Municipal Bond News 1/22/24

Bond Rally Lures Hospitals…Muni Bond Demand Grows… Bond Issuers Back To Market…Federal Reserve-Wall Street Divided…New Jersey Enjoys Higher Tax Base, Lower Debt… New York State Boosts Migrant Funding…New York City Finances Improve…Cash Loses Favor…

Bond Rally Lures Hospitals…Hospitals are poised to issue $1.7 billion muni bonds this month. That is about four times the volume of bonds issued by hospitals a year ago. Hospital bond issuance dipped to the lowest in over two decades in 2023 Borrowing costs have slid sharply lower over the past two months, favorable for borrowers. Moreover, hospital operating margins have been improving, as staffing costs are lower. Since the pandemic, hospitals have borne the brunt of rating downgrades. However, patient volumes stabilized last year. Rating agencies are divided on the prospects for hospitals, an essential service sector. Moody’s carries a stable sector outlook for Hospitals, while S&P and Fitch maintain negative outlooks. New hospital bonds in the market this year include Minnesota’s HealthPartners, Scripps Health in southern California, Baylor College of Medicine in Houston, Texas and Florida’s Tampa General Hospital. A recent hospital bond issue was oversubscribed with “a long list of large orders.” Last year, Hospital bonds outperformed every other muni bond sector. As bond yields dwindled rapidly since November, demand for higher yielding tax-free bonds has surged.

Muni Bond Demand Grows…A bellwether for muni bond returns, institutional investor demand has grown in 2024. Bond funds have recently seen large cash inflows. Last year, muni bond funds saw outflows of $17 billion, lower than redemptions of $66 billion in 2022. In 2022, muni bonds posted the worst losses in four decades after massive redemptions from bond funds. Notably, high yield bond funds saw cash inflows in 2023, driving over 9% index returns for high yield muni bonds. When the Fed starts cutting policy rates, institutional investor demand for state and local government bonds could grow, a tailwind for bond returns.

Bond Issuers Back To Market…States and local governments are starting to bring to the market bond sales that were shelved when yields peaked last year. New bonds that refinance higher cost debt are also resurfacing. Last year refinancing activity plunged to the lowest in over twenty years. This contributed to a sharp pullback in primary market bond issuance. Chicago Midway International Airport and Illinois State Tollway Authority have recently issued new bonds to save interest costs. Yields have plunged about 100 basis points since October. The drop in yields has opened a window for issuers to tap the bond market for interest savings and new projects. Amid a resurgence in new bond sales, top rated muni yield benchmarks rose last week.

Federal Reserve-Wall Street Divided…Central bankers favor a slower pace of rate hikes than Wall Street expects. “My outlook right now is for our first cut to be sometime in the third quarter this year, and we’ll just have to see how the data progress,” Atlanta Fed President Raphael Bostic said. “I see no reason to move as quickly or cut as rapidly as in the past,” Fed Reserve Governor Christopher Waller noted that the central bank lower rates “methodically and carefully.” Meanwhile, major Wall Street banks are betting that rate cuts could arrive as early as March, and there could be six or seven 25 basis point rate cuts over the next year. In December, the Fed penciled three rate cuts in 2024. Amid a raging debate on the pace of rate cuts, bellwether bond yields rose to the highest in three months.

New Jersey Enjoys Higher Tax Base, Lower Debt…Tax base growth is a favorable trend in New Jersey. “Virtually every municipality we rate is seeing new investment and an increase in property values,” Moody’s estimates statewide taxable property is worth $355 billion. Statewide taxable property value has grown 28% since 2018, reflecting both new investments and higher property values. Growing tax bases are enabling revenue growth statewide. Garden State has lowered its debt by about $3.6 billion over the last three years. The debt paydown has been made from a Debt Defeasance and Prevention Fund set up by Governor Murphy. Debt retirement has led to interest savings of $1.3 billion. New Jersey has over $30 billion muni bonds outstanding. New Jersey bonds yield about 30 basis points above top-rated benchmarks.

New York State Boosts Migrant Funding…Governor Kathy Hochul’s proposed $233 billion spending plan for Fiscal 25 is the highest in Empire State history. It closes a $4.3 billion deficit the state faced. New York State plans to provide $2.4 billion to assist with New York City’s migrant care costs, $500 million more than last year’s allotment. Higher spending on education and Medicaid are in the plan. There are no tax hikes in the plan. Despite a one-time $500 million withdrawal from reserves, New York State has a $19 billion reserve, about 15% of spending. The budget continues state operating aid for MTA. New York State is a high-grade bond issuer, which issued $42 billion new muni bonds last year, the third highest muni issuance.

New York City Finances Improve…Mayor Eric Adams proposed a $109 billion budget that is brighter than expected, thanks to additional state funding, fewer migrants and higher tax revenue. Asylum seekers under the care of New York City have dropped to 68,000 from a peak of 171,000. Additionally, the city is poised to get more funding from the state. The city expects $2.9 billion more in expected tax revenues over the 2024 and 2025 fiscal years than initially expected. Since November, the Big Apple has faced spending cuts. Despite the improved finances, the city still faces projected budget gaps. Mayor Adams said “While we have put New York City on the right track, to keep moving forward, we still need help from the federal and state governments.”

Cash Loses Favor…It is no surprise that cash positions in portfolios are at 2-year low (per a Bank of America survey). Cash is set to earn lower and lower returns as the Fed cuts policy rates. In contrast, long term muni bonds are poised for favorable returns. Significant reinvestment risk and taxation makes cash less rewarding. Cash hoards in money market funds and bank deposits reached staggering levels last year. That is now changing. Long term investments that offer a tax advantage are likely to be favored by wealthy investors.

Compare 30-Year taxable U.S. Treasury yield 4.29% to 30-Year tax-exempt Municipal Bond yield “AAA” 3.60%; “AA” 3.95%%; “A” 4.22%%. For investors in the 35% tax bracket, a 3.5% tax-exempt yield is equivalent to a 5.4% taxable yield. Top-rated long- term tax-free bonds yield 84% of comparable taxable U.S. Treasuries.