have done little to address the unsexy challenge of deferred maintenance. Why repair a leak or two underground when one can get more press for cutting ribbon on a new project?

Sadly, this kind of thinking — where prevention is undervalued — is why we have public health disasters like Flint’s, a broken-down Washington, D.C., regional subway system and our current $3 trillion-plus deferred maintenance bill.

Yet the news is not all bad. There are new efforts emerging nationally and internationally led by CFOs, state treasurers and ministers of finance. The key concept is “performance-based infrastructure,” which encourages governments to consider life-cycle asset performance rather than simply taking the low-cost bids and ignoring maintenance costs of assets that are meant to last 30 or 50 years.

This shift in thinking has been led by Canada and New Zealand, where individual agencies sponsoring infrastructure projects must first undertake an “independent infrastructure project assessment.” This requires agencies to consider more efficient ways to design, finance, procure and maintain the asset and to determine how best to manage important project risks, such as the effects of climate change.

Results are encouraging. There has been a $110 billion infrastructure-project explosion in Canada in the last decade. This has led to more on-time and on-budget performance and created a new pipeline of financially viable public-private partnerships.

How would this work in the United States?

First, put local and state CFOs in charge of how we can better spend $500 billion annually, especially since 75 percent of infrastructure spending happens at the local level. As stewards of public spending and impartial “owner-advisers” to public agencies, CFOs are best positioned to assess life-cycle risks, reform procurement systems, promote cross-agency integration and identify viable repayment mechanisms to attract private investment. (Want to nerd out even more on how to make this work? Check out the Government Accountability Standards Board’s Statement 34 for how CFOs can implement life-cycle accounting and New York State’s Smart Growth Public Infrastructure Policy Act, which requires resiliency and climate risk analyses to be considered with each infrastructure investment.)

Second, build a new network of local, state and regional centers of expertise to shift the system from the bottom up. Only now is Canada creating a national center after a decade of local testing and proven success in British Columbia, Ontario and seven other provinces. The U.S. is also poised to drive this shift through the regional and metro accelerators scattered across the country, from the West Coast Infrastructure Exchange to accelerators now forming in the Washington, D.C., Northeastern and Intermountain regions.

Third, use “big data” to build infrastructure for the 21st century. The private sector is already doing this. Let’s take climate change. Major insurance companies like Swiss Re are busy looking at ways to monetize avoided storm damages by establishing incentives for resiliency investments before the next Superstorm Sandy happens. Insurers and investors need big data to accurately assess climate change effects. New project-design tools and performance-based infrastructure and data innovation techniques could shave 40 percent off of a projected $57 trillion global infrastructure bill by 2040, according to a McKinsey Global report.

How can the federal government help promote this local and state shift? Support the bipartisan bill passed by Congress last December that calls for funding of more regional centers of expertise to accelerate local public-sector capacity. Another low-cost, high-impact congressional move? Why not allow innovative states and cities to tap into a new “federal flex fund” for the startup and design costs of innovative projects that don’t fit into current funding schemes designed during the Eisenhower era.

We will need more. Universities, business schools and technology companies should team up to train the next generation of infrastructure innovators. A new world of smart grids, driverless cars and broadband technology needs to get built, but first we need government CFOs to fire up their spreadsheets.

GOVERNING.COM

BY DAN CAROL | MAY 31, 2016

As states begin stepping in to fill a void left by private employers, there are management challenges to keep in mind.

Most governments provide their employees with some form of retirement savings, but that’s a benefit that has been fading away for decades in the private-sector workplace. Today, only 58 percent of full-time private-sector American workers have access to a workplace retirement plan and 49 percent participate in one, according to a recent report from The Pew Charitable Trusts.

This leaves more than 30 million full-time, full-year workers between the ages of 18 and 64 without access to an employer-based retirement plan. With so many private-sector workers worrying that even with Social Security they won’t have enough money for retirement, it’s not surprising that many states and the federal government are looking at ways to step into the void left by employers. The aim is not only to increase retirement savings but also to reduce poverty and the need for social assistance –spending that strains state budgets.

It’s a complex challenge. Access to employer-based retirement plans varies widely. In Wisconsin, for example, 70 percent of full-time workers are able to take advantage of an employer-based plan, compared with just 46 percent in Florida. Gaps in the availability of retirement plans are even wider among the nation’s metropolitan areas, according to research by Pew. In Grand Rapids, Mich., for instance, 71 percent of workers had access to a plan, compared with 23 percent in McAllen, Texas.

Access and participation also vary based on employer size, industry type, income, age and education — with some of the largest differences by race and ethnicity. Hispanic workers are almost 25 percent less likely to work for an employer that offers retirement benefits than are white non-Hispanic workers. Black and Asian-American workers also report lower rates of access than white workers.

While Congress and the Obama administration have proposed new ways to increase retirement savings, no major federal legislation has passed on this issue since 2006. As a result, state policymakers and agency heads have been looking at opportunities to fill the gap using tools that range from offering no-cost individual retirement savings accounts to providing tax breaks for contributions or for setting up a plan. The goal is to give employees an incentive — and the ability — to contribute on a regular basis directly from their paychecks.

Lawmakers in more than half of the states have introduced legislation to create or study state-sponsored retirement savings plans for employees who lack access at work. Illinois, Massachusetts, New Jersey, Oregon and Washington state already have moved forward with programs using a variety of approaches. But as state policymakers explore new programs to encourage workers to secure their own financial futures, they need to consider whether they have the administrative and financial capacity to manage a large retirement savings program.

Many states already run retirement plans for public employees, health-insurance exchanges and college savings plans. But creating viable state-run retirement programs for private-sector workers can present unique challenges — in particular, the ability to efficiently manage a large number of small account balances from numerous employers using a wide variety of payroll systems. Additionally, states must consider their responsibility to ensure the integrity of funds and investments, meet reporting and disclosure responsibilities, and provide transparency and accountability.

Although state agencies have considerable financial and policy expertise about public pensions, there is much they can learn from the business community about private-sector retirement plans. A wide array of payroll providers, record keepers, investment professionals, financial educators, software developers and other service providers make up a retirement savings industry with over $5 trillion in assets. States should reach out to these experts to better understand how to successfully manage the administration, outreach and cost-control challenges of a large retirement savings system.

States also can learn from the experiences of one another as they consider the best paths forward, and they would be well served to make policy choices that balance the competing objectives of employee retirement security, employer cost and administrative burdens, and risks for the state. They also need to take into consideration the specific economic and demographic characteristics of the workers who could participate. If states weigh these factors carefully, it may be possible to make a meaningful improvement in the retirement security of many working Americans while minimizing costs and risks to taxpayers.

GOVERNING.COM

BY SUSAN K. URAHN | JUNE 1, 2016

Connecticut this week joined the list of states that are creating retirement programs for workers who don’t have access to one through their employers.

The new law affects nearly 600,000 private-sector workers. Many of those workers can now be auto-enrolled into retirement plans that are privately managed but overseen by the state.

At least half the states are now exploring or implementing programs to provide retirement savings options for private-sector workers without access to a plan, according to a report released this week by The Pew Charitable Trusts. The states that have already enacted such a plan are Illinois, Massachusetts, New Jersey, Oregon and Washington.

The Takeaway: Most Americans are ill-prepared for retirement. More than 38 million people, or roughly 45 percent of working-age households, have no retirement savings at all, according to data from the National Institute on Retirement Security. More and more states — rightly recognizing that they’ll foot the bill for a poor retiree’s social service needs — are beginning to do something about this.

GOVERNING.COM

BY LIZ FARMER | JUNE 3, 2016

While the overall number of government entities that defaulted on their debt in the past couple of years has remained virtually unchanged (hovering aroung 50), those rated by Moody’s Investors Service have seen an uptick in defaults — from zero in 2014 to four in 2015.

According to a new Moody’s report, the four defaults in 2015 were Single Family Mortgage Revenue Bond in Cook County, Ill.; Dowling College (which closed its doors Friday) in Long Island, N.Y.; Puerto Rico Public Finance Corporation; and Cardinal Local School District in Ohio.

In addition, the total percentage of credits that Moody’s rates at junk status has doubled over the past five years — from 0.4 percent to 0.8 percent. The rate of junk bonds, however, has significantly decreased from 2014, when 1.6 percent of credits were rated below investment grade by Moody’s.

The Takeaway: Municipalities are facing big budget constraints driven by higher expenses and revenue growth that can’t keep up. That difficult combination has contributed to an increase in struggling municipalities, and there’s no sign these long-term forces pressuring the public sector will abate, said Moody’s Senior Vice President Al Medioli.

Moody’s is not alone in this warning. Last month, one analyst said that a significant portion of municipal issuers are worse off than they were at the end of the Great Recession — a fact he blames on governments’ inability to balance their revenue and spending.

Still, Medioli said, one positive story is that most municipal governments reacted to the recession by making significant budget adjustments. As a result, “Tax bases and fund balance reserves have broadly recovered to pre-recession levels,” he said, “and in some cases strongly so.”

GOVERNING.COM

BY LIZ FARMER | JUNE 3, 2016

 

The difference between short- and long-term yields in the $3.7 trillion municipal-bond market is the smallest in more than eight years. With tax-exempt mutual funds flush with cash from the longest stretch of inflows in six years, managers have poured money into higher-yielding securities, pushing up the price. By the end of last week, that left 30-year yields just 1.75 percentage points more than those on 2-year securities, the smallest since January 2008, when the credit-market crisis was building. That difference, known as the yield curve, shows that investors are receiving little compensation for the risk of owning securities that don’t mature for decades.

Bloomberg Business

by William Selway

May 31, 2016 — 8:39 AM PD

The yield on a Bloomberg index of 10-year AAA rated municipal bonds has increased for seven straight trading sessions, the longest streak in nearly a year. The climb to about 1.63 percent from the lowest level since December 2012 began May 18, after minutes from the Federal Reserve’s last meeting revealed that the central bank may be getting closer to another interest-rate increase in the coming months. The trend may not last, because muni mutual funds are flush with cash — they added another $950 million in assets in the week through Wednesday, extending the longest stretch of inflows in six years, Lipper US Fund Flows data show.

 

Bloomberg Business

by Brian Chappatta

May 27, 2016 — 6:39 AM PDT

The “buy the dip” mentality has come to the municipal market.

With tax-exempt yields at the lowest in five decades and mutual funds receiving the most cash since 2010, investors are looking at any pullback as a chance to buy. That’s just what they’ve got: Benchmark 10-year yields climbed by about 0.06 percentage point in the past week since minutes from the Federal Reserve’s last meeting suggested that the central bank may be getting closer to another interest rate increase in the coming months.

“Any backup, we’d view as a buying opportunity,” said Sean Carney, head of muni strategy at BlackRock Inc., which oversees $119 billion of state and local debt. “As long as demand remains as strong as it has been, it’s difficult to identify the catalyst that breaks the back of recent market performance.”

 

The increase probably won’t last long, even if the Fed raises short-term lending rates. On top of the billions of dollars pouring into muni mutual funds, about $73 billion of state and local debt will mature in June and July combined, the most this year, data compiled by Bloomberg show. That adds buying pressure at a time when tax-free yields are historically low, yet cheap relative to global alternatives.

The $3.7 trillion municipal-bond market has gained in each of the first four months this year, only the third time that’s happened since 1989, Bank of America Merrill Lynch data show. It’s up 0.4 percent in May, even as Treasuries and corporate debt have declined.

 

Even the tax-exempt market has weakened on the Fed officials’ emphasis that they could raise their benchmark rate in June. The futures market is factoring in a 32 percent chance the U.S. central bank will raise rates next month, up from just 4 percent a week ago. Over that period, munis declined 0.2 percent.

Countering the effect of the Fed’s minutes: Individuals poured $1.25 billion into tax-exempt mutual funds in the week through May 18, the most this year, Lipper US Fund Flows data show. That extends the current streak of inflows to 33 weeks, the longest in six years.

In addition to the inflows, muni investors are poised to receive a wave of cash as their securities mature. About $36.5 billion will come due in each of the next two months, and another $31.5 billion will mature in August, data compiled by Bloomberg show. Many individuals hold the bonds until maturity for the tax-free income, meaning they’ll use much of the principal payments to purchase new securities.

 

Others are newcomers — Asian and European investors who are buying U.S. state and local-government debt in the face of negative interest rates in their own countries.

“There’s just been such rabid demand for munis this year,” said Steve McLaughlin, a senior muni portfolio manager focused on arbitrage trading at First Empire Securities in Chatham, New Jersey. When it comes to bond prices, “we’re at all-time highs, but we could shoot through that,” he said.

More investors are coming into the market looking for bonds just as fewer municipal issuers are selling them.

State and local governments have scheduled about $11 billion of bond sales in the next 30 days, the smallest slate in a month, Bloomberg data show. While the figure tends to underestimate the amount of offerings because some are announced just days in advance, it serves as an indicator of what to expect.

 

Issuance tends to climb from May to June, explaining why munis have posted negative returns during the month in most of the past decade, BlackRock’s Carney said. The fact that the Fed is considering raising interest rates adds to the chance of losses in the weeks ahead, he said.

Though for any sellers out there, it appears there will be just as many buyers — if not more.

“These yields are low, but they certainly have the potential to go even lower as we head into June and July with a heavy calendar of maturing bonds and coupons,” said Phil Fischer, head of municipal research in New York at Bank of America Merrill Lynch. “Performance in munis has just been something to write home about.”

Bloomberg Business

by Brian Chappatta

May 24, 2016 — 2:00 AM PDT Updated on May 24, 2016 — 6:19 AM PDT

Even if an area has no cases of the virus, it could feel a financial impact.

When you walk through Atlanta’s Hartsfield-Jackson International Airport, it’s hard to ignore the solemn warnings that the city could be an entry point for the Zika virus into the United States.

Everywhere, large signs picturing a menacing mosquito warn travelers: “Don’t let this bad bug bite you.” Other signs warn pregnant travelers about a Zika health advisory. Last month, airport concessionaires began selling insect repellent with the recommended level of DEET to keep mosquitoes at bay.

But there are also financial implications of Atlanta’s status as a gateway to Central and South American travel, and for other cities like it. According to a new report by the investment firm, Loop Capital Markets, the Zika virus could make it more expensive for some municipalities to borrow money.

That’s because similar to natural disasters, a virus outbreak has the potential to overwhelm local and state health departments. Since Hurricane Katrina “demonstrated the enormous capacity of governments to botch disaster relief efforts,” Chris Mier, the report’s author, says previous research has shown that a region’s susceptibility to disasters plays a role in their municipal interest rates. For example, a study of California’s more earthquake-prone cities found that they paid a higher interest rate on their bonds following Hurricane Katrina.

That means the same consequences can apply to other disaster situations, including a Zika epidemic. Making matters worse now is the fact that public health resources have become more constrained, so states and localities could be limited in their ability to quickly contain the virus.

“While no one knows the extent of health problems Zika may cause in the U.S., the federal and state response may be underwhelming, resulting in greater health and economic damage than previously expected,” wrote Mier.

Meanwhile, Congress has yet to agree on funding to fight the virus, despite warnings from health officials about the need to move quickly. The Senate has passed a bill freeing up $1.1 billion in funding, far less than the White House’s original request of $1.9 billion. The House of Representatives, however, only wants to provide $622 million.

So far, more than 1,500 cases have been reported in the U.S. and its territories. All 591 U.S. infections were acquired from travel, which means there’s no proof yet that mosquitoes carrying the virus have made it to the states. But in the U.S. territories, all located in the Caribbean, all but four of the 939 cases were contracted locally.

U.S. cities most at risk for the Zika virus are primarily in the South but extend as far north as New York City and as far west as California’s Central Valley. In particular, Mier says Zika may pose a greater financial risk to nine states that have fallen below the national average in public health expenditures: Arizona, Florida, Georgia, Louisiana, Mississippi, North Carolina, Pennsylvania, South Carolina and Texas.

“Any credit-related impact should likely emerge in these states first,” said Mier, noting that they’re more likely to see interest rates increase than credit ratings downgraded.

Even without an outbreak in the U.S., Mier’s report said the Zika virus could still have a negative financial impact. At-risk cities that rely on tourism could see economic activity slow if public health concerns fester. Florida and New York, where one-third of the U.S. cases have been reported, are most vulnerable. In particular, New York City, Orlando and Tampa have emerged as popular landing places for Puerto Rico residents looking to escape the economic recession on that island.

Carried by mosquitoes, the Zika virus started spreading extensively in the Caribbean, South and Central America last year. Prior to 2015, Zika had been found in parts of Africa, Southeast Asia and the Pacific Islands. The virus is thought to be mild, although it has been linked to serious birth defects such as microcephaly (shrunken head and brain) if contracted while pregnant.

GOVERNING.COM

BY LIZ FARMER | MAY 27, 2016

May 26 For more than eight months, investors have poured money into the riskiest U.S. municipal bonds, boosting prices as they dive into anything that can give them fatter yields in a global low-rate environment.

But increasingly, some portfolio managers and analysts are raising concerns about high-yield muni. They are waving red flags about its most notorious borrower, Puerto Rico, but also its best-performing sector, tobacco, and other potentially troublesome areas.

The space should be navigated with “extreme caution,” said Citigroup muni strategist Jack Muller.

The sector has ring fenced its most troubled issuers, and investors could be penalized if they get stuck holding bonds that slip into that roped-off territory.

At the start of last year, market sentiment priced about $74 billion of munis in that distressed category, based on Citi’s analysis. By this January, the figure doubled to about $150 billion, Muller said.

“You don’t want to be part of anything when it does make that transition into the market consensus of distressed,” Muller said.

Money has flowed to high-yield muni funds for 33 straight weeks, with nearly $5 billion of inflows so far this year alone. It was the best first quarter for high-yield fund flows in nine years, according to data from Lipper, a Thomson Reuters unit.

Investors are chasing returns. The S&P Municipal Bond High Yield Index has notched 4.02 percent of positive returns this year. Within the sector, a strong performance from tobacco bonds, with returns of 9.05 percent, has offset Puerto Rico’s weaker 0.95 percent returns, according to S&P indices.

The outperformance could mask potential landmines. Chicago’s Board of Education, for example, sold 28-year bonds in February at about 84 cents on the dollar. The same bonds are now trading above par at 101.5 cents, even though the school district’s many challenges remain undiminished.

“The high-yield muni market to me seems to be flashing a caution sign. There’s not a lot of great value and opportunity there,” said Chad Farrington, manager of Columbia Threadneedle’s high-yield municipal fund.

Columbia raised the fund’s credit quality while increasing cash and other highly liquid assets to 20 percent of the portfolio, the highest since Farrington began managing the fund seven years ago.

To Nicholos Venditti, a Thornburg Investment Management portfolio manager, Puerto Rico and tobacco bonds are both “garbage.”

The two categories make up 60 percent of the Bank of America Merrill Lynch Municipal High Yield Index.

To buy such bonds now would be “literally buying the weakest credit at the most expensive it’s ever been in history,” Venditti said at a recent media event. He said extremely tight credit spreads meant that investors are not getting enough extra yield for buying riskier bonds.

Only about 3 percent of Thornburg’s Strategic Municipal Income Fund is currently in junk bonds.

For tobacco in particular, the “very, very large outperformance that they’ve had is going to be hard to repeat,” said John Miller, co-head of fixed income for Nuveen Asset Management.

The bonds are sold by state and local governments and backed by money from U.S. tobacco companies under a 1998 legal settlement. The risks on these bonds are known, and most expect them to begin defaulting in several years.

Fitch Ratings said last week it would soon strip its ratings from tobacco bonds. Prices on some tobacco bonds were little changed following Fitch’s announcement.

REUTERS

NEW YORK | BY HILARY RUSS

(Additional reporting by Robin Respaut in San Francisco and Karen Pierog in Chicago; Editing by Daniel Bases and Bernadette Baum)

The San Francisco Public Utilities Commission (SFPUC) has become the first organisation to issue a green bond certified under the Climate Bonds Water Criteria. The certified bond was issued for US$240 million with tenors ranging from 7–30 years and coupons of 4 and 5 percent.

“Having a large US municipal authority seeking certification against the Climate Bonds Standard is a positive signal to the US municipal market on the benefits of certifying against the Standard,” Justine Leigh-Bell, Head of Standards Programme at the Climate Bonds Initiative who developed the Criteria, told Cities Today. “Particularly a leading authority like SFPUC which acknowledges the risks of climate impacts and the need to incorporate adaptation and resiliency factors that must be addressed as part of sustainability in water policy, future water infrastructure design and practice for water usage.”

The San Francisco Public Utilities Commission is the third largest municipal utility in California. Proceeds from the US$240 million Waste Water Revenue Bonds will fund eligible sustainable storm water management and wastewater projects from Phase 1 of the utility’s Sewer System Improvement Program.

The Sewerage System Improvement Program is replacing existing aged infrastructure but also taking a more sustainable approach to the use of wastewater and urban run-off. The Bond is helping to finance projects that address water efficiency reuse and conservation as well as upgrading existing processing capability.

“Our city’s sewer system was built to last a hundred years; it’s only fitting that we use the latest, most innovative financing techniques to ensure our infrastructure can overcome future environmental challenges while meeting the needs of our community for the next 100 years,” said Harlan Kelly, General Manager, SFPUC.

The Climate Bonds Water Criteria have been created to provide investors with verifiable, science-based criteria for evaluating bonds earmarked for financing sustainable water infrastructure projects.

These criteria focus on vulnerability assessment, climate mitigation and adaptation planning in projects as diverse as energy or industrial water efficiency through to large-scale water infrastructure development and are aimed to help corporate, municipal and other bond issuers expand their fixed income green bond offerings in water-related projects.

“There is a slow response amongst some US municipal bond issuers and traditional bond investors in acknowledging that climate change impacts must be factored into various aspects of urban planning and services including water and water infrastructure,” added Leigh-Bell. “They are not fully aware of the hidden risks. This in turn impacts the assessments of the future water environment and availability how various resilience and adaption factors should be considered and included in provision of water services.”

Cities Today

by Nick Michell

27th May 2016

DALLAS – Smaller Ohio governments would enjoy easier bond market access at lower costs through a state bond bank, say supporters of legislation to create one.

House Bill 435 passed the House on May 18 on a 95-1 vote and has strong bipartisan support from legislators and Gov. John Kasich’s administration, said its sponsor, Rep. Jeff McClain, R-Upper Sandusky.

“The rules, laws and everything about issuance of bonds under the bond bank legislation is exactly the same as what we already have for bond issuance in the state of Ohio,” McClain said. “The hope is that we will be able to pool some of the smaller entities like townships and villages and they can take advantage of a bigger pool and better rates.”

McClain worked in conjunction with the state treasurer’s office on the bill.

“The goal of the bond bank is to allow local governments to borrow at a lower cost than they could achieve on their own,” said Amanda Merritt, press secretary for Treasurer Josh Mandel. “The bond bank can potentially provide significant cost savings to local government issuers with reduced interest rates and reduced costs of issuance.”

The governing rules for the proposed bond bank would allow it to issue bonds and use the proceeds to make loans to local governments throughout the state at their request.

The entity could consolidate local bond issues to create a single, pooled issue, allowing smaller local governments the advantage of accessing the state’s investment grade ratings.

Under HB 435, the Treasurer’s office would administer the bond bank. Like the existing Ohio Market Access Program (which received the 2014 Bond Buyer Small Issuer Deal of the Year Award) and the State Treasury Asset Reserve of Ohio Program, the bond bank would be another treasurer’s office program designed to benefit local governments.

As with those programs, the bond bank would be entirely voluntary, with the goal of giving local governments additional low-cost financing options. In terms of savings, ratings and the number of issuances per year, it’s too early to say.

Supporters say a bond bank structure spreads risk, netting better interest rates and lower issuing costs.

Market participants say the benefits are clear.

“The bond bank recognizes that the implicit credit of the state is valuable in reducing the cost to its cities of capital financing for that infrastructure so essential not just to health; drinking water, police & fire stations, etc.; but also to public infrastructure investment from wastewater to bridges, etc. — investments which are fundamental to the overall state economy,” said Frank Shafroth, director at the Center for State and Local Government Leadership at George Mason University.

Progress on the bond bank comes in a state funding environment that has been hostile to local governments.

“The state really hammered local governments with three blows: they cut the local government fund in half, they phased out property tax and eliminated the estate tax,” said Wendy Patton, the Senior Project Director at Policy Matters Ohio. “All of those funds could be used for operation by localities and that is where the real loss and injury has been.”

Municipalities saw the Local Government Fund, critical to the survival of many local services, cut in half five years ago.

Under the LGF, established in the 1930s, local governments receive a set percentage of all taxes collected by the state.

“In some cases these funds are essential to the very survival of some local governments,” said Shafroth.

The state legislature also eliminated the estate tax in Ohio in the 2012-2013 budget. Local governments received 80% of the revenue; in the last year of existence it contributed between $220 and $300 million, according to Patton.

“Local governments looked to that source as a capital fund for replacing vehicles or capital goods that was eliminated and it was a major source of funding for capital infrastructure,” said Patton. “To the extent that communities are facing needs for capital goods and are lacking the estate tax to build up a fund … the state bank would be helpful as a source of funding for capital needs.”

The bond bank, while making lower cost capital funding available, won’t substitute for the loss of unrestricted funds such as those lost from the LGF, which typically funded operations.

“The state bond bank won’t address that loss,” said Patton.

Cuts to local government are evident in East Cleveland; on April 27, Mayor Gary Norton Jr. formally petitioned State Tax Commissioner Joseph Testa for permission to file for Chapter 9 bankruptcy because is struggling to meet payroll and benefit obligations because of a revenue crunch that is not likely to ease.

The city’s major sources of revenue come from income taxes, local government revenues distributed by the state, property taxes, and trash collection fees, as well as a street lighting assessment. The city has seen steep reductions in the past few years. It has no bond debt.

“Because of disparities between communities, those with the greatest needs for infrastructure investment — think East Cleveland — confront the greatest borrowing costs; so the state has significant incentives to help not just level the playing field, but also to leveraging capital investment in ways that will help the underlying state economy,” said Shafroth.

If the Senate passes the legislation, Ohio would join other states that use bond banks to pool borrowing capacity for smaller local governments and projects.

“The structure of a number of other states’ bond banks were considered in the creation of HB435, though the proposed bond bank is set up to best meets the needs of Ohio’s local governments,” said Merritt.

McDaniel said that in the development of the Ohio legislation there were some “conversations” about how Indiana modeled its bond bank.

The Indiana State Bond Bank was established as a self-supporting quasi-government entity by the Legislature in 1984. A seven-member board oversees the Bond Bank, with the Treasurer as the chair of the board. The Public Finance Director of the Indiana Finance Authority is statutorily appointed, with the remaining five members being appointed by the Governor.

As with Indiana’s bond bank, Ohio’s local governments would be on the hook for repaying bondholders, not the state.

“Ohio’s current legislation does not provide for any state backing of the bonds, but does contemplate an intercept mechanism,” said Merritt. Intercept mechanisms on revenues, such as state aid, give potential investors some comfort that borrowers will be forced to make good on their obligations.

The state is rated AA-plus by S&P Global Ratings and Fitch Ratings and Aa1 by Moody’s Investors Service.

The Bond Buyer

By Nora Colomer

May 24, 2016

Muni bonds have been terrific investments, but as demand has risen, they’ve grown expensive. Investors should be cautious.

Municipal bonds have been terrific investments for the past year. The average national intermediate muni-bond fund is up more than 5% in that time, with the best performers topping 8%. Since munis are tax-advantaged, those returns are even better.

But with that magic combination of safety and yield, munis have also been in huge demand—and have gotten expensive. Yields, which move inversely to prices, are lower, especially relative to Treasuries.

It was only a year ago that high-rated munis yielded more than Treasuries in longer-term maturities. Now top-rated 10-year munis yield about 1.5%, less than the 1.8% yield on the 10-year Treasury note. Mid-month, long-term munis hit 2.4%, near their lowest yields in history, says Vikram Rai, who heads municipal strategy at Citigroup.

Now the Federal Reserve is threatening to raise rates this summer. Following the May 18 release of minutes from the Fed’s April meeting, Treasury prices fell, as did prices of high-quality munis. An increase in new supply also contributed to munis’ recent dip—and that could be just the start.

“These yields are at such low levels that I think the muni market offers very little protection against a rise in rates over the next 12 months,” says Jim Kochan, chief fixed-income strategist at Wells Fargo Funds. Even though munis won’t move as much as Treasuries, if and when the Fed hikes, fund investors could see negative returns, he warns. Of course, investors who hold individual muni bonds to maturity needn’t worry about falling prices.

Riskier high-yield munis haven’t fallen in price—in fact, they are getting more expensive. Nicholos Venditti, a muni-bond portfolio manager at Thornburg Investment Management, worries that muni investors are overloading on lower-quality and long-term bonds. “If and when there is a reversal, investors who are stretching for yield in an environment where they are not being adequately compensated are going to get hurt the most,” he warns.

Fans believe huge demand will keep muni funds afloat. But supply is building as municipalities take advantage of extremely low rates. Kochan warns that the investor appetite for munis—which has spurred massive inflows into muni-bond funds—can reverse quickly if prices start to fall.

NONE OF THIS MEANS investors should rush to sell munis. But those with new money to deploy should note that high-quality corporate bonds yield upward of 3%, more than munis even after taxes are taken into account, says Michael Sheldon, chief investment officer at Northstar Wealth Partners.

Reducing risk by buying shorter-term, higher-quality munis makes sense for investors who stretched for yield. “Stick with quality,” says Jim Grabovac, a senior portfolio manager at McDonnell Investment Management. “That’s the best defense against a rocky rate environment.”

Constructing a laddered portfolio, made up of bonds with a range of maturities, is a good strategy in a rising-rate environment since each year a new crop of bonds matures and can be reinvested at higher rates, says Sheldon. Venditti manages the Thornburg Limited Term Municipa l fund (ticker: LTMFX), which ladders bonds with an average maturity of less than five years.

Citi’s Rai prefers a barbell approach—one which favors both short-term and long-term bonds—since it allows investors to benefit from a flattening yield curve. If the Fed hikes, longer-term bond yields are likely to fall, gaining in price. While short-term yields would rise, they wouldn’t lose much value because they have very low duration.

Rai doesn’t think muni yields will rise much since extremely low—and negative—rates around the world will keep a lid on rates in the U.S. He also thinks that munis may rally if the Fed doesn’t hike this summer. Still, investors may want to play it safe by giving up some yield and taking less risk.

BARRON’S

By AMEY STONE

May 28, 2016

HARRISBURG — As anyone with a savings account knows, the money in that account has earned virtually nothing for several years.

It’s a lingering effect of the global financial meltdowns that occurred when banks’ subprime mortgage pools sank in 2007, causing those same institutions to stop lending one another money the next year, which led to a credit crisis that spiked short-term interest rates. In response, the Federal Reserve has kept interest rates low to spur more borrowing and speed up the economic recovery.

But if the feds aren’t raising interest rates, banks aren’t either. That’s why your savings account is earning far below the 4 to 5 percent it earned before the financial meltdowns.

Well, your local school district, borough and township have the same savings account problem.

In response, the Legislature and Gov. Tom Wolf have given local governments the chance to earn more interest under a new municipal finance law that took effect Tuesday. But with that newfound investment power comes greater risk of financial loss to taxpayers.

The law, known as Act 10, legalizes several short-term financial instruments that had been prohibited for most of the state’s 67 counties, 500 school districts, 957 boroughs, 1,454 townships and the quasi-public municipal water and sewer authorities.

Some financial and legal experts are urging local elected officials to use caution and education when listening to salesmen who might tout the investments’ benefits while glossing over instruction manuals and repercussions of misuse.

“Some of the investments are far more complicated than what was available previously,” said Stuart Knade, chief counsel of the Pennsylvania School Boards Association, which has hosted seminars and delivered a webinar about the new law to its members. “I would hope most school districts would go into this cautiously.”

Before the law, most local governments had limited and different investment options compared with their brethren in other states. With the exception of Philadelphia and Pittsburgh, most Pennsylvania local governments were only allowed to invest taxpayer money in financial instruments that were issued and protected by the U.S. Treasury or covered by a bank’s collateral.

The new law unifies local government entities under one investment law. The law also opens up investment options, all of which carry varying degrees of default, interest or credit risks.

The options are mortgage-backed securities offered by government-sponsored enterprises such as Fannie Mae and Freddie Mac; corporate capital loans known as commercial paper; non-collateralized negotiable certificates of deposit; collateralized loans known as repurchase agreements; and shares in money market funds operated by investment companies such as Vanguard and Fidelity.

With the exception of the mortgage-backed securities, all investments have time limits for how long a government can hold them, between 180 days and three years. All the instruments must be highly rated by at least two nationally recognized credit-rating agencies, such as Moody’s, Standard & Poor’s or Fitch.

Those investment rules also now apply to state-based investment pools such as the Pennsylvania Local Government Investment Trust. Created in 1981, the trust holds more than $3 billion in investments for 2,900 local governmental entities and is managed by one of the state’s largest financial investment companies, Public Financial Management.

If used wisely with a diversified investment portfolio, the law should be relatively safe, said Lou Gattis, a finance professor at Penn State University’s Smeal College of Business.

“However, more choices does create the possibility of greater confusion and misuse,” he said.

The confusion and misuse, he warned, would arise if local officials do not understand what they are buying or try to double down on losses.

“Many colossal losses start with small losses that are hidden, held too long, or made worse by ‘doubling down’ to recover the losses,” Gattis said.

There is no gauge for how many local governments may opt for the new investments, said Chris Cap, executive director of the state Association of Boroughs.

“Yet many are inquiring about their benefits and consulting with their investment advisers on the local level,” he said.

In using the new law, local officials should keep in mind the 2007-08 financial crisis, said Anne-Marie Anderson, a professor of finance at Lehigh University in Bethlehem. That crisis was caused by poor risk management by professional financial people who were more interested in turning a profit than in minimizing market exposure, she said.

“If the school board buys what the trader is selling without doing their due diligence or without setting up an oversight committee, they run the risk of buying junk,” Anderson said.

But Doug Hill, executive director of the County Commissioners Association of Pennsylvania, sees no downside in the law. It simplifies and unifies the investment rules for all local governments, he said. The law’s safeguards, he said, will ensure taxpayers are protected.

The law was needed to level the investment playing field among government units, said Dave Sanko, executive director of the Pennsylvania State Association of Township Supervisors.

“In the period of ongoing low interest rates and rates of return for investments, this provides another tool for communities to earn a little extra interest to avoid property tax [increases],” Sanko said.

The communities that opt to use the law, Sanko added, will only make about two-tenths of a percent more on interest. On a $1 million investment, Sanko said, that equates to about $2,000 in earnings in a climate where every little bit counts to avoid tax increases.

The change in the law was suggested by community bankers and officials at the trust to give local governments more investment options, said Rep. Kate Harper, R-Montgomery, the bill’s primary sponsor. Since the market crash in 2007-08, she said, interest rates have been so low, no one, including government, is making enough money on interest to help cover expenses.

“No one’s made money since 2008,” Harper said. “The idea is to recognize where local governments could invest.”

The law also has built-in protections, she said, such as time limits and credit reports of the investments. In addition, she said, the law does not permit all of the investment instruments bankers and the trust wanted, such as derivative swaps.

Swaps, legal under a 2003 law, are layered on top of variable-rate bonds. They are private contracts with investment banks that call for bond issuers and banks to bet on interest rate swings.

Used appropriately, swaps are hedges against potential increases in the interest rate of the underlying bonds. Used inappropriately, swaps become speculative tools that can over-leverage risk, as the Bethlehem Area School District found out when the mortgage and credit crises hit and taxpayers got crushed with skyrocketing interest payments. The district took out 17 swaps — the most of any school district in the state — between 2003 and 2009, and most have since been unwound at significant contract cancellation fees.

Swaps also are used in the banking and corporate finance world for some of the investment instruments listed in Act 10, such as negotiable CDs, bills of exchange and commercial paper.

But there is little chance financial advisers can use the 2003 law to layer a swap onto any of the Act 10 instruments, said Bruce Rader, a Temple University finance professor. The reason, he said, is that most of the Act 10 instruments carry short investment time frames, while swaps are typically put on bonds that have decades-long maturity dates.

Lawrence J. White, a New York University economics professor, agreed. The law seems safe, he said. If taxpayers get fleeced, the problem is not with Act 10, he said, it’s with the lack of vigilance of local elected officials.

Local elected officials and their business managers do not have to be financial experts to handle the law, White added. They just have to know how to recognize the good financial experts from the bad ones, and that usually entails a cost, he said.

“Sorry, but expertise requires a price,” White said.

And trust is not enough.

“There is a man,” White said, “named Bernard Madoff.”

And another named John Gardner Black.

Black, a small-time financial adviser, traveled Pennsylvania, from the Lehigh Valley to Lancaster to Butler County, selling school districts a bag of financial goods during Wall Street’s technology investment bubble in the 1990s. His sales pitches, short on specifics and long on investment promises, were too good to be true.

In 1997, the Securities and Exchange Commission, during a routine audit, discovered Black was running a Ponzi scheme with $233 million in taxpayer money. The SEC said Black was giving school officials fraudulent invoices and other records that hid $71 million in investment losses and expenses. Black pleaded guilty in 2000 and got three years in prison for what was at the time the largest taxpayer fraud in state history.

Black’s crimes went unnoticed for years because school officials did not ask the right questions and trusted his unbelievable claims on return rates, said Knade, of the school boards association. The saga, he said, highlights the need for elected officials to become knowledgeable of the complicated financial instruments they might be asked to consider.

The Black case can serve as a guide, he said, adding, “Someone once told me if someone guarantees you a rate of return, run the other way.”

The Morning Call

By Steve Esack

steve.esack@mcall.com

Twitter @sesack

717-783-7305

ACT 10 TIPS

Financial experts caution local governments to proceed carefully with the investment options that became available under a new law Tuesday.

• Diversify holdings across issuers, maturities, industries to ensure risks are not concentrated.

• Don’t invest in any security you do not understand, especially if your adviser cannot easily explain the benefits and risks.

• Ensure the security meets investment objectives such as liquidity, income, growth, safety and time frame.

• Beware of securities that look too good.

• Understand that securities that offer high yield have higher risk.

• Communicate risks to stakeholders with periodic risk reports and open discussions.

• Don’t hide investment losses or double down on them.

Source: Lou Gattis of Penn State University’s Smeal College of Business

Copyright © 2016, The Morning Call

Central to understanding risk is a concept called the “flaw of averages”—the idea that a single average number obscures the variation in the data. In “A Financially Resilient Organization is a Risk-Aware Organization,” a session at today’s annual conference in Toronto, Malisa Files and Sam Savage discussed uncertainty in financial planning. They pointed out that understanding potential variation from your average is key to understanding risk because you need to know how likely it is that your actual experience will come in under or over your estimate.

Files and Savage showed a model under construction by the City of Redmond, Washington, that is designed to help make the audience for the city’s forecast more aware of risk and better able to make decisions about resource allocation.

If you missed this session, you can see an article about this topic in the April 2016 issue of Government Finance Review.

Sunday, May 22, 2016

For the second year in a row, GFOA hosted a luncheon for school districts to discuss GFOA’s best practices in budgeting for school districts. This year’s event featured four school districts – Portland Public Schools, Dayton City Public Schools, Upper Moreland Township School District, and Atlanta Public Schools – that have been on the journey toward optimizing the alignment between their limited resources and their student achievement goals. The districts discussed some of the challenges they faced, including the difficulty of prioritizing the many different, yet worthy, goals that their districts could pursue; changing the budget in a political environment; and grappling with limited resources. They also described the successes they’ve achieved, such as creating a partnership between the finance and academic offices; changing the tone of the budget the conversation to emphasize the effect of budget decisions on children; and building a team within the district to carry this work forward.

Learn more about the best practices for school budgeting at www.gfoa.org/school-budgeting. You can also visit SmarterSchoolSpending.org for case studies, tools, and templates to help you implement the best practices.

Monday, May 23, 2016

Washington, DC, May 26, 2016 – Today, SIFMA hosted a roundtable on Social Impact Investing with industry experts and Members of Congress. The event fueled a discussion between the financial services industry and Members of Congress, on the role of America’s capital markets in creating and funding programs designed to improve local communities. The event was held on Capitol Hill and participants included Kenneth E. Bentsen, Jr., president and CEO of SIFMA, as well as Representatives Tom MacArthur (R-NJ), John Delaney (D-MD), Tom Reed (R-NY) and Jared Polis (D-CO). Industry participants included Audrey Choi, CEO, Institute for Sustainable Investing, Morgan Stanley; Stephen Freedman, Head of Thematic and Sustainable Investing Strategy US, UBS; and Navjeet Bal, Executive Vice President & General Counsel, Social Finance.

“Social impact investing is an innovative way to fund programs that fulfill a societal need. Discussions like today’s roundtable highlight the need for continuing dialogue between the public and private sectors in advancing social impact investing projects, as more communities turn to the capital markets to finance projects that have positive societal impact,” said Kenneth E. Bentsen, Jr., president and CEO of SIFMA.

The roundtable emphasized the role of America’s capital markets in enabling programs to improve local outcomes and help communities combat the challenges of long-standing problems such as poverty, pollution, and other social needs. The roundtable also provided an update on recent projects, results, and trends, as well as an outlook for the sector.

Participants discussed Social Finance’s Pay for Success Programs, such as the Nurse-Family Partnership in South Carolina and the Connecticut Family Stability Project; and Morgan Stanley’s underwriting work for Sustainable Neighborhood Bond, which funds affordable housing in New York, and its Investing with Impact Platform and Sustainable Investing Portfolios, which allow investors of all sizes to invest with impact, making scale in the social finance market possible.

Audrey Choi spoke to how social finance is not only good for communities but can be profitable, among other examples citing a new gender diversity investment framework from Morgan Stanley’s Sustainable + Responsible Investment (SRI) and Global Quantitative Research teams which recognizes that companies with greater gender diversity can have improved performance. Stephen Freedman discussed UBS-commissioned report by CIO Wealth Management Research, “On the Road to Parity: Gender lens investing.”

Social impact investing is the investment of funds to opportunities or companies that have desirable environmental, governance or social factors, and is related to social finance. This involves the use of financial assets or instruments to fund projects that have a positive social or environmental impact.

While the idea of social impact investing started in the mid-1960s, it has traditionally represented a relatively small part of the market. However, from 2012-2014, U.S. based socially responsible assets under management almost doubled, from $3.74 trillion to $6.57 trillion. In addition, estimates project that social impact investment opportunities could constitute a $10 trillion market by 2050.

Social finance programs commonly include the issuance of social impact bonds, or the design of Pay for Success programs, which involve public-private partnerships between private investors and public sector entities to achieve socially beneficial outcomes.

SIFMA plans to host its next congressional roundtable on cybersecurity on June 9 at 1pm, followed by a Biotech roundtable on June 23.

Release Date: May 26, 2016

Contact: Carol Danko, 202-962-7390, cdanko@sifma.org

A new report says the fees pension plans pay private equity and hedge fund managers aren’t worth it.

The fees public pension plans pay Wall Street money managers — some of which go unreported — have come under increasing scrutiny in recent years. It’s estimated that disclosed and undisclosed fees cost public plans upwards of $20 billion annually, according to the author of a new study.

That’s a big dollar amount when you consider that public pension plans’ collective unfunded liability is a little over $1 trillion. So far, just a few state plans have been trying to get a handle on these fees. One of them, the California Public Employees Retirement System (CalPERS), reported late last year that it paid $3.4 billion in undisclosed fees over the past 25 years on $24 billion in total investment earnings. CalPERS is the nation’s largest retirement system.

Jeff Hooke, a consultant for the right-leaning Maryland Public Policy Institute, estimates in the study that Maryland’s public employees’ plan paid $500 million in 2014 — twice as much as it reported for that year. Hooke said that if other states’ hidden fees are similarly underreported, the total fees pensions actually pay could be as much as $20 billion annually. “And that’s just for states — forget about all the counties and cities,” he said, “which could easily add another 25 percent to that.”

At issue are so-called performance fees, which private equity and hedge fund managers charge plans for any profits they generate. Pension plans generally disclose management fees but have avoided reporting performance payouts because they weren’t required to under accounting rules and because they’re hard to calculate.

Now states are looking to bring these fees under control. Kentucky took a step in that direction last year when it revised its reporting policy to include more transparency on private equity fees. In 2015, the first year of the policy, the Kentucky Retirement System estimated it spent $108.3 million in fees — a 75 percent increase over the amount reported in 2014.

Similarly, New Jersey and South Carolina also revamped their fee reporting. Since 2007, fees in South Carolina have gone from $39 million to $468 million, an increase the system attributes to better reporting. New Jersey’s pension system recently announced it paid outside fund managers $328.4 million in performance bonuses last fiscal year, on top of nearly $400 million in management fees.

Rooting out the true cost of private equity and hedge funds isn’t just about transparency. It’s also about making sure the high costs are worth the investment. Hooke argues that, at least in Maryland’s case, it isn’t. According to data from Boston College’s Center for Retirement Research, the Maryland public employees’ plan has underperformed its peers over the past 10 years on its average annual rate of return. State officials, which have butted heads with the policy institute before, defend the fund’s private equity investments, arguing it has earned double-digit returns over the past decade, well above the fund’s total target rate of return.

In South Carolina, Treasurer Curtis Loftis has loudly criticized his state’s pension system’s high fees for similarly meager investment performance compared to other plans. In a report last year to the state legislature, Loftis estimated the pension system would have saved $7 billion in costs over 10 years if it had instead used that money to invest in index funds — low-fee portfolios that replicate the movements of a specific financial market.

One pension fund is actually testing this performance theory. In 2013, the $509-million Montgomery County Employees Retirement Plan in Pennsylvania shifted most of its investments to index funds. The county Board of Commissioners estimated at the time that the move could save up to $1.3 million in annual management fees while potentially improving performance. In 2014, the county fund reported a total 7.7 percent on its investments while paying less than 0.9 percent of its investment income in fees. By comparison, the state public employees’ pension fund earned 6.4 percent on its investments and paid out 11.4 percent of its total investment earnings to money managers.

In Maryland, the policy institute estimates the state employees fund has spent a similar percentage of its investments on fees over the past five years. The institute’s president, Christopher Summers, said he hopes his group’s report will encourage better data in Maryland and elsewhere so that lower-cost investments like index funds might be considered as an alternative.

“There’s still a learning curve on this for public and elected officials,” he said, “so we’re trying to get as many educated as we can.”

GOVERNING.COM

BY LIZ FARMER | MAY 24, 2016

BRADENTON, Fla. ­ Tax­ exempt bonds give municipal issuers a unique advantage in negotiating public­-private partnerships, a factor that some municipal market and legal advocates say should not be overshadowed.

The fact that tax­ exempt financing – the lowest cost of funding ­ is only available in the U.S. can be obscured as industry supporters encourage the broad use of public­-private partnerships to fund large and small projects, they said.

“I’ve tried to make it clear that this is not a pot of gold at the end of a rainbow,” said bond attorney Randall Clement of Bryant Miller Olive, who helped tweak Florida’s P3 legislation earlier this year. “The private sector is in it to basically make a profit.”

A governmental entity must look at the cost of financing and understand the benefits of what it is trying to achieve, while considering different approaches to accomplishing those goals, he said.

The tax­ exempt bond market has adequately financed infrastructure projects for decades, Ben Watkins, director of Florida’s Division of Bond Finance, said at the National Municipal Bond Summit last month.

Watkins said he finds fault with the growing use of P3s based on the European DBFOM design/build­/finance/operate­/maintain model, where a public entity uses a contractual agreement with
the private sector to finance, design, construct, operate, and maintain a project.

“There is no rigorous analysis,” he said, adding that feasibility assumptions of such P3s are embedded in paperwork done by industry insiders and supporters. “The recipient doesn’t care about the cost of financing, they just want the project.”

There are ways to deliver projects using P3s and tax­ exempt financing that provide significant benefits to public agencies, according to Matt Calcavecchia, a vice president at the nonprofit Public Facilities Group in Seattle.

“We could not agree more that the industry insiders have been leading this conversation and focused primarily on the DBFOM model,” Calcavecchia said after reading Watkins’ comments.

“But you must be able to access tax­ exempt bond financing in order to do so.”

Public Facilities Group, a new muni shop that focuses on social infrastructure financing, combines tax­ exempt bond financing with private development experience to significantly reduce the cost of a project, he said.

If the idea sounds familiar, it is.

The platform is similar to one created by the National Development Council called the “American model.”

It uses the private sector’s expertise to design and build a government project, while a private, nonprofit conduit issuer finances the project with tax­ exempt bonds and fulfills operations and maintenance duties over the life of a multi­year contract.

“We can marry those two into a [public­-private] delivery system,” said PFG president John Finke, who helped pioneer the American model at NDC.

PFG, whose executives used to work at National Development, opened in January. The model that Public Facilities Group uses allows the public entity to take over maintenance and operations at any time even as debt is still being paid off, Finke said.

Finke said DBFOM contracts that span 30 years and 40 years often are not in the public’s interest.

“If you go to private financing and private equity, that’s so much more expensive,” he said. “From my point of view, tax­exempt bonds are the most efficient source of project financing. No expensive equity is required.”

Companies in the P3 business want the profitability of a 40­-year contract, and are paid back for
their equity contribution, he said.

“I’ve never seen the private sector being fleeced in these deals.” Finke said. PFG typically structures its deals under the Internal Revenue Service’s Rule 63­20, which allows a nonprofit public benefit corporation to issue tax­exempt debt to finance the private development of a public project through a lease­back arrangement.

PFG can also structure a deal using a 501(c)(3) charitable organization structure.

In its “New American Approach” platform, each project has a single asset and its own board. “Local government has the right to replace that member with themselves or some other entity,” Finke said. “Then they have total control of the entity.”

Finke said his firm’s platform works well for projects costing as little as $20 million.

PFG focuses on social infrastructure such as university housing, police stations and city hall, biomedical research facilities, and hospitals. At this time it is not delving into larger infrastructure projects such as roads, bridges, water and sewer projects, or broadband at this time.

So far, 34 states have adopted legislation allowing P3s to be used by state and local governments, schools and special districts.

The laws typically provide the legal and financial frameworks necessary to pursue the partnerships.

The enabling laws provide “more clarity and certainty” for the private sector to jump­-start the use of P3s, said Clement, who helped develop Florida’s enabling legislation in 2013.

Clement also advised Florida lawmakers earlier this year on tweaking the state’s P3 laws, in part to clarify that the legislation is an alternative to the powers that counties, cities, and special districts already process under state law.

Senate Bill 126, signed by Gov. Rick Scott, revises a number of provisions in the P3 statute and addresses concerns of local governments that believed the P3 law limited their home rule powers, Clement said.

“One of the clarifications of the bill was that it’s supplemental, in essence optional, and doesn’t take away [local government’s] ability or options to do projects,” he said. “It was really intended to clarify that the statute was not intended to erode their home rule powers.”

Florida’s law was never intended to dictate the structure or the terms of a P3 transaction, Clement said, adding that it is designed to provide a consistent framework to process P3 proposals.

Scott also signed SB 124 into law March 30. It temporarily exempts unsolicited P3 proposals from public disclosure until a local government decides whether to pursue the project.

Both bills go into effect July 1.

The Bond Buyer

By Shelly Sigo

May 25, 2016

A new Senate bill could pave the way for the use of public-private partnerships to develop facilities for military veterans.

S. 2958, introduced by Sen. Deb Fischer (R-Neb.) on May 19, would set up a pilot program through which the Secretary of the Department of Veterans Affairs (VA) could enter into up to five P3s to build or modify medical facilities costing at least $10 million or to build or expand VA cemeteries.

State or local agencies, nonprofit organizations, donors and private developers would be eligible to pursue such projects or donate funds to support them.

The bill specifies that one of these projects would involve the design, financing and building of a new ambulatory care center in Omaha, Neb., for which the secretary would be authorized to spend up to $56 million. The VA has expressed interest in building a clinic near an aging hospital in Omaha, reported Omaha.com.

For each project developed under the legislation, the private partner would have to establish a board that would oversee project financing, design and construction. Each board must include a VA employee and a military veteran who is unaffiliated with the department.

The bill has been referred to the Senate Veterans’ Affairs Committee.

This legislation is similar to H.R. 5099, introduced by Rep. Brad Ashford (D-Neb.) in late April, which has been referred to the Health Subcommittee of the House Veterans’ Affairs Committee.

May 26, 2016

On May 25, 2015, S&P Global Ratings published a request for comment (RFC) on its proposed changes to the rating methodology for assigning ratings to U.S. states and territories. The comment period ends on June 27, 2016. This article addresses some likely questions following the release of the RFC.

Frequently Asked Questions

Why is S&P Global Ratings proposing changes to its U.S. state rating methodology?
The purpose of the proposed criteria is to align the pension assessment section of the criteria with accounting changes in Governmental Accounting Standards Board (GASB) 67 and 68, reduce volatility in certain factors, and to use related disclosure to enhance our analysis with a more comprehensive and forward-looking assessment of pension funding discipline. We also propose to revise and expand a few of our rating overrides and rating caps to provide for greater transparency for ratings below the ‘BBB’ category.

How do the proposed criteria differ from the current criteria?
We are proposing changes to our pension assessment and to several rating caps and overrides. Specifically, we propose to revise rating overrides for situations in which a state has weak liquidity and capital market access or a high level of expected future debt and liabilities. The proposal also includes additional guidance for overriding factors related to weak structural budget performance as well as high levels of contingent liquidity risk.

Another key difference is the proposed methodology to arrive at the pension score, although we would continue to analyze many of the same elements as we do today. Under current criteria, we average four indicators to arrive at the overall pension assessment. Under the proposed criteria, we would begin with an assessment of the pension funded ratio and pension funding discipline, as the anchors for the initial pension score. Then we would adjust the initial score in cases where we characterize the state’s unfunded pension liability compared to population or income as extremely large or extremely small. We believe that the core focus on the pension funded ratio and funding discipline provides us with a more forward-looking measure of a state’s potential future liability challenges.

How do the proposed criteria assess pension funding discipline?
We believe a commitment to funding annual contributions that address the long-term pension liability is a key credit consideration. Our existing criteria assess a state’s historical track record of meeting its annual required contribution. However, the new GASB accounting standards no longer define an annual required contribution and reported required contributions will vary based on funding policy.

Therefore, in addition to our analysis of a state’s funding policy and track record, we are proposing to use additional disclosure provided by new GASB standards to evaluate whether plan contributions usually cover certain accrued annual costs, to offset annual growth in the liability and avoid negative amortization, as well as make some progress in funding the estimated liability over time. Specifically, we propose to analyze whether total annual plan contributions are usually sufficient to cover the aggregate annual plan service cost, as well as an annual interest cost and amortization cost component. We assume that there is some amount of likely funding progress if the annual plan contributions cover (1) the present value of benefits earned by participants in the year, (2) a portion of the annual interest cost related to pension liabilities unmatched by plan assets, and (3) some amortization of the beginning unfunded pension liability.

We recognize that actuarial assumptions vary across plans. Therefore, we also propose to assess certain pension plan management characteristics and actuarial assumptions. What we view as particularly conservative or aggressive assumptions or management practices could influence our view of pension funding discipline.

What will be the rating impact? Will there be any changes to U.S. state ratings as a result of the proposed criteria?
We maintain ratings on all 50 U.S. states and two territories. Our testing suggests that there will be no rating changes as a result of the revised criteria.

Where can I get more information on the proposed criteria?
The RFC, “U.S. State Ratings Methodology,” is on RatingsDirect and on www.standardandpoors.com. Further information will be provided via a webcast on June 7, 2016. Please see https://www.spratings.com/en_US/topic/-/render/topic-detail/u-s-states for relevant links to register for the webcast.

How long is the request for comment period? How do I submit comments on the proposed criteria?
We encourage all market participants to submit written comments on the proposed criteria by June 27, 2016. Please send your written comments to https://www.standardandpoors.com/en_US/web/guest/ratings/rfc. Once the comment period is over, we will review the comments, potentially adjust the proposed criteria to reflect relevant market input, and publish the final criteria. The final criteria will be effective immediately upon publication.

Only a rating committee may determine a rating action and this report does not constitute a rating action.

Primary Credit Analysts:

John A Sugden, Tallahassee (1) 212-438-1678;
john.sugden@spglobal.com

Robin L Prunty, New York (1) 212-438-2081;
robin.prunty@spglobal.com

Sussan S Corson, New York (1) 212-438-2014;
sussan.corson@spglobal.com

Criteria Officer, U.S. Public Finance:

Liz E Sweeney, Annapolis (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:
Russell J Bryce, Dallas (1) 214-871-1419;
russell.bryce@spglobal.com

S&P Global Ratings is requesting comments on proposed revisions to its methodology for rating United States state governments and territories. The proposed updates better align our criteria with new pension reporting and disclosure, and provide additional transparency and guidance with respect to potential caps and adjustments to the rating. “Rating” refers to the rating assigned to general obligation (GO) debt of U.S. states and territories or the issuer credit rating if no GO debt is outstanding. If the proposed changes are adopted, the new criteria will fully supersede “U.S. States Rating Methodology,” published Jan. 3, 2011.

Continue reading.

25-May-2016

Read the Report.

By Analytical Services Division on May 20th, 2016

Social impact investing is commonly used to describe the direction of investment funds to opportunities or companies that have desirable environmental, governance or social factors (also called ESG investing), and is related to social finance, which involves the use financial assets or instruments to fund projects that have a positive social or environmental impact.

Read the Fact Sheet.

May 24, 2016

Fitch Ratings’ announcement that it will pull its ratings on tobacco bonds sold by U.S. states and local governments was not shaking up the market for the high-performing debt on Tuesday.

Billions of dollars of bonds are backed by money from U.S. tobacco companies under a 1998 master settlement agreement (MSA) to compensate 46 states, Washington D.C., and Puerto Rico for the cost of caring for sick smokers.

Fitch on Monday said that recent side agreements between several states and tobacco companies that did not participate in the MSA regarding disputed payments “have eroded Fitch’s confidence in the predictability of the calculation of MSA payments going forward.”

The tobacco sector has not seen much negative movement since Fitch’s announcement, said Chris Taddoni, vice president of municipal evaluated bonds at Markit.

The number of price quotes observed by Markit has remained consistent this week, suggesting that Fitch’s action “is not having a huge effect on the market.”

States have received more than $50 billion so far under the MSA, according to the National Association of State Attorneys General, which manages the agreement.

Fitch said it will withdraw its ratings on tobacco bonds issued by Ohio, California, Puerto Rico, Michigan, Illinois, New York, and others on June 15. The credit rating agency did not respond to requests for further comment.

Moody’s Investors Service and Standard & Poor’s still rate tobacco bonds.

“I think that perhaps it just doesn’t fit their process,” said John Miller, co-head of fixed income for Nuveen Asset Management, regarding Fitch’s action. “I’m a little bit surprised. It kind of looks like it’s a lack of commitment to doing the analysis.”

He added that tobacco bonds are in their third year of outperformance driven by stabilizing cigarette sales and investor demand for municipal bonds and high yields.

In the first four months of the year high yield tobacco bonds returned 9.4 percent, according to Barclays Capital, nearly three percentage points better than the next sector, transportation, which has returned 6.5 percent for investors.

Yields hit a high of 6.27 percent in some of the $4.5 million traded in Ohio tobacco bonds with a 5.875 percent coupon maturing in 2047 on Tuesday, according to the Municipal Securities Rulemaking Board.

Dick Larkin, credit analysis director at Stoever Glass & Co, concurred with Fitch’s decision.

“So many side settlements, side negotiations and agreements that affect only handfuls of states have made forecasting issuer settlement payments totally unpredictable,” he said.

REUTERS

NEW YORK/CHICAGO | BY HILARY RUSS AND KAREN PIEROG

May 17, 2016 5:58pm EDT

(Reporting by Hilary Russ in New York and Karen Pierog in Chicago; Editing by Daniel Bases and Chris Reese)

FRESNO, Calif., May 17, 2016 (GLOBE NEWSWIRE) — MuniServices, LLC, a business of PRA Group (Nasdaq:PRAA), in partnership with the California City Management Foundation (CCMF) and Saddleback College, will offer aspiring municipal leaders an opportunity to learn about strategic financial administration through the newly formed Municipal Financial Management Certification Program.

“Working intimately with municipal entities, MuniServices is keenly aware of the unprecedented pressure our public agency partners face on a daily basis to manage finances effectively,” said Julia Erdkamp, program chair and client services manager for MuniServices. “The Municipal Financial Management Certification Program is about empowering agencies to meet these growing challenges by providing current and future leaders with the knowledge and tools to navigate the complex terrain of local government finance.”

Designed for staff, analysts and managers currently working within local government, the five-course program will be offered through a series of web-based and in-person classes. Course offerings will include tax policy and revenue streams, accounting and budgeting, strategic financing, and leadership.

Through the program, students aspiring to leadership positions in local government will learn the ins and outs of municipal finance, giving them the tools and skills municipal leaders use each day to maintain fiscal accountability and control over department and program spending.

While these tools are essential for municipal leaders, a primary goal of the program is to teach government finance and leadership best practices that students can observe, understand and apply in their jobs.

Creation of the program is made possible by the partnership of the CCMF and Saddleback College, and the critical support of the Municipal Management Association of Southern California (MMASC). The CCMF provides access to key senior talent within the California city manager ranks. Saddleback College provides the academic rigor, course delivery platforms and educational expertise to ensure the program delivers on its promise of education.

“The California City Management Foundation is dedicated to supporting retired, current and future city managers throughout the state,” said CCMF Executive Director Ken Pulskamp. “Managing the finances of a city is no easy task and will likely become even more complicated over time. This partnership with Saddleback College is a perfect opportunity to assure that the next generation of leaders has the skill set needed to meet financial challenges head-on.”

“Saddleback College is proud to partner with MuniServices and CCMF to provide such a crucial program to local government agencies,” said Israel Dominguez, director of economic development and workforce development at Saddleback College. “Expanding the knowledge of decision makers in local government is truly a win-win that benefits the students and the communities they will go on to serve. It is exactly the kind of role that a community college can fill.”

To learn more about the program, express an interest in participating, or to indicate an interest in teaching, visit www.muniservices.com/education or email Julia Erdkamp at education@muniservices.com.

MuniServices is one of the few firms in the United States offering the full suite of revenue enhancement services including revenue discovery, audit, collections and information services, encompassing every municipal tax source.

About MuniServices, LLC

Founded more than 35 years ago, MuniServices, a business of PRA Group (Nasdaq:PRAA), provides revenue discovery, recovery and compliance services to states and more than 1,000 municipalities nationwide with our PRA Government Services, Revenue Discovery Systems (RDS) and Broussard Partners & Associates (BPA) brands. Our efforts have resulted in reduced administrative costs and the identification of more than $2.4 billion in unreported local taxes and fees. For more information, please visit www.muniservices.com.

About PRA Group

As a global leader in acquiring and collecting nonperforming loans, PRA Group (Nasdaq:PRAA) returns capital to banks and other creditors to help expand financial services for consumers in the Americas and Europe. PRA Group companies collaborate with customers to help them resolve their debt and provide a broad range of additional revenue and recovery services to business and government clients.

PRA has been recognized as one of Fortune’s 100 Fastest-Growing Companies for three years, one of Forbes’ Best Small Companies in America for eight consecutive years, and one of Forbes’ Best Midsize Employers in America in 2016. For more information, please visit www.pragroup.com.

WASHINGTON – The federal government and Congress need to play a more active role in securing infrastructure funding and protecting the tax-exempt status of bonds, said Jim McIntire, Washington state treasurer and president of the National Association of State Treasurers.

In a recent interview with The Bond Buyer, McIntire said that the muni bond market has been hampered due to stresses on state and local budget revenues. As tax reform proposals begin to surface in Congress, he said he wants to remind lawmakers that the nation’s infrastructure, including water and sewer systems, roads and schools are in need of “serious repair.”

“Repairing these systems and maintaining them is not something you can do easily or quickly. It takes a lot of planning and quite a bit of investment,” McIntire said. “It will take planning and broader policy thinking at the federal level.”

“It’s not just local in scope,” he added. “We’re talking about transportation – we all need to get goods across state lines. We have a common interest in getting states and localities to invest, but we need a federal frame for that.”

NAST leaders in February sent a letter to members of Congress urging them to support tax-exempt bonds as a key source of infrastructure funding in the wake of President Obama’s proposed $4.1 trillion 2017 budget that would tax the value of tax exemption at 28%.

NAST senior vice president and Oklahoma state treasurer Ken Miller said in the letter, which had more than 600 signatures from state and local officials as well as organizations, that a cap would place more of an onus on taxpayers to pay for projects in their communities.

“Municipal bonds have long been a vital source of funding for states, cities and counties to pay for essential infrastructure needs,” Miller wrote. “Removing the tax-exempt status of these bonds for select taxpayers would cause a devastating ripple effect.”

McIntire said in the interview that capping the value of the tax exemption for municipal bonds would raise borrowing costs for bond issuers as well as costs for taxpayers on state and local government projects. State and local governments also would have to use revenue from sales and property taxes to fill that gap, he added.

McIntire said there is broad bipartisan consensus among his fellow state treasurers around the issue of protecting the tax-exempt status of municipal bonds.

“Three-quarters of infrastructure in this country is financed by state and local governments and we are a major player in that,” he said. “Almost all of that is financed with municipal bonds.”

McIntire made his remarks just before the start of Infrastructure Week on Monday, which includes a series of panels, initiatives and other events across the country that highlight the importance of funding infrastructure projects.

The event has more than 100 government, business and labor affiliate organizations, including the muni bond advocate group Municipal Bonds for America, as well as dealer groups Bond Dealers of America and the Securities Industry and Financial Markets Association.

The theme for this year’s Infrastructure Week is “Infrastructure Matters”, with an emphasis placed on “roads, bridges, rails, ports, airports, pipes and the power grid,” according to the event’s website.

One positive for infrastructure is that Flint, Mich., which has been plagued by a water crisis for more than two years, may be aided by the Water Resources Development Act of 2016, which was passed by the Senate Environment and Public Works Committee last month. The bill, which is still pending in the Senate, would provide $1.4 billion of federal funding over the next five years to “small and disadvantaged” communities comply with the Safe Drinking Water Act.

The Flint provisions had originally been included in the long-stalled Senate energy bill, but were removed in April.

Sen. Mike Lee, R-Utah, had placed a hold on the energy bill because of concerns the Flint provisions would prove too costly, suggesting instead Michigan tap into its $386 million in rainy day funds or its $575 million surplus from 2015 rather than seek federal funding.

McIntire lauded the five-year Fixing America’s Surface Transportation Act that was enacted in December, but said federal leadership is still needed on how to finance transportation systems that can no longer be solely reliant on a gas tax because it has flattened or declined on a per capita basis.

Rural areas, he said, oftentimes don’t have the rate base to afford, maintain and upgrade water systems. Older urban areas that have not experienced much economic prosperity or growth may also lack the necessary tax base rate to make necessary infrastructure improvements, he added.

Rapid growth areas like Seattle in McIntire’s state have their own set of infrastructure challenges that require tax-exempt financing. Washington had a population increase of roughly 150,000 people last year, many of whom moved in from out of state, which places more of a burden on state schools and roads.

“That’s like adding another small city,” he said. “It’s about keeping up with those needs.”

The Bond Buyer

By Evan Fallor

May 16, 2016

Thanks to newly enacted legislation signed into law late last month, Tennessee may be one step closer to solving a critical problem facing residents and officials in Middle Tennessee: How to solve Nashville’s growing traffic congestion.

An estimated 80 to 100 people are moving to Nashville each day. That is good news to private developers who continue to pour money into the area to meet the demand created by the rapid growth. Many of those people moving to Nashville want to live close to where they work or attend school. In Nashville, that typically means living somewhere between Downtown, the West End, and Green Hills—ground zero for Nashville’s traffic congestion.

Most public officials who have looked at the traffic problem in and around Nashville agree more roads and bridges are not necessarily the answer. Nashville’s Metro Transit Authority has been studying the issue for years and recently released several options being considered. Those options range in price from an estimated $5.4 billion down to $800 million. And those options all look at solving the problem with mass transit. While most all public officials and their consultants agree mass transit is the best way to solve the growing traffic problem, they also agree funding that solution is likely to be the biggest challenge. That is where the “Public-Private Transportation Act of 2016” steps in.

The new law authorizes agencies to pursue public-private partnerships (referred to as “Public-Private Initiatives” under the act) for mass transit and other related projects. The law was first introduced in January 2016, was signed into law by Gov. Haslam in late April, and becomes effective October 1, 2016. Once implemented, the law will allow the private sector to participate in the development of mass transit projects and, hopefully, provide a creative solution which avoids asking the tax payers to foot the bill through tax revenues.

Under the new law, agencies can either solicit competitive bids or proposals for a project or even receive and consider unsolicited proposals for certain transportation related projects. In the event an unsolicited proposal is received, the public entity will be required to take several steps, including advertising for competitive proposals for the same project.

Under Tennessee’s law, a Public-Private Initiative is an agreement between a state, county, or municipality (including agencies or authorities created by those entities) and a private entity whereby the private entity contributes equity, shares resources, or assists in the development of a transportation facility. The law, however, defines a “transportation facility” in such a way that it prevents highways, bridges, and tunnels from being funded by Public-Private Initiatives.

One question raised by several early Public-Private Partnership statutes was whether projects built under the enabling statute would be considered public or private under other laws like the states “little Miller Act” and mechanic’s lien laws. That question was raised in several states where a private entity developing a similar project defaulted on payments to contractors hired to build the project. The problem is that when a developer defaults on a private project, the contractors can assert a mechanic’s lien to recoup their costs incurred for building the project that the defaulting developer is unable to pay. Those liens, however, are generally not available on a public project or only extend to payments the public owner owes and has not yet made to its general contractor. Therefore, public entities generally require general contractors on public projects to post payment bonds which ensure contractors performing the work will be paid in the event the general contractor defaults. On this issue, Tennessee joins the majority of states who have recently enacted these laws by requiring private entities participating in a Public-Private Initiative to post both payment and performance bonds.

Ultimately, the new law gives public entities a way to fund mass transit and related projects (e.g., parking facilities, utilities, and related projects to support mass transit projects) without using tax dollars. At the same time, the new law creates opportunities for private investors and developers looking to invest in Nashville’s growth. Following the lead of at least 33 other states, including, most recently, Kentucky, Tennessee lawmakers believe Public-Private Partnerships will offer a solution to the traffic problem without dipping too deep into the public coffers.

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.

Article by Zachary D. Jones

Last Updated: May 12 2016

Stites & Harbison PLLC

They no longer can count on Washington or their states. They need the authority to find creative local solutions.

As the infrastructure deficit grows in our cities, so do questions about how to pay for these critical systems. Funding from the federal and state levels is uncertain at best, placing increasing pressure on local governments to take the lead. But political realities coupled with unequal access to local revenue tools means some don’t have the authority they need to answer the call.

In April, for example, voters in Pulaski County, Ark., rejected a quarter-percentage-point sales tax increase that would have been the area’s first tax dedicated to transit, projected to raise $18 million annually for bus-service expansion and the creation of bus lanes. The proposed tax drew widespread support within the city of Little Rock, but not in other parts of the county.

Local governments in Arkansas are among those in 29 states that are permitted to levy a local-option sales tax. But even where that authority is granted, additional limitations on these powers stand in the way. Voter approval is just one implementation hurdle states impose on their cities. Others include rate caps and matching requirements that restrict the ability of cities to meet growing infrastructure demands.

The infrastructure funding relationship that cities have with their states is a complex one. Declining state gas-tax revenues have made state programs and funding to cities increasingly unreliable. Some states are even diverting dedicated gas-tax revenue to balance their state budgets or raiding local revenues to help fill their own maintenance funding gaps. In the rare instances where states have budget surpluses, as in Minnesota, lawmakers are favoring one-time spending increases on transportation over permanent tax increases.

State spending priorities, both for state capital program and infrastructure grants to cities, are often not aligned with city needs or priorities. For example, in New Hampshire, the state implemented a moratorium on aid grants for water and sewer projects even though cities had already completed some of the projects with the intention of using state grants to help retire bond payments.

In short, local governments’ access to revenue-raising tools is highly uneven across the country. Our new report, “Paying for Local Infrastructure in a New Era of Federalism,” examines the wide variance: While 29 states authorize local-option sales taxes, for example, only 16 allow local-option fuel taxes. Twenty six states allow local-option motor-vehicle registration fees. Thirty-two states authorize public-private partnerships, and 27 have state infrastructure banks.

The way these tools work in each jurisdiction is very much dependent upon the political nuances, demographic makeup and the types of challenges specific to each city. The political landscape in many states is also antagonistic toward cities, particularly for new local taxes and transit projects that are perceived only to serve certain constituencies.

When paying for infrastructure becomes entwined with these sentiments, it is even more evident that cities and their local partners must find other ways. Cities with access to a state infrastructure bank, like those in California, are finding success, but often these banks are restricted to particular uses and particular cities within a state — if they are funded at all.

As a result of the limited options available to cities, some are exploring riskier ways to fund infrastructure, including direct loans and pension obligation bonds. Some are turning to smart-city technologies to increase efficiencies and decrease costs, and others are looking to unlock the value from underutilized assets like parking, lighting and obsolete payphones.

The reason cities are experimenting with a patchwork of new and traditional tools and approaches is because they have to. More funding from federal and state partners would certainly be welcomed. Even more pressing is the need for greater communication and alignment of priorities between levels of government, along with the local authority to implement creative solutions to closing the infrastructure deficit.

GOVERNING.COM

BY CHRISTIANA K. MCFARLAND, NICOLE DUPUIS | MAY 20, 2016

The trend of local governments only seeking out one credit rating for bonds is growing. Now, one in five bonds issued in the municipal market has just a single credit rating assigned to it, according to data from Municipal Market Analytics (MMA).

This can be attributed to several factors. For one, fewer individual investors — the biggest users of credit ratings information — are directly purchasing muni bonds, so the demand for multiple ratings has lessened. Also, agencies are increasingly giving different ratings to the same bond, which “undermines the notch-by-notch value of individual rating assignments,” said MMA analyst Matt Fabian.

Along with this trend is another one: A significant portion of municipal issuers are worse off than they were at the end of the Great Recession. By the measure of PNC Capital Markets analyst Tom Kozlik, 20 percent of state and local governments have seen their underlying credit quality decline — some significantly so.

Kozlik blames this on one key fact: governments’ inability to balance their revenue and spending to live within their means. “Also,” Kozlik adds, “some state and local governments still have not grasped the scale, costs and risk that pension liabilities and other post-employment benefits still pose to credit quality and fiscal balance.”

The Takeaway: These two trends contribute to the mysterious reputation the municipal market has with outsiders. When even the credit rating experts can’t agree (note Chicago’s three different ratings from four agencies), it’s tougher than ever to generalize about the overall health of state and local governments. But if more of them continue to falter, it will undoubtedly invite assumptions about unsustainable governments everywhere.

GOVERNING.COM

BY LIZ FARMER | MAY 20, 2016

S&P Global Ratings is requesting comments on proposed changes to its methodology for assigning ratings and related credit products to U.S. not-for-profit charter schools (charter schools).

Read the RFC.

May 19, 2016

In this week’s edition, Senior Director Kevin Holloran joins us to provide some insights on innovations and transformations occurring in the healthcare space.

Listen to the podcast.

May 19, 2016

CHICAGO – Municipal industry experts on Thursday urged analysts to continue focusing on how the presence of statutory liens can change the treatment of debt in bankruptcy proceedings and ratings analyses.

The experts discussed liens during a panel at the National Federation of Municipal Analysts’ annual meeting here.

A statutory lien is a provision of a law that gives certain bonds held by investors a higher ranking in a bankruptcy recovery hierarchy than others without such liens. Some states, like California and Rhode Island, have passed laws that explicitly create liens, while the presence of liens for credits in certain other states is still debatable. The possible confusion is compounded even more because the characteristics of statutory liens may differ from state to state.

There is also a question of how special revenue and other pledges compare to statutory liens in terms of protecting bondholders.

The Detroit bankruptcy is one of the more recent events that led observers to question how liens may affect the assessment of debts in bankruptcy proceedings. However, Michigan statutes did not explicitly extend any liens to the debt considered in the Detroit bankruptcy proceedings.

Amanda Van Dusen, a principal with the law firm Miller Canfield, Paddock and Stone in Michigan, said that she didn’t appreciate the significance of the word “lien” in a statute until she talked with bankruptcy lawyers.

“I thought, as most bond lawyers did, that a pledge means a promise,” she said. “The first lesson that the bankruptcy lawyers pounded into me [was] … that a pledge is a promise and in bankruptcy, promises are broken.”

Richard Ciccarone, president and chief executive officer of Merritt Research Service, said that when he was given general obligation bonds that said they were payable from an unlimited tax, he viewed that as a pledge similar to a statutory lien.

“In a way, the pledge that was implied here was something we always believed was really like a common law marriage, you didn’t really say yes to the vow, but you were married,” Ciccarone said. “You may not necessarily find the words ‘statutory lien,’ but you believed it was a statutory lien.”

Judge Frank Bailey, a U.S. bankruptcy judge for the District of Massachusetts, said Ciccarone was partially right because the bankruptcy code’s definition of a statutory lien does not specify that the statute must use the words “statutory” or “lien” in creating one, only that the language match up to the definition outlined in the code.

The panelists also agreed that the lack of bankruptcy court decisions on statutory liens leaves observers with a lack of precedent. Most resolutions where statutory liens are involved come through negotiated settlements. The murky territory that liens currently occupy means industry participants need to talk more about what provisions borrowers may have, Ciccarone said.

“For the analyst still left in a world where [the consideration of statutory liens] is evolving, your responsibilities are going to be more burdensome,” he said. “If [issuers] think they have a statutory lien, we want that to be clear. If they don’t know, we want them to say they don’t know.”

Jane Ridley, a senior director and analytical leader with Standard & Poor’s, both moderated the panel and played a key role in a report released on Wednesday regarding the role of statutory liens in ratings.

The report acknowledged a recent trend, exhibited by Detroit, Puerto Rico, and earlier by Central Falls, R.I. in its bankruptcy proceedings, of legal provisions like pledges becoming less binding after earlier being widely considered unalterable. But it said ratings analysts should continue to rely more on an issuer’s fundamental areas of credit health than the presence of a statutory lien.

For example, the report wrote that if a rating agency was comparing two school districts, one with strong credit fundamentals but no statutory lien and one with weak credit fundamentals but with a statutory lien, “it is difficult for us to imagine a scenario where the latter would carry a higher issue credit rating.”

However, the report said that “the existence of legal protections can inform our opinion of the issuer’s incentive and ability to pay its various obligations.”

“Legal protections, whether in bond documents or by operation of law, can strengthen a bondholder’s recovery prospects,” the report said. “However, we’ve observed that when an issuer’s creditworthiness deteriorates to the point where bondholders’ main comfort is to rely on the legal provisions for payment, the situation isn’t nearly as straightforward as it may have appeared when the bonds were issued.”

The report also was in line with the panelists’ assessments of the lack of legal precedent, arguing that applying legal concepts outlined in negotiated settlements and incomplete case law to all of their ratings is “without analytical merit.”

The Bond Buyer

By Jack Casey

May 6, 2016

Since Chicago was cut to junk by Moody’s Investors Service in May 2015, the city has sold more than $3.3 billion of debt, allowing it to avoid potentially devastating bank penalties triggered by the downgrade, and pushed through a record property-tax increase.

But the triage over the last year has done little to loosen the financial bind that tarnished its standing on Wall Street in the first place: A $20 billion pension-fund deficit that’s adding hundreds of millions of dollars a year to its bills, a legacy of long promising workers more in benefits than officials were willing to fund.

“All of this progress may not mean much if they don’t finish the job,” said Ty Schoback, a senior analyst at Columbia Threadneedle Investments, which holds about $300 million of Chicago debt among its $25 billion of municipal securities. “They need to start finding the money to put into those funds now. Not six months from now. Not 12 months from now. They need to do it now.”

The Windy City, the biggest in the U.S. with a below investment-grade rating, has become a key locus of distress in the $3.7 trillion municipal-bond market, contending with some of the same strains that helped push Detroit into a record bankruptcy three years ago. Reeling from debts that have been building for decades, Chicago’s push over the past year to steady its finances illustrates the difficult way out for cities and states that have saved $1.7 trillion less than they need to cover pensions due in the years ahead.

“We have overcome a large number of hurdles,” Chicago’s budget director Alex Holt said in an interview at City Hall. “It doesn’t mean that there are not some big hurdles that are ahead of us, particularly in the case of pensions.”

Chicago underfunded its retirement system by $7.3 billion in the decade through 2014, city records show, freeing up cash to spend on salaries, roadwork and other routine bills. That’s put it under pressure to set more taxpayer money aside to keep from falling further behind.

The Moody’s downgrade threatened to worsen the city’s financial burdens by exposing it to as much as $2.2 billion in costs to repay floating-rate debt early and call off related derivative trades, which banks had the right to demand. To skirt that, the city pushed through a wave of bond issues as investors demanded yields higher than those on some speculative municipal securities.

It also paid $359 million to scuttle the interest-rate swap contracts, eliminating the risk of having to settle them when money couldn’t easily be raised.

 

“They acted quickly,” said John Miller, co-head of fixed income at Nuveen Asset Management, which oversees $110 billion of municipals and bought Chicago debt after the downgrade. “The rates they’re getting on the new issues that they’ve done are pretty manageable.”

Chicago also showed elected officials are willing to raise taxes to chip away at the debts. With support from Democratic Mayor Rahm Emanuel, who was re-elected to another four-year term in April 2015, the city council in October voted to boost real-estate levies by $543 million over four years, the biggest jump ever.

The increase will bolster funding for two of its funds, the police and fire pensions, which were only about a quarter funded as of December 2014. Even so, Emanuel has petitioned Illinois Governor Bruce Rauner to let the city put off about $845 million of pension payments it’s supposed to make over the next five years, which would add to future bills. Rauner has until May 31 to approve that law, which would give the city 40 years — instead of 25 years — to make its retirement plans 90 percent funded.

 

Even with the property-tax increase, the pension obligation is poised to grow each year and the city has little power to alter benefits. In March, the Illinois Supreme Court dashed Emanuel’s plan to cut cost of living adjustments and require workers and the city to pay more into the municipal and laborers pensions.

“We acknowledge the steps that the city has taken over the last few months,” said Matthew Butler, Moody’s lead analyst on Chicago. “The path to improving the pension situation is likely going to be on the city. It’s going to be increasing contributions to those plans.”

The city is working to come up with a new way to shore up the pensions, including how to raise revenue, according to Chief Financial Officer Carole Brown. The municipal and laborer plans are on track to run out of money in 10 and 13 years, respectively. If they do, more than half of the budget could be devoted to retirement bills, according to Moody’s.

Any overhaul may prove politically difficult. Sixty-two percent of Chicago residents disapprove of Emanuel’s job performance, according to a survey by the New York Times and the Kaiser Family Foundation released this month. The mayor’s standing has been weakened since last year’s release of a video showing a white police officer shooting a black teenager 16 times, which sparked protests decrying the law-enforcement tactics used in Chicago’s minority neighborhoods.

The ongoing financial uncertainty has pushed investors to demand high yields to hold Chicago’s bonds instead of top-rated debt, even though the city’s borrowing costs have dropped amid a rally in the municipal market.

Chicago bonds issued two weeks after the Moody’s downgrade that mature in 2037 priced to yield 5.77 percent, data compiled by Bloomberg show. By contrast, investors demanded just a 4.88 percent rate on a portion of the city’s January bond offering due in 2038.

Those bonds still trade at a higher rate than debt issued for an upstart methanol plant in Texas, a fertilizer facility in Iowa and even some junk-rated tobacco bonds, which Moody’s projects to almost-surely default. Chicago’s city council on Wednesday approved selling an additional $600 million of general-obligation bonds, an issue that’s set to come to market in the third quarter.

The volatility that rattled bondholders after last year’s downgrade is likely to be more muted, said Nuveen’s Miller.

“The move last summer was the big one,” said Miller, who may buy more Chicago debt. “You have to be prepared for bumps in the road on a credit like this, but I don’t think they’ll be 200 basis point moves, and you can earn a decent amount of yield along the way.”

Bloomberg Business

by Elizabeth Campbell and Brian Chappatta

May 18, 2016 — 2:00 AM PDT Updated on May 18, 2016 — 11:22 AM PDT

Fitch Ratings plans to withdraw its ratings on all tobacco bonds in the $3.7 trillion municipal market in 30 days because the company doesn’t believe future payments from cigarette makers can be predicted reliably.

Two settlements, one with New York and another with California and 23 other states, modified calculations outside of the original parameters prescribed as part of the 1998 settlement with Reynolds American Inc., Lorillard Inc. and Philip Morris USA, Fitch said Monday in a report. Under the pact, the companies agreed to make annual payments to states in perpetuity to settle liabilities for health-care costs tied to smoking. The amount was distributed according to allocation percentages.

“There was historically a single, consistent application of the calculation adjustments that affected all participating jurisdictions in the same way,” Fitch analysts Steven Stubbs, Rodney Pelletier and Kevin Duignan wrote. “However, more recent settlement agreements related to disputed payments connected to the non-participating manufacturer adjustment have eroded Fitch’s confidence in the predictability of the calculation of MSA payments going forward.”

In October, New York Attorney General Eric T. Schneiderman announced a settlement that releases money from an escrow account to the state, counties and New York City. The funds had been withheld since 2003 because of a dispute surrounding the 1998 settlement. Going forward, 90 percent of previously trapped funds will be released and the state has no risk of losing future annual payments as the result of arbitration proceedings.

Significant Trend

The settlements highlight uncertainty in the $34 billion corner of the municipal market because some states could be vulnerable to an outsized adjustment in cigarette-company payments, Fitch said. High-yield tobacco bonds rallied by the most in nine months after Schneiderman’s announcement.

“The significant trend toward material, and different settlements, the introduction of new variables with little analyzable history, and the incentives in place for additional settlements erode our confidence that a consistently reliable structured finance rating methodology can be applied going forward,” the Fitch analysts wrote.

California’s Golden State Tobacco Securitization Corp. and Ohio’s Buckeye Tobacco Settlement Financing Authority are the two biggest issuers of the debt, data compiled by Bloomberg show. Fitch rated each of the agencies’ single-largest securities CCC, the fifth-lowest grade and worse than the ranks from Moody’s Investors Service and S&P Global Ratings.

In a $55,000 trade on Tuesday, the junk-rated Golden State debt due in 2047 traded at 101.8 cents on the dollar, to yield 3.89 percent, the lowest in a month, data compiled by Bloomberg show. In a $2.78 million exchange, investment-grade California tobacco bonds traded at 121.9 cents, the highest since May 5.

High-yield tobacco bonds have returned 11.2 percent this year, compared with 3 percent for the broad municipal market, Barclays Plc data show. Since the start of 2014, the debt has surged 53 percent.

Bloomberg Business

by Brian Chappatta

May 16, 2016 — 1:37 PM PDT Updated on May 17, 2016 — 6:53 AM PDT

In a municipal-bond market flush with cash chasing the riskiest securities, a new business created to sell propane to American Indian tribes is planning to issue debt that, from the start, is seen only a few steps away from a default.

The venture, set up by a Dallas-based company, is aiming at a problem that’s vexed remote reservations in the Great Plains: winter fuel scarcities, which have led to price spikes and left some impoverished residents unable to heat their homes. The $22 million sale, which is slated for sometime in the next two months, would be used to buy propane when prices are low, store it and truck it in when needed. Revenue from those sales would repay the debt.

Bondholders may be out of luck if the business fails to get enough tribes to sign on, according to Moody’s Investors Service, which said only three had by early May. So it rated the securities Caa2, eight steps into junk, the lowest grade it has given a new bond offering in at least six years. The rank indicates “very high credit risk.”

“Anyone who buys will have had to have done extensive due diligence,” said Peter Block, managing director with Ramirez & Co., a New York bond underwriter that isn’t working on the deal. “Hard to say who will be interested in this.”

Now is a good time to find anyone who is. With municipal-market yields the lowest since the 1960s, investors have been snapping up the worst-rated bonds, which have bigger payouts because of the risk. That has fueled a rally in speculative securities issued by state and local government agencies, including bonds repaid with tobacco-company settlements that rating companies say are almost certain to default.

Individuals added $310 million to funds focused on the riskiest municipal debt in the week ended May 11, the most in about four months, according to Lipper US Fund Flows. With money coming in, the assets of such high-yield funds have climbed to a record $82 billion from $58 billion at the start of 2014, according to data from Morningstar Inc. and Lipper.

The debt for the Infrastructure Development Cooperative’s energy business would be sold through the Madison, Wisconsin-based Public Finance Authority. The agency, which rents out its access to the tax-exempt market for a fee, has raised money for charter schools, real estate developments and other projects in more than a dozen states. Scott Carper, the authority’s program manager, declined to comment.

L. Steven Haynes, the founding partner of Haynes Investments, an affiliate of Highland Park Management LLC — which Moody’s says is overseeing the project — didn’t respond to telephone calls seeking comment. Haynes Investments, which is based in a hangar next to Dallas’s Love Field airport, describes him as “one of the leading business executives in Native American project finance.”

Gabe Doney, executive director of Tribal Infrastructure Development Cooperative, a Valentine, Nebraska, supplier of products and services to American Indians, said in an e-mail that he is Haynes’ partner on the deal. Doney said the group’s goal is to sell the bonds within the next 60 days.

“We are still working toward our bond,” said Doney. “Once we have everything taken care of we would be willing to discuss it.”

The business may fill a chronic need. In winter, those living on reservations are routinely squeezed by propane shortages that push retail prices to unaffordable heights, said Gavin Clarkson, American Indian finance scholar at New Mexico State University.

In 2014, the governors of several states signed emergency declarations making it easier to truck in supplies after a shortage led to at least one death at the Standing Rock Sioux reservation, which straddles the border of North Dakota and South Dakota.

“People can’t afford to heat their homes so they risk freezing to death,” said Clarkson. “It’s a solid business concept, but the question is whether the tribes can execute.”

The business’ ability to generate revenue adequate to repay the bonds is the biggest challenge. Though it identified “significant” demand among 37 tribes, it has only signed agreements with three of the 10 it has targeted as initial customers, Moody’s said in a May 11 report. Borrowing without enough agreements makes the deal “highly speculative,” even though some of the proceeds will be used to cover the first three years of interest payments, according to the credit-rating company.

“The potential exists for significant shortfalls in net revenues,” Moody’s said.

Bloomberg Business

by Darrell Preston

May 20, 2016 — 2:00 AM PDT Updated on May 20, 2016 — 8:41 AM PDT

Financial reporting is a communication between governments and financial report users. The GASB’s goal is to set accounting standards that yield information that users need to assist them in making decisions about a government and to assist them in assessing whether it has been accountable for the resources that have been entrusted to it.

While we believe sound financial reporting helps financial report users to make informed decisions, it is important to note that the GASB always carefully weighs the cost of making changes against the benefit of those changes to users.

Continue reading.

The municipal bond credit report is a quarterly report on the trends and statistics of U.S. municipal bond market, both taxable and tax-exempt. Issuance volumes, outstanding, credit spreads, highlights and commentary are included.

Summary

According to Thomson Reuters, long-term public municipal issuance volume totaled $96.5 billion in the first quarter of 2016, an increase of 26.2 percent from the prior quarter ($76.4 billion) but a decline of 7.3 percent year-over-year (y-o-y) ($104.0 billion). Including private placements ($2.6 billion), long-term municipal issuance for 1Q’16 was $99.3 billion.

Tax-exempt issuance totaled $89.3 billion in 1Q’16, an increase of 32.6 percent q-o-q but a decline of 5.9 percent y-o-y. Taxable issuance totaled $6.4 billion in 1Q’16, an increase of 23.8 percent q-o-q but a 6.4 percent decline y o y. AMT issuance was $0.8 billion, a decline of 79.7 percent q-o-q and 66.3 percent y-o-y.

By use of proceeds, primary and secondary education led issuance totals in 1Q’16 ($24.6 billion), followed by general purpose ($24.4 billion), and higher education ($10.4 billion).

Notable sectors that saw increased y-o-y issuance were water and sewer facilities ($10.2 billion, an increase of 20.0 percent and 7.9 percent q-o-q and y-o-y, respectively) and economic development ($2.3 billion, an increase of 3.8 percent and 26.3 percent q-o-q and y-o-y respectively).

Refunding volumes as a percentage of issuance rose slightly from the prior quarter, with 51.5 percent of issuance attributable to refundings compared to 43.6 percent in 4Q’15, but was a decline compared to the 62.2 percent in 1Q’15.

Read the full report.

May 18, 2016

Long-term U.S. municipal bond prices rose again on Thursday, driving the 30-year yield down 1 basis point to a record low of 2.44 percent, with even some lower-quality deals selling at tighter spreads.

“There appears to be copious amounts of cash around” and “spreads are compressing as investors reach for yield,” said Greg Saulnier, a Municipal Market Data (MMD) analyst. Bond prices move inversely to yields.

Previous record lows, set in November 2012, were 2.47 percent for the 30-year and 1.47 percent for the 10-year. Top-rated long-term munis broke that record on Wednesday and again on Thursday, according to MMD, a Thomson Reuters company.

Though the 10-year yield for triple-A munis rose 1 basis point on Thursday, it still closed just 7 basis points off the record at 1.54 percent.

Investors have poured money into muni bond funds for 32 weeks straight, with $22.1 billion of inflows this year, according to data from Lipper, a Thomson Reuters unit.

The week ended May 11 was the biggest in inflows so far this year, with $1.2 billion.

“This streak is quite amazing given the low levels of municipal rates and ratios, but the risk-adjusted yields on munis are still reasonable given the alternatives,” said Chris Mauro, head of U.S. municipals strategy at RBC Capital Markets.

He will be watching whether bondholders put their money back into the market after their June 1 coupon payments.

“If recent weekly flows are any indicator, the reinvestment could be quite strong,” he said.

Flows into long-term funds have also been near record levels as investors extend duration in an effort to pick up yield, Mauro said.

The last week in April, long-term muni funds had $1.1 billion of inflows, their strongest showing since February 1997.

Investor demand for any yield at all in a global low-yield environment even squeezed spreads on lower credit deals.

On Thursday, the Central Texas Regional Mobility Authority received $2 billion of orders for its $368.7 million offering, making it more than five times oversubscribed, according to MMD.

But a spokesman for Central Texas told Reuters on Friday that the deal got $4.2 billion of orders, meaning it was more than 11 times oversubscribed.

The authority’s senior lien revenue refunding bonds were rated Baa2 by Moody’s Investors Service, a low investment grade rating.

The demand allowed Central Texas to bump prices on its entire deal. The yield of bonds maturing in 2046 with a 5 percent coupon fell 13 basis points to 3 percent.

Reuters

By Hilary Russ

Fri May 13, 2016 4:08pm EDT

(Reporting by Hilary Russ in New York; Editing by Alan Crosby and Matthew Lewis)

Could the almost 6m daily passengers on New York’s subway system prove the unlikely beneficiaries of the ever growing universe of negative-yielding bonds?

It is not as far fetched as it sounds. Foreign investors are buying increasing amounts of the municipal bonds sold by US states and cities to fund public works and infrastructure projects.

The introduction of negative rate policies by the European Central Bank and the Bank of Japan, analysts and investors say, is further sharpening overseas interest in an asset class that historically has been the preserve of US buyers who are not required to pay tax on the income from municipal bonds.

“There is a real demand for yield,” says Christopher Molumphy, chief investment officer of fixed-income at Franklin Templeton. “We’ve had some foreign buying into US municipals, which I was surprised about when I first heard because they don’t benefit from the tax treatment.”

Foreign investors still represent a tiny share of the $3.7tn market. Foreign investors held $85bn of the debt at the end of last year, up from $80bn a year earlier and $29bn in 2005, the latest data from the Federal Reserve show.

However, with almost $10tn of bonds globally carrying negative yields, according to Fitch, and corporate bonds in the US and Europe rallying hard, many expect the buying to accelerate.

“We’re probably in the first inning of the foreign investor game,” argues Mikhail Foux, a specialist in municipal bonds at Barclays in New York. “We’re seeing some money put to work but it is a small portion. Over the next six to 12 months well see more of that happening.”

Fresh foreign buyers are helping to fan an existing rally in municipal bonds that has drawn impetus from a dearth of supply as US cities and states refrain from borrowing.

The yield on 10-year municipal bonds dipped below 1.7 per cent on Wednesday, less than one basis point above a record low touched this February as the asset class was buoyed by the sell-off in riskier assets. Bond yields move in the opposite direction to prices.

The benchmark ten-year US government bond yields 1.73 per cent, a result of the differing tax treatments. By contrast, similar German, French and Swedish sovereign debt offers less than 0.5 per cent, while shorter-dated bonds from the countries carry a negative yield.

Against a backdrop of wider market volatility — and still fragile sentiment towards riskier assets — muni bonds are continuing to lure US investors. Mutual funds and exchange traded funds that invest in municipal bonds have recorded 31 straight weeks of inflows, with $19.5bn of fresh capital pouring in, Lipper data shows.

“Flows have been very heavy,” says Mark Paris, who runs Invesco’s high-yield municipal bond fund. “Supply . . . is now clearly down. The technicals are overwhelming. There have been deals that have been seven-times oversubscribed because so much money has come into the space.”

It is a rally that has made munis expensive, according to Thomas McLoughlin, head of municipal research at UBS Wealth Management Americas, who cautions that interest from foreign buyers is still nascent.
California and New York have been among the borrowers to benefit, with a $1.4bn offering last month from the Golden State attracting “strong bids,” says Alan Schankel, a municipal bond analyst at Janney Montgomery Scott.

However, those high-profile sales stand out as activity has slowed. Sales this year, at $138bn, are more than 10 per cent lower than the same period in 2015 as fewer issuers refinance, according to Thomson Reuters.

Then there is the politics. Despite an improved revenue picture at the state and local level the need to retrench during the financial crisis of 2008- 2009, when states suffered steep losses to their tax bases, has left a hangover.

 

 

 

“There’s a political stigma with taking on more debt,” says Genevieve Nolan, an analyst with Moody’s.
The looming presidential election is also diminishing the appeal of issuance to local and state politicians grappling with pension reforms, new healthcare programmes and — in states such as Alaska, Texas and Oklahoma — the drag on their finances from lower energy prices.

Natalie Cohen, head of municipal research at Wells Fargo, and Mr Foux of Barclays expect supply to climb after the election in November. Constitutional provisions in many states require voters to approve certain debt sales — most often concerning the issuance of general obligation bonds — a point that will be watched by underwriters as state and local elections near.

States and cities lack of appetite to tap the municipal bond market this year comes as the chronic lack of investment in America’s infrastructure climbs up the national agenda as a range of events, including a polluted water scandal in Flint, Michigan and problems with DC’s metro system, force attention on the issue. Presidential frontrunners Hillary Clinton and Donald Trump have called for investment in US infrastructure.
Investors are already casting their attention to potential funding for large projects, like the reconstruction of LaGuardia Airport and multibillion-dollar financing needs of New York’s transportation authority as it constructs its new Second Avenue subway.

If the trend continues, money escaping negative yields in the eurozone and Japan may ultimately help fund such ventures. As Ms Cohen of Wells Fargo says, “Even if [foreign investors] are not subject to the US tax code, a plus two is better than a minus one. It’s just basic math and that has made municipals attractive.”

The Financial Times

by Eric Platt in New York

May 12, 2016 5:23 pm

In 1989, Japanese investors bought Rockefeller Center. Now, they’re plowing into the market that finances the subways underneath.

Faced with negative interest rates in their own countries, foreign banks and pension funds are looking increasingly toward municipal bonds, a bastion of buy-and-hold investors seeking U.S. income-tax breaks.

Money managers including ColumbiaThreadneedle Investments and Western Asset Management Co. say they have set up accounts for Asian and European investors who are buying U.S. state and local-government debt. In November, Shinsei Bank Ltd. and Western Asset, a unit of Baltimore-based Legg Mason Inc., started a private fund that invests in municipal bonds for Japanese financial institutions.

“We have investors coming from around the globe looking and saying, ‘Here’s a security that will offer us a decent yield without all the credit risk,’” said Robert Amodeo, head of municipals in New York for Western Asset Management, which oversees about $440 billion.

With central banks in Japan and Europe holding interest rates below zero in a bid to boost their moribund economies, overseas funds are contributing to the flood of money coming into the $3.7 trillion municipal market where local governments borrow to build roads, bridges and schools. That’s adding to a rally in the price of the bonds, whose low default rates and lack of volatility make them an alluring alternative to U.S. corporate debt.

Other assets have seen bigger price swings amid volatile oil prices and building concern about the slowdown of the Chinese economy. During a shift away from corporate junk bonds this year, for instance, the extra yield investors demanded to hold them instead of top-rated debt reached a more than four-year high of almost 9 percentage points in February. The gap has since narrowed by about 2.5 percentage points as prices recovered.

Since overseas firms don’t benefit from the U.S. income-tax exemption given to interest payments from most municipal bonds, they’ve focused largely on the $466 billion of taxable debt that carries higher yields. By Friday, those securities maturing in 10 years yielded 2.44 percent, 0.74 percentage point more than Treasuries. Similarly dated German bonds yield 0.14 percent, while in Japan they pay -0.11 percent, meaning it costs money to own them.

Taxable municipal bonds have outperformed over the 3, 5 and 10 years that ended Dec. 31, according to data from Barclays Plc. The bank’s index of the securities had a total return of 6 percent per year over the past 10 years, compared with 4.5 percent for its broader measure of Treasuries, corporate debt and other U.S. investment-grade fixed-income instruments.

The international buyers are contributing to a flood of cash that has lifted municipal-debt prices and held yields near their lowest in half a century. Some of the investments have been made through mutual funds, said James Dearborn, head of tax-exempt securities at Boston-based ColumbiaThreadneedle, which has $464 billion under management.

Municipal bonds are a haven from financial-market turmoil because more than half of it is owned by individuals typically more interested in the tax-free interest than capital gains. As a result, they tend to hold until maturity, preventing the periodic bouts of selling that whipsaw prices of other securities.

“They’ve been largely insulated from a lot of the volatility in the markets,” said Dearborn.

International investors previously emerged as big buyers of Build America Bonds, which were created by the federal government to boost the economy after the onset of the recession. States and local governments issued almost $200 billion of the taxable securities, whose interest payments were subsidized by the U.S. Treasury. By the time the program lapsed at the end of 2010, foreign investors held about $72 billion of municipal debt, up $21 billion from two years before, according to the Federal Reserve. By the end of 2015, they owned $85 billion.

Bond-fund managers are cultivating the interest abroad. In March, Eaton Vance Management co-sponsored an institutional investors forum in Tokyo that drew more than a hundred representatives of banks, funds and pensions. Cindy Clemson, Eaton Vance’s co-director of municipal investments, was among the speakers.
“Certainly in the Japanese climate, yield is at a premium,” she said.

Shinsei and Western Asset last year started a yen-denominated fund, with about 8 billion yen ($65 million) at the time, targeted towards revenue bonds, which finance projects such as toll roads, water and sewer systems or airports. The fund invests in those with an A rating, comfortably within investment grade, or higher.

“We’ve received a great response to our U.S. municipal bond funds,’’ Akiko Suda, general manager of product planning at Tokyo-based Shinsei’s asset-management business, said in an e-mail. “The funds are highly rated and spreads are comparatively deep. We have strong expectations for the investment balance to grow further here in Japan.’’

ColumbiaThreadneedle, a unit of Ameriprise Financial Inc., got its first mandate from foreign investors about a year ago, Dearborn said. The firm manages “hundreds of millions of dollars,” in separate accounts or through its mutual funds, he said. ColumbiaThreadneedle is now seeing interest from Europe.

“This is a brand new thing for us,” Dearborn said.

Bloomberg Business

by Martin Z Braun

May 16, 2016 — 2:00 AM PDT Updated on May 16, 2016 — 7:57 AM PDT

In this week’s edition, Senior Director Jane Ridley provides some insights on market ratings and drivers, in light of recent bankruptcies, and Managing Director Martin Arrick discusses our recent rating action on Kaiser.

Listen to the Podcast.

May 11, 2016

This issue of the Hawkins Advisory provides with information of specific interest to single-family housing bond issuers regarding area median gross income figures.

Read the Advisory.

Hawkins Delafield & Wood LLP

5/12/2016

WASHINGTON – The Government Finance Officers Association posted an alert on Thursday encouraging its members to both voluntarily disclose the terms of their bank loans and pay attention to regulators’ increased scrutiny of the lack of such disclosures.

GFOA gave its members several options for how to make the disclosures rather than suggesting one uniform method.

Bank loans have become popular in the municipal market with some issuers using them as an alternative to the issuance of munis because they are cheaper and subject to much less regulation.

While general information, such as the size of the loan, usually ends up in an issuer’s annual financial reports, specific loan terms are only disclosed sporadically.

Many muni market participants, including the Municipal Securities Rulemaking Board, have urged the Securities and Exchange Commission to provide more guidance on bank loans, including when they could be considered a security and when municipal advisors working with issuers on them may be crossing over into broker-dealer activities.

GFOA told its members that they can make their disclosures in a variety of ways, including: posting loan agreements or a summary of their terms on the MSRB’s EMMA website; incorporating bank loan information into their comprehensive audited financial reports; or releasing summaries of the loans’ material terms on their own websites.

GFOA also warned members that if they use EMMA, they will have to be aware that the bank loan will not have a CUSIP and thus will have to be uploaded as “other information” connected with an already posted bond issue.

The MSRB recently said that it had conducted a search ending on March 28 that uncovered only 143 hits when searching EMMA for the term “bank loan.” Of those hits, 64 were not filed in the recommended subcategory for bank loans.

The MSRB recommends issuers disclose bank loans under its continuing disclosure category of “financial/operating filing” and then “investment/debt/financial policy.”

“Disclosure of a bank loan would be relevant to bondholders if the bank loan is secured by any or all of the same revenues as the outstanding bonds, and is large enough to be material to the creditworthiness of the government,” GFOA said in the alert. Additionally, if a government executes numerous bank loans, the combination of those loans in the aggregate and the terms and conditions of the loans may be important for investors in the government’s bonds to know, the group said.

GFOA also advised members to develop policies and procedures that address applicable legal and financial requirements for using bank loans in their jurisdictions and to seek guidance from outside professionals like municipal advisors and bond counsel when reviewing the terms of bank loans.

Without that focus, regulators may feel the need to step in, GFOA warned.

“While disclosure of bank loans is not required under MSRB or SEC rules, issuers are advised that increased regulatory scrutiny may result in mandatory disclosure of bank loans in the future, subject to similar standards of materially and timeliness as apply to municipal securities,” GFOA said.

The alert also focused on an MSRB concept release from March 28 that asked whether the self-regulator should require MAs to disclose information about the bank loans or privately placed munis of their issuer clients. The MSRB said it proposed requiring the disclosures from MAs because issuers have not readily responded to requests for voluntary bank loan disclosures on EMMA.

GFOA said it has significant concerns with the proposal, partly because municipal advisors are the only party in a municipal debt transaction that has a fiduciary responsibility to issuers.

“MSRB’s proposed approach to pass along responsibility of issuer disclosure of bank loans and private placements breaches that fiduciary duty, making MAs also beholden to the investor community,” GFOA said in the alert. “Such a requirement would change the nature of issuers’ relationships with MAs in a manner that is neither beneficial to issuers or MAs.”

The group did not explicitly ask members to file comments but provided them links to the proposal with a reminder that comments are due by May 27.

The Bond Buyer

By Jack Casey

May 12, 2016

Chicago removed the stain of ill-timed bets on derivatives as it sold more than half a billion dollars of debt for its water system.

The nation’s third-largest city sold about $505 million of securities on Wednesday to buy back the last of its variable-rate debt and help cover about $102 million of fees to Royal Bank of Canada and Barclays Plc to break off interest-rate swaps.

The offering concludes a refinancing wave by Chicago since its credit rating was cut to junk by Moody’s Investors Service a year ago, which gave banks the right to force it to pay off debt early and terminate related swap contracts. Chicago has already paid about $260 million to cancel derivative trades over the past 12 months, foisting added costs on a city already contending with soaring bills to a retirement system that it owes $20 billion.

“It’s a smart defensive move to do this, and I think the market will view it positively,” said Paul Mansour, head of municipal research at Conning, which oversees $11 billion of state and local debt, including Chicago securities, and is considering buying in the latest deal. “It represents good financial stewardship to remove derivative products from the balance sheet as it reduces financial risk.”

Securities due in 2031 sold for 3.08 percent, according to three people with knowledge of the deal who requested anonymity before the final prices were released. The top yield is about 1.1 percentage points more than benchmark municipal debt that matures in 15 years, data compiled by Bloomberg show.

“Investors responded quickly and favorably to the second lien water revenue bonds demonstrating the financial community’s ongoing support for the Mayor’s plan to repair city finances,” Carole Brown, Chicago’s chief financial officer, said in an e-mailed statement after the sale.

Even before the Moody’s downgrade, Mayor Rahm Emanuel had been planning to cut the city’s exposure to floating-rate bonds and derivatives, a financing technique that was popular with states and cities until the financial crisis of 2008 hit them with spiraling bills. Such deals have since cost governments billions and helped to push Jefferson County, Alabama, into a record-setting bankruptcy.

Chicago has sold about $2.8 billion of debt in the past 12 months, according to Bloomberg data. It last issued $500 million of tax-exempt general-obligation bonds in January for top yields of 4.9 percent, about 2.3 percentage points more than benchmark securities.

The city’s latest may benefit from an influx of cash into municipal-bond funds that are hunting for higher returns as yields hover near a 50-year low. Investors added $710 million to such funds in the week ended May 4, marking 31 weeks of inflows, according to Lipper US Fund Flows data.

Chicago’s water bonds carry higher credit ratings than its other securities, thanks to the revenue reaped from rate increases in the past three years and a customer base split between the city and its suburbs. S&P Global Ratings on April 26 boosted the second-lien water bonds to A, five levels above junk and two steps higher than the city’s general-obligation debt, citing the benefits from getting rid of the derivative deals. Moody’s, which didn’t rate Wednesday’s deal, grades Chicago’s second-lien water debt Baa2, two steps above junk.

Beyond Names

“It has the name Chicago in it so some investors look at it kind of negatively, but if you look at the underlying credit it’s a strong credit,” said Brian Steeves, a portfolio manager in Rye Brook, New York, at Belle Haven Investments, which oversees $4 billion of munis and is considering buying the new bonds. “It will definitely be well-subscribed.”

In a sign of such demand, the water-system debt trades for lower yields than the city’s general obligations, indicating that investors perceive less risk. A portion of the securities due in 2025 traded Tuesday for an average yield of 3.3 percent, according to data compiled by Bloomberg. That compares with 5.1 percent for general obligations.

Even so, Chicago’s still struggling with ballooning retirement costs and the political paralysis that’s left the state without a budget.

“There still is that broader cloud of the pension and the lack of a state budget that overshadow some of these positive fundamental trends for some of the specific issuers in the Chicagoland complex,” said Gabe Diederich, a Menomonee Falls, Wisconsin-based portfolio manager at Wells Fargo Asset Management, which manages about $39 billion of munis, including various Chicago bonds.

Emanuel has yet to lay out how Chicago will shore up its pension funds after the state supreme court threw out his plan to reduce benefits and require workers and the city to boost their contributions. A record property-tax hike will provide funds for the police and fire pensions, but without changes, the other two retirement funds will run out of money in 10 to 13 years.

“Once you have a distressed obligor, in this case, the city, it’s best to just avoid everything given the uncertainty of just what tools it’ll use to kind of repair its own general operating budget,” said Tom Schuette, co-head of credit research and portfolio management at Solana Beach, California-based Gurtin Fixed Income Management LLC, which doesn’t hold Chicago debt among its $10.1 billion of assets. “Once you’re in a distressed situation, we think all bets are off.”

Bloomberg Business

by Elizabeth Campbell

May 11, 2016 — 2:00 AM PDT Updated on May 11, 2016 — 2:51 PM PDT

Moody’s Investors Service raised slightly more U.S. municipal-bond ratings than it lowered in the first three months of 2016, marking the fourth time in five quarters that upgrades have exceeded downgrades. Moody’s raised the ratings on 108 borrowers and lowered the rankings of 106, the company said in a report Tuesday. Low oil prices helped to drive the downgrades, which included energy-industry dependent Alaska, Louisiana and Houston.

Bloomberg Business

by Elizabeth Campbell

May 10, 2016

The $3.7 trillion municipal market is the “wild, wild West” for so-called green bonds as issuance of such deals ramps up despite no industry-standard criteria for the securities, according to Joel Levy, group head of municipal fixed income at TIAA Global Asset Management.

There is no settled classification for what constitutes a green bond, according to Levy, who moderated a panel on sustainable investing at the National Federation of Municipal Analysts conference in Chicago on Thursday. In some ways, the label is a marketing tool, said Glen Yelton, vice president and head of impact research at SNW Asset Management, who called for an external standard to use as a benchmark.

“There are more green bonds,” said Levy, who oversees about $350 million of the firm’s $11 billion of municipal debt. “There will be more green bonds labeled this year than there were last year, and next year, there’ll be more than this year.”

U.S. state and local governments have issued about $7.5 billion of green bonds since 2010, according to data compiled by Bloomberg. The designation is being used by borrowers to appeal to buyers who use social factors such as the environment, education and health care to guide their decisions.

“Because this asset type is relatively new and without industry accepted standards, investors who are interested in green bonds may want to rely on the expertise of asset managers that have the resources and knowledge to carefully evaluate the validity of the social and environmental impact of these issues,” Levy said in a follow-up e-mail on Thursday. Individual investors can use TIAA-CREF’s social choice bond fund to invest in green bonds.

Certification Providers

Green bond issuance globally, not just counting municipal debt, reached $16.5 billion in the first quarter of this year after totaling $42 billion last year, according to Yelton, who cited data from Climate Bonds Initiative.

Some companies and organizations such as Sustainalytics, an Amsterdam-based firm, offer certification. New York’s Metropolitan Transportation Authority sought in February to have an offering certified under standards set by the Climate Bonds Initiative, the agency’s first green-bond issue.

A green bond is a label that is “self-declared by the issuer,” said Thomas Kloc, managing director of the U.S. sustainability services practice at KPMG. It’s important that there’s some accountability and measurable metrics on what the green project is going to do going forward, he said. The issuer should be providing “enough transparency” so investors are able to decide if the bond meets their definition of green, Kloc said.

Bloomberg Business

by Elizabeth Campbell

May 5, 2016 — 11:51 AM PDT Updated on May 5, 2016 — 2:48 PM PDT

SUMMARY

• Investors may prefer premium municipal bonds once they separate fact from fiction.
• Yield to worst is a more meaningful metric than price to help determine value.
• A premium helps defend against punitive tax consequences of the IRS de minimis rule.
• Understanding premiums on municipal bonds can be confusing for many investors. Common misconceptions regarding premiums can prevent investors from making sound investing decisions in the municipal bond market.

Unfortunately, when it comes to premium municipal bonds, we often hear these fictions repeated:

• “If I buy a premium bond and it matures at par, I lose that premium. I will lose money, so I should avoid premium bonds.”
• “My muni bond, which yields 2% and pays a 5% coupon, provides me with income of 5%.”
• “If I buy a bond at $110 and it matures at par ($100), I get to book a $10 loss.”

The concept of “lost premium” is a fiction. In this Insight, we present facts about premium municipal bonds in order to help dispel common misconceptions. We explain why most municipal issuance comes as a premium, how the coupon factors into the equation, why the yield to worst (YTW) is so important to consider, and how the investor can opt to preserve the premium paid on a municipal investment.

Fact #1: The size of a bond’s premium is not an indication of value.

Put differently, a premium bond is not inherently an overvalued bond. Historically, the size of a bond’s premium is directly related to the bond’s coupon – the higher the coupon, the higher the premium. This is best explained by comparing two bonds and their associated cash flows.

Consider two bonds that both mature in one year, shown in Exhibit A. Both bonds have a YTW of 3%; YTW is a measure of what investors earn on their money, expressed as an annual rate. Which bond do you prefer, and why?

At maturity in one year, the cash flows associated with each bond tell us the real story. Netting the coupon income against the amortized premium is how the investor determines the true income (or yield income) of a municipal bond. Both scenarios assume the buyer receives $100 par back at maturity; both bonds provide a return of 3% despite one having a premium and one not having a premium.

Importantly, there is no loss on either bond; this dispels one of the most oft-repeated fictions about premium municipal bonds. The premium on Bond 2 is amortized down and is returned in the form of a higher coupon; it is not being lost.

Fact #2: Yield to worst is the best determinant of value for premium municipal bonds.

The price of a premium bond is certainly relevant, but it must be viewed in the context of the bond’s other characteristics, such as the coupon rate, call and put provisions, time to maturity and YTW, as well as other factors such as credit structure and the availability of alternatives offering similar income potential.

Many investors confuse coupon and yield (more precisely, yield to worst or YTW). Yield is defined as what you earn on your money. As outlined above, when you net the annual coupon income against the amortized premium, the net result is the yield income of the bond. This is the math behind municipal bonds and it always holds true.

Yield, therefore, is a more meaningful metric than price to help investors to determine the value of a particular bond issue, and YTW factors in the possibility of a bond issue potentially being called or subjected to default or other provisions.

The fact that investors receive 1099-INTs with only the coupon income can be misleading. Investors must determine the bond price amortization (mistakenly thought of as lost premium) for the year and subtract that from the coupon income for their tax filings. The bond amortization schedule is readily available. It is this net number (coupon income minus bond amortization) that must be reported on the investor’s annual tax return.

Fact #3: Municipal bonds issued with a premium guard against tax consequences of de minimis risk.

Bonds are issued with premiums in the municipal market to guard against a taxable event resulting from the IRS de minimis rule. Only issuers can create tax-exempt income. When market conditions dictate that a bond should sell at a discount, accretion from the discounted price may represent income taxed as ordinary income instead of capital gains. Per the IRS, a discount (from the lower of par or an accreted original issue discount) equal to 0.25% times the number of full years to maturity is considered inconsequential (or de minimis). Once the discount exceeds this threshold however, all accretion is taxable as ordinary income.

Here, an example might help better explain the concept. Take a bond with a 20-year final maturity issued at $100, but purchased in the secondary below $95. As the bond accretes or gains value (it will mature at $100, or par), the accretion is subject to being taxed as ordinary income.

It is because of this IRS rule that investors in the muni bond market demand high premiums, also known as coupon protection. A stated coupon in excess of the YTW of a bond means its price will be at a premium, offering some protection against potential higher taxes.

We note that in 2015, roughly 75% of bonds issued in the market had 5% or greater coupons with significant price premiums. In addition, the publicly disclosed muni trade history on the website of the Municipal Securities Rulemaking Board (MSRB) shows a large majority of trades with prices of $115 and higher, indicating the prevalence of bonds offering coupon protection.

Fact #4: An investor can preserve the premium of a bond by only receiving yield income instead of the full coupon income.

As discussed, municipal bonds are issued at premium prices to guard against taxes. The higher the premium, the higher the coupon rate on the bond. But as also discussed, the true measure of bond return is only the yield, not the coupon. It is important to realize that taking an income distribution in excess of the yield means you are eroding the principal of your muni bond investment. If a bond yields 3% and the coupon rate is 5%, receiving a distribution of 3% preserves the premium paid, while receiving a distribution of 5% erodes the premium. A premium bond amortizes some of its premium every year, reducing the cost basis until the bond matures at par. This amortizing premium is directly offset by the coupon income in excess of the yield. An investor wishing to preserve the premium paid can opt to take only the income corresponding to the yield, or yield income, and, in doing so, preserve the original premium paid.

Consider a premium bond with one year to maturity, a coupon of 5% and a yield of 3% purchased at a premium price of $102. In the first case, the investor chooses to receive the full coupon income of 5% as a distribution, as shown in Exhibit B.

Alternatively, if the investor had instead chosen to take a distribution of only the yield income of 3% (the true measure of return), residual coupon income of 2% would have been realized. (You can determine the excess coupon income by subtracting the yield from coupon. In this case, it’s 5% – 3% = 2%) By taking only the yield income and reinvesting the residual coupon income, the investor preserves the premium paid.

Why we favor premium bonds

Investors tend to prefer premium municipal bonds once they separate fact from fiction. Fortunately, the facts are easy to understand:

• The size of a bond’s premium has nothing to do with the bond’s value.
• Yield is the meaningful metric – not price – to help determine the true return.
• Premiums help defend against punitive tax consequences of the de minimis rule.
• An investor can preserve a premium paid by taking only yield income.

For savvy investors, premium bonds can be an appropriate vehicle for building a muni bond portfolio with a defensive structure in today’s low-yield environment. All else equal, a premium bond (higher coupon) will likely outperform a par bond in a rising rate environment thanks to a lower duration, or sensitivity to interest rates.

Relying on YTW is just one of the many factors to consider when purchasing premium bonds. We believe security selection will be critical to success when investing in a market as vast and increasingly complex as the municipal bond market. We believe relative value analysis is just as important. As always, individual investors may benefit from skilled professional management and credit research.

Importance tax considerations

Many investors are not aware of IRS guidelines on reporting tax-exempt investment income, which instruct investors to report on line 8b of the 1040. This is not the 1099-INT income, but rather the income less the annual reduction (or, more accurately, the amortization) of bond premium.

Though provided by the advisor’s firm, investors can calculate the premium amortization (or reduction of premium) themselves. The IRS instructs investors to use the current yield method of amortizing bond premium.

About Risk

An imbalance in supply and demand in the municipal market may result in valuation uncertainties and greater volatility, less liquidity, widening credit spreads and a lack of price transparency in the market. There generally is limited public information about municipal issuers. As interest rates rise, the value of certain income investments is likely to decline. Longer-term bonds typically are more sensitive to interest-rate changes than shorter-term bonds. Investments in income securities may be affected by changes in the creditworthiness of the issuer and are subject to the risk of nonpayment of principal and interest. The value of income securities also may decline because of real or perceived concerns about the issuer’s ability to make principal and interest payments. A portion of municipal bond income may be subject to alternative minimum tax. Income may be subject to state and local tax.

The views expressed in this Insight are those of the authors and are current only through the date stated at the top of this page. These views are subject to change at any time based upon market or other conditions, and Eaton Vance disclaims any responsibility to update such views. These views may not be relied upon as investment advice and, because investment decisions for Eaton Vance are based on many factors, may not be relied upon as an indication of trading intent on behalf of any Eaton Vance fund. Eaton Vance does not provide legal or tax advice. The discussion herein is general in nature and is provided for informational purposes only. There is no guarantee as to its accuracy or completeness. Individuals should consult their own legal and tax counsel as to matters discussed.

Before investing, investors should consider carefully the investment objectives, risks, charges and expenses of a mutual fund. This and other important information is contained in the prospectus and summary prospectus, which can be obtained from a financial advisor. Prospective investors should read the prospectus carefully before investing.

May 2, 2016

by Jonathan Rocafort, Christopher Harshman, Evan Rourke
of Eaton Vance

©2016 Eaton Vance Distributors, Inc. • Member FINRA/SIPC Two International Place, Boston, MA 02110 • 800.836.2414 • eatonvance.com

The Municipal Securities Rulemaking Board (MSRB) today released municipal market statistics for the first quarter of 2016, showing par amount traded rebounded to $634.7 billion, up from $507.3 billion traded in fourth quarter 2015 and slightly higher than the $618.5 billion traded during the first quarter one year ago. 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.

View the 2016:Q1 statistics.

The foreclosure crisis certainly hurt the millions of homeowners who lost their houses during the Great Recession. But it hurt localities, too. They lost tax revenue. And in a case of cause and effect, they watched as the suddenly vacant houses led to blight, which in turn led to spikes in crime because governments at the time couldn’t afford to invest more in their police forces.

So now cities are testing whether they can sue banks for damages under the Fair Housing Act. Los Angeles; Miami; Oakland, Calif.; and Providence, R.I.; have all filed lawsuits against lenders seeking reparations. The lenders are arguing that the act applies to people, not governments. The question of whether cities have the standing to sue is before the U.S. Supreme Court.

The takeaway: If the court rules that cities don’t have standing to sue, it would add to the view that financial institutions are not being held accountable for their role in the 2008 crisis. As The Atlantic noted this week, the people who were most damaged by the foreclosure crisis — those who lost their homes — typically don’t have the resources to bring lawsuits. Most of the civil suits have been brought by investors who bought bad home loans. In their quest, cities likely represent the last group to try to punish lenders for their practices during the mid-2000s.

GOVERNING.COM

BY LIZ FARMER | MAY 6, 2016

U.S. public finance (USPF) exhibited growing credit strength in 2015, though at a slower rate than in 2014. Overall, upgrades outpaced downgrades by a ratio of 2.20 to 1 in 2015, compared with 3.33 to 1 the previous year. The ratio of upgrades to downgrades was 2.15 to 1 for bonds excluding housing and 4.27 to 1 for housing bonds. In the previous year, the ratio for nonhousing was 3.38 to 1, and housing had more downgrades than upgrades.

In addition, in 2015, upgrades outnumbered downgrades in every quarter for the third consecutive year. The year ended with 13 straight quarters of more upgrades than downgrades, the longest streak since the first quarter of 2001. In the midst of this, defaults increased to 12 in 2015 from eight in 2014. This continues a recent phenomenon of higher-than-average defaults, particularly among appropriation-backed debt. In the last five years, the number of defaults among credits not including housing has exceeded the average of three going back to 1986. There were 21 defaults of appropriation debt between 2011 and 2015, after only three in the previous 25 years.

Overview

• S&P Global Ratings upgraded 991 bonds and downgraded 461 in USPF in 2015, excluding housing.
• There were 47 housing upgrades and 11 downgrades in 2015.
• All but one sector in USPF–higher education–had more upgrades than downgrades in 2015. This was the second consecutive year of negative rating trends in higher education.
• Twelve defaults occurred in USPF in 2015, compared with eight the previous year.
• Since 1986, the average annual number of defaults in all of USPF combined is five, out of a total of more than 21,000 ratings.

Continue reading.

04-May-2016

The GASB has formed a consultative group to assist the Board’s research in the reexamination of the going concern provisions of Statement No. 56, Codification of Accounting and Financial Reporting Guidance Contained in the AICPA Statements on Auditing Standards. The members were appointed by GASB Chair David A. Vaudt.

High-yield municipal bond fund managers have cash to burn. So do American smokers, who have extra money after filling their gas tanks.

The two groups, each in their own way, are driving a rally in the $34 billion tobacco-bond market that’s outpacing just about every other investment.

High-yield tobacco securities have surged 10.2 percent in 2016, the most among all segments of the $3.7 trillion municipal market, Barclays Plc data show. That follows gains of 15.8 percent and 19.2 percent in the past two years. The 51 percent return since the start of 2014 beats more than 80 percent of stocks in the S&P 500 Index and close to 90 percent of the Russell 2000 Index of small-cap company shares, data compiled by Bloomberg show.

To explain much of the gain, one needs only to follow the money. Individuals added cash to high-yield muni funds for 100 of the past 122 weeks, lifting their assets to a record $82 billion from $58 billion at the start of 2014, according to data from Morningstar Inc. and Lipper US Fund Flows. With Puerto Rico heading toward an unprecedented restructuring, money managers who once snapped up the island’s bonds are now avoiding them, leaving the tobacco securities one of the few available alternatives.

The other side of the rally stems from signs that American smokers are using savings at the gas pump to buy more cigarettes. The shipments backing the debt as part of a 1998 settlement with tobacco companies increased last year by 1.9 percent, the most ever, according to data from the National Association of Attorneys General.

“If you’re getting lots of money into a high-yield fund and you’ve decided that you’re not going to buy Puerto Rico, like most people, really tobacco is your only other option,” said Craig Brandon, co-director of municipal investments in Boston at Eaton Vance Management, which oversees $32.5 billion of the debt. The uptick in smoking “gives you a credit reason to buy tobacco at a time when you really need a high-yield sector to invest in.”

Buying tobacco bonds has long been considered a risky move. Most are rated junk because when governments first sold them more than a decade ago, which gave them advances on money they are set to receive from Reynolds American Inc., Lorillard Inc. and Philip Morris USA, they didn’t anticipate how quickly Americans would give up smoking. And the more cigarette sales fall, the longer it will take for governments to collect the payouts.

Moody’s Investors Service projects that a 4 percent annual decline in cigarette shipments would cause 80 percent of the bonds to default. From 2007 to 2014, the drop was even bigger: Shipments fell an average of 4.7 percent annually, according to NAAG data.

The decline in oil prices in the second half of 2014 — from over $100 a barrel to about $53 — halted the decline because gasoline fell, too, giving people more disposable income. The national average for a gallon of gas in the U.S. is $2.22, about 40 cents lower than a year ago, according to the American Automobile Association.

Smokers “save more because of lower gas prices and they tend to spend it on cigarettes,” said Vikram Rai, head of muni strategy at Citigroup Inc. While the boost in cigarette shipments “could be a flash in the pan,” he says high-yield investors should consider buying the securities and definitely hold onto those they currently own.

Some of the biggest and most-frequently traded tobacco bonds are at levels not seen since before the financial crisis.

Two of the three largest single tobacco bonds, from Ohio’s Buckeye Tobacco Settlement Financing Authority and California’s Golden State Tobacco Securitization Corp., traded in the past two weeks at about 100 cents on the dollar, the most since February 2008 and August 2007, respectively, data compiled by Bloomberg show. Both have a June 2047 maturity and ratings six steps below investment grade by Moody’s, which projects annual shipment declines of 3 percent would cause them each to default.

“I’m pretty cautious at these levels — there’s been a lot of gains,” said Alan Schankel, a managing director in Philadelphia at Janney Montgomery Scott. “The upside is limited as you approach par, and the downside is there.”

Tobacco-bond returns have also dwarfed other junk asset classes. High-yield corporate bonds and loans returned 4.75 percent since the start of 2014, Barclays data show.

While buying after the rally isn’t the best entry point, the dynamics driving it don’t seem likely to change this year, Citigroup’s Rai said. Even if prices remain steady, the largest tobacco bonds offer investors yields above 5 percent at a time when top-rated munis maturing in 30 years deliver half as much.

“Tobacco bonds are priced properly because we know what the moving parts are; we know how to model that risk,” Rai said. “If you’re content with a 6 or 7 percent return, even if you buy them now, you’ll get that.”

Bloomberg Business

by Brian Chappatta

May 9, 2016 — 2:01 AM PDT Updated on May 9, 2016 — 6:28 AM PDT

We reviewed trade and quote activity on approximately 570,000 unique municipal bonds from January 2015 through March 2016. The study surveyed the overall quote/trade depth and diversity during that period, as we focused mainly on unique bonds during various periods of time. This study did not factor in trade, quote, or bond issue size, but we want to make it clear that all three can also be used to assess a bond’s liquidity profile. We note that since the dataset includes quotes and trades regardless of size, it could potentially overstate liquidity as compared to a round lot portfolio.

Our analysis concluded that municipal bond liquidity was stable during the period and the market was relatively efficient, but there were intermittent periods when liquidity did taper off due to seasonal factors. Here are some of our findings:

-483,647 unique bonds traded and 253,194 were quoted in 2015, with approximately 50% of those appearing in the first four months of the year. Almost 99% of the quoted bonds traded at least once, with approximately 2,800 never trading during the year

-There is a direct relationship between the number of unique quotes and bonds that trade on a given day or month, with the correlation almost perfectly linear during a monthly period. The difference likely illustrates some time delay between the negotiation initiated post-quote and when a trade actually takes place

-The number of dealers quoting a bond on a given day is correlated with the likelihood of it trading. Data indicates that increasing the depth from one to four dealers increases the probability of a revenue bond trading from 19% to 66%, based on 2015 data

-New York general purpose and public improvement bonds had the highest likelihood of trading (25%) in 2015 among the 15 most quoted and traded use of proceeds and state combinations revenue bonds that were only quoted once on a given day. In the case of general obligation bonds, Massachusetts bonds had the highest trade rate (22%) based on the same analysis

-There were 250 trading days in 2015 and not a single municipal bond traded every day. However, there were two bonds that traded 248 days: California State 7.55% 4/2039 and Illinois State 5.1% 6/2033 taxable bonds, with neither making the top 10 list of most traded bonds in 2015 by trade count

-Approximately 9,900 bonds traded at least 10 days in 2015, but quotes were not sent via a broad distribution by any dealers during the year. However, there were only 316 bonds that were quoted at least 10 days that never traded during the year

Download the full Report.

markit

Chris Fenske | Director, Head of Fixed Income Pricing Research

Tel: +1 212 205 7142
chris.fenske@markit.com

Puerto Rico isn’t the only municipal bond issuer facing fiscal problems, and if your clients are expecting a smooth ride in the high-yield muni market, you may have to tell them to fasten their seat belts.

Puerto Rico’s partial default on its bonds this month shook the muni market, and particularly some funds with big holdings in the bonds, which are free from state and local taxes across the country. But other muni issuers are in rough shape as well, even though most states’ balance sheets are improving, says Standard & Poor’s.

The two biggest problems: Falling oil prices and exceptionally brutal financial wrangling in the statehouses. States that depend on oil production, such as Alaska, Louisiana, Oklahoma and North Dakota, are seeing revenue shortfalls because of lower energy prices.

Alaska, for example, is facing a $3.9 billion budget shortfall, equal to 74% of expenditures, according to S&P. It’s rated AA+, a strong rating, but with a negative outlook. Louisiana, which is not only dependent on oil, but has major structural budget problems, is rated AA with a negative outlook.

Many of the states’ woes appear to be of their own making. Illinois, for example, has an A- rating with a negative outlook, the worst of the 50 states. The rating could hit BBB if the state does not make “significant improvements to its budgetary alignment,” S&P said in its most recent assessment of the state’s debt.

New Jersey boasts the next-worst rating for its general obligation bonds: an A rating, with a negative outlook. The state’s underfunded pensions and large outstanding debt were behind the relatively low rating.

Even though states can’t declare bankruptcy, their bond prices can get smacked when they get a ratings downgrade. Nevertheless, some funds have taken significant stakes in Illinois and New Jersey debt, according to Morningstar, the Chicago investment trackers.

Prudential Short Duration Muni High Income (PDSAX) has 11.9% of its assets in New Jersey paper, according to Morningstar, the highest percentage of any fund in the high-yield muni category. (It also has 11.2% of its portfolio in Illinois).

The biggest fan of Illinois muni bonds: Wells Fargo High Yield Municipal A (WHYMX), with 15.2% of its assets in the state’s paper. Oppenheimer Rochester Limited Term Muni (OPTIX) has 12.9% of its portfolio in Illinois munis, as well as 19.7% in Puerto Rico.

Most of these funds have relatively low duration, which means that they’re not taking any chances on long-dated issues from shaky states. Prudential’s offering, for example, has an average effective duration of 3.85 years. The Wells Fargo fund weighs in at 5.67 years.

States with rising populations have the best outlook for their municipal finances, S&P says. Those states with an aging population are spending more on retirement benefits and less on infrastructure, which could limit future growth.

Investing in municipal debt with shaky credit ratings is far less dangerous than it may seem, at least in the long term. High-yield municipal bonds funds have returned an average 7.4% a year the past five years, vs. 4% for high-yield corporate bonds. And funds that invest in long-term California bonds — once a poster child for state budget reform — have returned an average 6.9%.

Investment News

By John Waggoner

May 6, 2016 @ 1:04 pm

In this week’s episode, Managing Director Gabe Petek discusses the highlights of our comprehensive report on state budgets and credit analyst Victor Medeiros explains what spurred our recent rating action on Oyster Bay, New York.

Listen to the podcast.

May 3, 2016

A string of recent acquisitions in the municipal pricing and indexes space could bring “colossal change” to the market, participants said.

It began last October, when Intercontinental Exchange announced the purchase of Interactive Data Corp. for $5.2 billion. Then, in March, ICE announced the acquisition of Standard & Poor’s Securities Evaluations and Credit Market Analysis. Additionally, Bloomberg purchased Barclays’ Risk Analytics and Index Solutions business. The BRAIS are currently evaluated by IDC.

Stephen Winterstein, managing director of research & chief strategist at Wilmington Trust Investment Advisors, Inc., thinks it’s unlikely these acquisitions in such a short span are pure coincidence.

“How it shakes out is anyone’s guess. This appears to be the start of a game of musical chairs,” said Winterstein. “There were five major valuation services for municipal securities. Perhaps we are seeing only the beginning of a consolidation in that segment’s service providers.”

Winterstein noted there are currently three leaders in municipal fixed income indexing: Barclays (soon to be Bloomberg), S&P, and Bank America Merrill Lynch. He also said he could imagine a world where ICE is in both the municipal bond evaluation and index businesses.

“In light of their recent acquisitions, I wouldn’t be at all surprised to learn that ICE is developing its own family of fixed income indices, or planning to possibly acquire another index group – or, perhaps a combination of the two,” he said. “Further, the acquisition of IDC and S&P Evaluations may pave the way for ICE to create a municipal electronic exchange. After all, they are in the business of securities exchanges, so they certainly have the bandwidth, and now they have the data content to undertake such a challenge in the municipal bond market.”

There are more questions than answers on this topic but Winterstein said he firmly believes that this is going to be a “colossal change” and that no one knows what the end result will look like.

“I think there is a tectonic shift afoot in how munis will be evaluated and what index families will thrive,” he said. “Over the next six to eighteen months this could be a bigger deal than anyone is making it out to be now.

“What were the two leaders in municipal evaluations are now in the process of becoming one,” Winterstein said. “There are barriers to enter this niche marketplace and it’s a space that saw few players to begin with. It is a rapidly occurring confluence of transactions and circumstances within the municipal fixed income markets, over which many practitioners are scratching their heads.”

Tom Doe, president of Municipal Market Analytics in Concord, Mass., said the arrival of Wall Street giant Intercontinental Exchange Inc. into the municipal market is monumental and could have a serious lasting impact on the industry.

“I find this as potentially disruptive as when the futures markets went from an outcry of people on the floor to an electronic exchange,” Doe said. “That changed the data and the personality of the market.”

ICE owns the New York Stock Exchange and is the leading network of regulated exchanges and clearinghouses for financial and commodity markets.

Creating a pricing service monopoly has its potential advantages and disadvantages, according to Doe, whose firm is a leading source of municipal market analysis and commentary.

Chief among the “interesting” yet unanswered questions is price discovery, regulation, and how ICE will interface with the Municipal Securities Rulemaking Board, he said.

Kevin Strom, senior managing director and head of capital markets at Ziegler said that we have regulators and technology vendors who are driving hard towards a new world order, whatever that will eventually look like. On the other side, he said, there are broker dealers who are struggling to catch up on the technology and regulation front, and doing everything to control costs “while the vendors could increase costs and I assure you, the compliance and regulatory environment is raising everyone’s costs.

“This is a bad recipe if you’re on the dealer community side of the fence, so this is a big deal,” he said.

“The words oligopoly and monopoly come to mind,” Strom said. “My costs for pricing and data services are not going down in all likelihood, they are going up. If the Justice Department and regulators allow that to happen as it relates to bond markets where those two pricing services are the only relevant muni pricing services , I would argue that is not good.”

Doe said that consolidation of data pricing providers could make some of these issues more challenging, and could potentially introduce new concerns, including possible antitrust issues and the lack of diversity in a long-standing multifaceted, multi-vendor industry.

“It starts to shake the landscape” of the municipal market, especially at a time of heightened regulation and surveillance, Doe noted.

“You’ve had a quiet period where data was status quo, and everything went along and innovators brought technology into the market,” Doe said. “Now with this tech giant being very aggressive, with lots of money and lots of success and customers on the buy side, it gives them a leg up over something like Market Axess,” Doe explained.

The potential for ICE to lead the data pricing industry comes at a time when market participants are “struggling” to maintain liquidity and exchanges are trying to make it easier to comply with increased regulation, he said.

Doe said ICE’s leadership is entirely different than various other institutions, like Bloomberg or TMC Bonds, and Market Axess, contributing to market advancements like creating electronic platforms or tweaking technological improvements.

“Now you have ICE coming in buying the two largest data information providers that own buy side customers and influence every evaluation that goes on every investors’ statement – individuals and institutions – and they would own that,” Doe explained. “That’s incredibly powerful.”

Among other questions is whether the current evaluation models, such as the Barclays indices, for example, are calculated, he said.

“You have a legacy of triple-A bond insurance to solidify the basis for the triple-A benchmark,” Doe said. “But, you bring somebody in who’s in control of the evaluation process do they dictate how things are looked at, and can they provide regulators with a better context instead of several vendors?”

“The municipal market does everything off of the high-grade curve, so are those days numbered?” Doe continued. “Will models change and the behavior of the market change?”

On the other hand, Doe said the arrival of ICE into the municipal data pricing industry could open new avenues to the future.

“They tend to go into different markets that were behind in technology and have been able to transform a market place,” Doe said of ICE. The move could be a real positive for the market – one that “brings it into the 21st century,” he hinted.

Still, Doe said there are wrinkles to be ironed out before the market adapts to a new way of operating with respect to data pricing and evaluations.

“Large sums of money coming into a market place is disruptive, for sure, but hopefully to the positive,” Doe said.

“Other institutions have done positive things for the market place and anything that ICE would do, hopefully, the market adapts and the industry only gets better with technology coming into the world of disclosure.”

At a time when the municipal market is heading toward increased transparency, the concept of data pricing consolidation hurts rather than helps the industry, and further limits the already error-prone process, according to John Mousseau, managing director at Cumberland Advisors.

“I think we need more pricing services, not less,” he said.

“No pricing service is totally correct. Most miss the market when it is in transition to either a higher coupon standard or a lower one, and they misprice it most on premium bonds,” Mousseau explained.

Limiting the number of pricing services to a monopoly doesn’t add value for clients, and makes comparisons virtually impossible, he noted. “With more than one service at least you can see some degree of difference. How would one compare just a one-source price?”

Ron Valinoti, president at Triangle Park Capital Markets Data who has worked for both IDC and S&P, said the potential disappearance of one of the two major pricing services could have wide-ranging implications for the muni market.

“The other firms are newer, especially to the municipal business,” said Valinoti, whose own firm is aggregating data based on observable market data. “Without one of these two familiar services, the market’s concern is you have to go out and employ one of these other services. And that’s a lot of work.”

But beyond the impact for mutual fund portfolio managers, Valinoti said, the data provided by the big pricing services is so pervasive throughout the muni business that it has secondary market effects too. Traders often have to check a screen carrying that data before they can execute a trade, Valinoti said, because the estimated price can sometimes diverge significantly from the actual price someone is willing to pay for a bond at that time. The data provided by the services also makes up a part of the compliance systems broker-dealers use to determine a fair price for a bond in the case of securities that haven’t traded recently.

“It’s pretty far-reaching,” he said.

Valinoti said that all the pricing services try to do “a credible job” of reaching their conclusions, and it is ultimately incumbent on firms who rely on them to do their due diligence in making decisions about how and if they will restructure their policies and procedures to match the new landscape. Many mutual fund companies are currently required by their policies to use two of these services, said Valinoti, though a “bigger, better mousetrap” emerging from the purchase could actually improve price discovery in the muni market, he said.

“If the justice department thinks it’s a good idea to allow these dominant firms to merge because the benefit on other side of the fence, like a more efficient marketplace or a new municipal exchange, or more access to market information, then that would be very interesting news to our marketplace,” said Strom. “But it doesn’t deal with keeping the vendors honest in terms of the future prices they will charge if they dominate a sector of a marketplace.”

Strom said that it’s safe to say that the regulators from the SEC to FINRA to the MSRB think the muni retail market is pretty inefficient, and that it is dominated by mom and pop investors that need more protection as the end user of bonds through direct purchase, or via money managers and mutual funds.

“As a marketplace, and with our regulators, we will have to find a balance between these forces,” said Strom.

The Department of Justice declined to comment on whether it is investigating the acquisitions. It is common for the DOJ to not comment on ongoing investigations.

ICE also declined to comment, as a spokeswoman for the company said that the proposed acquisition of the Standard & Poor’s Securities Evaluations business has not yet closed.

Strom said that he isn’t sure if ICE creating a muni exchange or other products is a good thing or not, but that he believes it might not work out well for retail investors in terms of cost.

“If the new monopoly or oligopoly in town doesn’t have some controls, or regulatory input, in terms of what they charge for their services, just like regulators want more controls on our side of the industry. I would think this topic would need to be dealt with somehow,” said Strom.

Strom said that when it is all said and done, the landscape will certainly look different than it does today.

“Small dealers that have dominated the local muni business for 100 years, with its millions of CUSIPs that don’t trade every day, will have to adapt,” he said. “The big question is whether, in a new world order, where technology and access to information and data rule the day on one side, can that be balanced against monopoly or oligopoly behavior by vendors with pricing, on the other side of the fence?

“Time will tell whether these dealers in this industry can survive the way we know them today,” Strom said.

The Bond Buyer

By Aaron Weitzman and Christine Albano and Kyle Glazier

May 2, 2016

You’d never know from looking at the $3.7 trillion municipal market that the largest restructuring in its history is unfolding in Puerto Rico.

Individuals last week poured more money into tax-exempt mutual funds than at any other time this year, just days ahead of the commonwealth’s well-anticipated default on $422 million of Government Development Bank debt. Munis have gained every month this year, only the second time that’s happened since 1999. And on the U.S. mainland, prospects are brightening: S&P Global Ratings has upgraded more localities than it has lowered for 13 straight quarters, the longest streak since 2001. Just nine issuers have defaulted in 2016 apart from Puerto Rico, compared with 24 at this time last year.

Much like how Puerto Rico is an island territory off the coast of the U.S., the trends show that investors are treating the commonwealth’s debt crisis as separate from the broader municipal market. Monday’s default, its largest yet, was a long-time coming: Puerto Rico lost its investment grades over two years ago, and 10 months ago Governor Alejandro Garcia Padilla declared its debt too crippling to pay.

“It was telegraphed,” John Miller, who oversees $110 billion of munis as co-head of fixed income at Nuveen Asset Management, said in an interview on Bloomberg Radio with Tom Keene and Michael McKee. “It’s a continuation of an ongoing reality that they don’t have the revenues to meet all their budgetary expenses and pay debt service at the same time.”

Puerto Rico wasn’t the only borrower on the precipice of a historic default. Atlantic City, the distressed New Jersey gambling hub, made $1.8 million in interest payments due May 1, after saying it might not. It avoided the first default for a municipality in the Garden State since the Great Depression.

The clearest sign that the market is shrugging off Puerto Rico and Atlantic City is the money pouring into tax-exempt bond funds.

Individuals have added assets to muni funds for 30 straight weeks dating back to October, the longest stretch since March 2010, Lipper US Fund Flows data show. The $1.2 billion inflow in the week through April 27 was the largest of 2016, and came after Moody’s Investors Service warned that a Puerto Rico default was inevitable.

“They are unique,” Peter Hayes, the head of municipals for BlackRock Inc., the world’s largest money manager, said in a Bloomberg Television interview. “It’s been coming for the last few years. Investors were either comfortable or not.”

“The market is pretty big. It’s $3.7 trillion. It’s different than other fixed-income asset classes. They don’t all have problems.”

Part of the reason investors have been so willing to buy munis is because the bonds have gained every month this year, S&P Dow Jones Indices data show. It’s just the second time that’s happened in the past 18 years.

Also padding returns: improving credit quality for states and cities across the country. S&P said in February that it upgraded nearly twice as many issuers as it downgraded in the fourth quarter of 2015. The 13th-straight quarters of elevating more municipalities than it lowered is the longest streak since 2001.

Fitch Ratings said last week that the trend continued: It upgraded 29 issuers and lowered 19 in the first quarter. Positive outlooks are the highest since at least 2001, when Fitch began tracking that, while negative outlooks are the lowest since the third quarter of 2008.

Defaults, aside from Puerto Rico, are also slowing among municipal borrowers. Just nine issuers missed payments for the first time in the first four months of the year, compared with 24 at this time a year ago and 15 in 2014, according to data from Municipal Market Analytics.

Bloomberg Business

by Brian Chappatta

May 2, 2016 — 7:42 AM PDT Updated on May 2, 2016 — 8:22 AM PDT

Municipal tobacco bonds have returned 17.4 percent over the past year, more than triple the gain of the broad tax-exempt market, S&P Dow Jones Indices data show. The securities have surged because the cigarette shipments backing them as part of a 1998 settlement agreement increased last year by 1.9 percent, the most ever, according to data from the National Association of Attorneys General. The rally in tobacco bonds, which are mostly speculative grade, is a stark contrast to the other large high-yield segment of the municipal market: Puerto Rico debt is down 4.7 percent in the last 12 months.

Bloomberg Business

by Brian Chappatta

May 3, 2016 — 7:35 AM PDT

New York City cut Morgan Stanley from the ranks of its senior general obligation and Transitional Finance Authority bond underwriters, while elevating Samuel A. Ramirez & Co. and Royal Bank of Canada.

New York, one of the largest issuers of municipal bonds in the $3.7 trillion market, plans to issue about $14 billion of general-obligation bonds and $15.2 billion of Transitional Finance Authority debt in the next four fiscal years, according to the city’s financial plan.

The Transitional Finance Authority was created in 1997 to circumvent limits on New York City general-obligation bond sales. State law doesn’t allow it to file for bankruptcy and they are backed by the city’s income tax, and if needed, its sales tax.

Morgan Stanley’s demotion comes five months after the eliminated about 25 percent of it’s fixed-income staff. The investment bank is included as a senior co-manager for the city’s GO and TFA debt.

Mark Lake, a spokesman for Morgan Stanley, declined comment. Carol Kostik, deputy comptroller for public finance, wasn’t immediately available for comment, a spokesman said. New York City Mayor Bill de Blasio’s office didn’t immediately respond to a request for comment.

“Ramirez is thrilled to be added to the GO and TFA syndicate,” said Ramirez president and chief executive officer Samuel A. Ramirez. “We are honored to serve the City and we look forward to continuing our work with them for many years.”

“We are delighted to be selected. We appreciate the confidence shown in our firm by the City of New York,” said John Puig, Managing Director and Co-Head of the New York Municipal Finance Group for RBC.

In addition to Samuel A. Ramirez and RBC, the city’s senior GO and TFA bond managers include Bank of America Merrill Lynch, Siebert Brandford Shank & Co., Goldman Sachs Group Inc. Jefferies Group LLC, Wells Fargo Corp., Citigroup Inc., JPMorgan Chase & Co. and Loop Capital Markets LLC.

Cities and states typically pick new underwriting groups every few years to spur competition and respond to staff changes at investment banks. The underwriting group, or syndicate, announced by New York Thursday replaces one set up in December 2012.

Bloomberg Business

by Martin Z Braun

May 5, 2016 — 2:10 PM PDT Updated on May 5, 2016 — 2:47 PM PDT

The debt of U.S. states last year remained below its all-time high from 2013, showing officials were hesitant to borrow even with interest rates near record lows and the recession six years in the past.

States’ net tax-supported debt edged up 0.6 percent in 2015 to $512.5 billion, according to a Moody’s Investors Service report released Friday. In 2014, the figure fell for the first time in almost three decades, from the record high of $516 billion.

After contending with a long recovery from the recession, states and cities have used the $3.7 trillion municipal-bond market in recent years largely for refinancing instead of running up new debt for public works. There hasn’t been a more attractive time in decades for lawmakers to issue long-term bonds: the yield on a Bond Buyer index of 20-year municipal general-obligation bonds fell in February to the lowest since 1965.

“The recent slowdown in debt levels highlights states’ reluctance to take on new debt despite continued annual increases in tax revenue,” analysts for Moody’s wrote in the report. “Several factors will likely suppress growth in state debt burdens in the next year, including the recent decline in commodity markets along with longer term trends of continued uncertainty over federal fiscal policy and healthcare funding.”

Connecticut retained its spot at the top of Moody’s debt medians, with $6,155 of net tax-supported debt per resident. That’s up from $5,491 in last year’s report.

Massachusetts, Hawaii, New Jersey and New York round out the top five, like the year before, each with more than $3,000 per person. Nebraska, Wyoming, North Dakota, Iowa and Montana have the smallest burdens, at less than $250 per resident.

Kansas’s debt load in 2015 jumped about 40 percent, the most of any U.S. state, after it issued $1 billion of pension bonds. South Dakota’s grew 20 percent.

Puerto Rico, the U.S. territory on the brink of the municipal market’s largest-ever restructuring, wasn’t included in the report due to lack of available data. It had $15,637 of tax-supported debt per person in Moody’s prior report.

Bloomberg Business

by Brian Chappatta

May 5, 2016 — 9:01 PM PDT

One of the best-performing U.S. municipal-bond funds rose to the top with debt backed by a once bankrupt county and cigarette-company payouts at risk as Americans kick the habit. Another driver: It largely steered clear of Puerto Rico.

Money managers Jeffrey Burger and Daniel Barton pushed the Dreyfus High Yield Municipal Bond Fund to a return of 4.5 percent this year, more than any other open-end muni fund that’s available to American individual investors, according to data compiled by Bloomberg. The fund, with about $160 million in assets, has gained 8.6 percent over the past year, besting 93 percent of its peers.

The fund has benefited from gains in the riskiest corners of the $3.7 trillion municipal market as investors look for bigger returns while yields hold near a half-century low. With money flowing in and debt sales slowing, some of the lower-rated securities have rallied, including those repaid with money states receive from the 1998 legal settlement with tobacco companies.

“A lot of people have been trying to get very few deals,” said Barton, who is based in Boston. “The market is likely to continue at a premium, if not get stronger.”

The fund’s biggest single holding at the end of March was about $5.8 million worth of New Jersey tobacco bonds due in 2041, with the second $4.2 million of Ohio’s that mature in 2047. Its third largest: a $3.9 million block of securities sold by Jefferson County, Alabama, in 2013 as it emerged from the bankruptcy. The Dreyfus fund held about $1 million of debt issued by Puerto Rico, whose growing fiscal crisis led this month to the government’s biggest default yet.

The push into tobacco bonds proved prescient. The industry arrested a long-time slump, partly because lower gas prices left consumers with more to spend. Cigarette sales, which determine the size of the legal payments, grew 2 percent last year after declining since 1981, according to a May 2 report by Janney Montgomery Scott LLC. As a result, the securities delivered 17 percent over the past year, more than triple the gain of the broader tax-exempt market, S&P Dow Jones Indices data show.

“Tobacco bonds have taken off thanks to an increase in smoking spurred by lower energy prices,” said Burger, who co-manages the fund from Boston at Standish Mellon Asset Management Co.

The Dreyfus fund’s investments are scattered over nearly 100 individual securities, which buffers it against risk. The managers declined to comment on specific holdings.

“Diversification is important in the high-yield sector, just as it is in any other kind of investing,” said Barton.

The fund’s portfolio also included Chicago’s wastewater system bonds, private prisons and charter schools in Arizona, and capital appreciation bonds — which delay payments until they mature — that financed California schools and a retirement center.

One criteria the managers weigh heavily: How easy it will be to sell a bond if they want to change course. Recently, the strong demand for high-yield debt — and the diminished pace of new borrowing — has made the market more liquid, they said.

Returns are also being buttressed by the improving finances of state and local governments, which stands in contrast to the high-profile collapse of Puerto Rico. The Caribbean island’s long-building strains haven’t affected the broader market because investors recognize that its problems are unique.

“You didn’t see the contagion in this market that you may have seen in others,” said Burger. “Most municipal credit is improving, and we look for bonds that have better credit characteristics.”

Bloomberg Business

by Darrell Preston

May 5, 2016 — 2:00 AM PDT Updated on May 5, 2016 — 6:27 AM PDT

The 20-attorney legal department in Providence, R.I., mostly defends the city against lawsuits. But since 2011, it has partnered with outside law firms to file more than two dozen lawsuits alleging a variety of securities and antitrust violations. The outside law firms have funded the litigation in return for a share—a third—of any monetary award.

As we report in today’s Wall Street Journal, Providence is one of many municipalities trying its hand at affirmative litigation, amid a slow economic recovery and uneven regulatory enforcement at the state and federal level.

Lawrence Rosenthal, a law professor at Chapman University in California who worked in Chicago’s law department, said political and practical considerations figure into​ decisions by ​governments to partner with outside law firms.

“It requires no investment of taxpayers funds. All the money is fronted by the plaintiffs firms,” he said. “Many smaller municipalities lack in-house expertise as well as in-house resources, so they really have very little choice but to use outside counsel.”

Still, municipalities may pay a price.

“You necessarily turn over control, and the litigation can then turn into a pursuit of the private investor’s goals at the expense of public policy objectives,” Mr. Rosenthal said.

Such partnerships trace to the tobacco litigation in the 1990s, when states paired with trial lawyers to sue cigarette makers. The latest wave of cases builds on a decade-old trend of municipalities and municipal pension funds taking companies and banks to court, plaintiffs’ lawyers said.

Municipalities have moved beyond such securities litigation in recent years, filing lawsuits alleging among other things that defendants sold them products at unfair prices, damaged the environment and infrastructure, illegally marketed painkillers and discriminated against minority residents.

Providence adopted its current litigation strategy in 2011.

We report,

Jeff Padwa, Providence’s city attorney from 2011 to 2014, said he devised an affirmative-litigation strategy over dinner with then Mayor-elect Angel Taveras days before ​Mr. Taveras’s 2011 swearing-in. At the time, the city’s unemployment rate was 11% and its tax base was shrinking.

Mr. Padwa said he modeled the legal department after the Connecticut attorney general’s office in the 1990s under Richard Blumenthal, who positioned the state as one of the leaders in the tobacco litigation and joined other states in a suit against Microsoft over alleged antitrust violations.

“Just a few years ago, many municipalities considered class actions with trepidation and maybe even skepticism,” said Paul Geller, a founding partner of Robbins Geller Rudman & Dowd LLP, one of the country’s largest plaintiffs’ firms that specializes in securities litigation.

Mr. Geller said new requests by municipalities for class-action lawyers now surface weekly.

THE WALL STREET JOURNAL

By JOE PALAZZOLO

May 3, 2016 10:05 am ET

More colleges and universities should consider joining the slowly growing number of institutions that are using public-private partnerships to address infrastructure and other capital needs, argues the head of one nonprofit organization.

Many of these institutions no longer can rely on existing debt capacity, budget surpluses and reserves to maintain and expand their assets. As a result, they should look into allowing outside players to build and maintain some of their infrastructure to save money, free up funds for other priorities and improve their ability to pursue their academic mission, contends Brian Mitchell, director of the Edvance Foundation in an April 25 op-ed in the Huffington Post.

For example, colleges that use private financing and expertise to develop on-campus housing can improve students’ quality of life, increase enrollment and graduation rates while freeing up money to maintain and add assets, he points out.

Student housing is not the only type of P3s schools are pursuing; others include Ohio State University’s energy P3 and the University of Utah’s installation of solar panels. Ohio State’s project also includes an academic component. Bidders were asked to include in their proposals descriptions of educational opportunities they might offer, such as research projects and collaborative projects with faculty, scholarships, student internships and co-branded energy marketing opportunities.

Mitchell also sees value in P3s that are designed to serve, not only those who study or work on campus, but the surrounding community as well.

“In today’s environment, American higher education — whether public or private — is beginning to use private investment to meet strategic needs that link real estate, student services, academic programs, facilities expansion and town/gown relations together in new and innovative ways,” he explains.

New Jersey City University, for example, has moved beyond student housing P3s and is using commercial development on school-owned property as an engine for local business and residential growth. Miami Dade College is developing a P3 that combines a multi-dimensional cultural arts center with private residential units, restaurants and retail space. Meanwhile, Boston Mayor Marty Walsh has asked area colleges and universities to build on-campus housing to make more off-campus housing available to local residents, Mitchell points out.

Tapping private financing for student housing and other non-academic projects can free up money for a school to spend on its educational mission, he adds, noting Northeastern University’s plans to use a P3 to build and manage student dorms, which will allow it to fund a new $225 million science and engineering building.

“There is a growing understanding that the old college business models are insufficient to meet the rigors and demands of newer strategic thinking. The tired, archaic principles that govern the cultural inertia that inhibited private investment are breaking down — especially among the more nimble institutions, those willing to experiment from a position of strength and those that have no choice,” Mitchell writes.

April 28, 2016

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by Jenna Magan | Devin Brennan

04-26-2016

Bad press has blurred the fact that not all public pension plans are underfunded and overly generous.

Public pension plans have gotten a lot of bad PR in recent years. And while some of that bad press is certainly warranted, it’s wrong to assume they’re all a failure. In fact, there are many plans across the country that are humming along fine.

Case in point: Missouri’s Local Government Employees Retirement System, or LAGERS. Last year, a reporter for the Springfield News-Leader wanted to know why the city’s pension plan was just 80 percent funded — far below the fund’s aggregate 94 percent funding level. LAGERS has the ability to compel payments from cities, so the reporter, Amos Bridges, wondered if the fund was letting Springfield off the hook.

As it turned out, LAGERS wasn’t. The current funding level only reflected active employees; It was closer to 90 percent when incorporating retirees. Additionally, LAGERS had Springfield on a payment plan to get back to a fully funded status.

“Defeated in my search for a scandal, I had to admit: These LAGERS people seem to know what they’re doing,” Bridges wrote.

But the News-Leader’s complimentary column is more the exception than the rule. Rarely is news ink ever used on a foiled search for a scandal. So what’s driving the generally negative coverage? Pension envy.

At a time when few Americans have any substantial retirement savings, public pensions are one of the only vehicles left that offer workers real retirement security. What’s more, the ones that make headlines seem overly generous to taxpayers working in the private sector. Financial advisors recommend a retirement income somewhere around 70 percent of a retiree’s salary, and the average American has far less than that saved.

In 2014, a study by the conservative American Enterprise Institute found that full-career state workers in five states — California, New Mexico, Oregon, Texas and West Virginia — earned more in retirement income than in their final salary.

But it’s unfair to label all pension plans as overly generous taxpayer burdens. In the above five states and others, lawmakers enhanced benefits — often without paying for them — when times were good. The added-on benefits pushed liabilities higher and unfunded liabilities grew faster. Sometimes, governments skipped out on making their full pension payment, which added to the pressure. Then, the losses during the Great Recession only made matters worse. That’s simply not the case in many other states.

Employees, though, shouldn’t be relying alone on their public pension plans, according to LAGERS Executive Secretary Keith Hughes. One’s retirement plan should also include personal savings and social security benefits where available.

“We don’t believe the pension’s purpose is to create wealth for the member and their family forever and ever,” said Hughes. “We believe it is to provide [security] for them for their lifetime. If members want [a plan] to provide wealth, there’s probably another vehicle to do that.”

Part of the reason LAGERS and other similar plans are able to make their annual payments is because their benefits are modest and held in check. Replacement salary for these plans are typically between 30 and 50 percent of the employee’s annual salary. Often, there are checks and balances when it comes to adding benefits. LAGERS, for example, requires a cost study before a contributing government is allowed to enhance its benefits. And no government is allowed to increase benefits without paying for them.

So why don’t more places operate like these plans?

Speaking for the municipal plans, Hughes does admit that managing more than 1,000 plans — with their own menu of benefits — for about 700 governments is a lot of actuarial work.

Furthermore, not every place is capable of enforcing a payment mandate like LAGERS and other well-run plans. Those plans can intercept tax money collected by the state that’s due to the municipality if that government is delinquent on its pension bill. In addition to LAGERS, Illinois’ municipal fund and Idaho’s public employees fund mandate payment by state statute. Texas has the pension payment mandate in its constitution.

In the end, the pension envy resulting from some of the bad PR could present a unique opportunity for a larger discussion.

“I think one of the challenges is that a lot of Americans right now have nothing,” says Bailey Childers, head of the National Public Pension Coalition. “I think the question is, how do we take some of the benefits of professionally managed pensions and take that to private sector?”

GOVERNING.COM

BY LIZ FARMER | APRIL 28, 2016

Institute of Municipal Finance & Governance Presentation.

Jacqueline Peterson
IMFG Blanche and Sandy Van Ginkel Graduate Fellow, 2015-16
PhD Candidate, Political Science
University of Toronto

Read the Presentation.