Municipal Bond News 1/8/24

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High Yield Munis Offer Value…Muni Bonds Outperform… Lower Policy Rates in 2024… Lone Star State Tops Muni Bond Issuance…New Congestion Tolls In 2024…Illinois Revenue Outperforms…State Income Tax Cuts On The Chopping Block…

High Yield Munis Offer Value…“State and local government bonds remain a favorite fixed income choice for individual investors due to tax benefits and historically strong credit quality”, Barron’s wrote at the start of the new year, adding “The best value in the muni market is in long-term issues where yields are much closer to those on Treasuries. And yields are higher on debt with lower ratings than triple-A. LA Airport 29-year bonds yield about 4%, and junk-grade Ohio Buckeye tobacco bonds due in 2055 yield over 5%.” State and local government bonds posted the best monthly returns in December in over two decades. The end of rate hikes set off a strong year-end widespread bond rally. With interest rates poised to decline, cash on the sidelines will drive demand for tax-free investments. This year, lower-rated tax-free bonds are likely to draw investor attention. High yield muni bonds were among the best performing sectors of U.S. debt in 2023. Last year’s muni bond rally was a rebound from the bond market downturn of 2022. Investors are asking if the run-up in muni bond prices since November could lead to tepid returns in 2024. The upcoming presidential election, economic uncertainty and the pace of the Federal Reserve policy rate cuts are factors.

Muni Bonds Outperform…Since year-end, tax-free bond yields have remained relatively steady amid volatility in U.S. Treasury bonds. U.S. Treasury yield hit 4% last week, about 20 basis points higher than year- end, while top-rated muni bond yields have climbed about 7 basis points. A pullback from near-certain odds of a March rate cut led to the yield surge. December jobs and wages gained more than expected. Municipal bonds outperformed comparable U.S. Treasury bonds. State and local government bonds offer a tax advantage. State and local government bond issuance typically falls short of reinvestment needs. In January, investors will receive $46 billion cash from principal and interest repayments. Reinvestment need is almost double the expected supply.

Lower Policy Rates in 2024…A year from now, policy rates are poised to be lower. Fed officials envision cutting rates in 2024, while noting that higher rates will persist “for some time.” Eleven Fed officials see three or more quarter point rate cuts this year. The Fed raised rates at 11 of 12 policy meetings between March 2022 and July 2023. For the last six months, the benchmark federal-funds rate has remained steady at a range between 5.25% and 5.5%, a 22-year high, as inflation has cooled. The rate hikes are working. Fed officials have stopped referring to inflation as “unacceptably high” and noted “clear progress” on curbing inflation, Minutes of the Fed’s December meeting revealed.

Lone Star State Tops Muni Bond Issuance…Defying the trend of lagging new muni bond sales nationwide, the Lone Star State recorded its second highest annual borrowing in 2023. For the first time in over thirty years, Texas governments topped as the nation’s largest municipal bond issuer. The borrowing binge is driven by a population boom. Texas has gained the most population over the last two decades, outpacing Florida, which ranks second. Bigger airports, larger schools, more roads along with weather-related infrastructure are being funded by municipal bonds to keep pace with needs of a growing population. In 2024, Texas issuers will be prominent on muni bond calendars. Texas governments sold $58 billion muni bonds in 2023, followed by California, Illinois and New York.

New Congestion Tolls In 2024…The nation’s first congestion pricing plan could become effective in May. MTA’s congestion pricing plan is currently undergoing a 76-day public hearing process. On Dec. 7, the MTA board voted to move ahead with its congestion pricing plan. By May, MTA could start collecting new tolls to fund billions of dollars of capital improvements. The new toll plan faces opposition from a neighboring state. Amid the public review, new electronic tolling stations are being built. MTA approved a $19 billion operating budget for Fiscal 24. Fare evasion has forced MTA to cut its 2024 revenue forecast. About 45% of MTA bus riders evade fares. MTA anticipates ridership will reach 80% of pre- pandemic levels by 2027. The nations’ largest transit agency foresees balanced spending plans through 2027. A payroll mobility tax has helped offset lower ridership. MTA CEO said, “So much has been done outside the MTA to balance our books.”

Illinois Revenue Outperforms…Illinois general fund revenue continues to be well ahead of last fiscal year’s pace. General fund revenue is about 3% higher for the first half of Fiscal 24 (July to December). December general fund revenue rose 8.5% from a year ago. For the second year in a row, Illinois finances have seen an improvement per an interim mid-year state audit. However, Illinois pension liabilities have risen 4% from prior year, despite recent supplemental pension contributions and a bond-funded pension buyout program. Financial reporting timelines have improved in recent years. Illinois audits, due on December 31, delayed beyond a year are a thing of the past.

State Income Tax Cuts On The Chopping Block…Four in five U.S. states have passed some type of income tax break since 2021. This marked the largest wave of individual income tax cuts since U.S. states began levying such taxes over a century ago. As a result, aggregate state revenue collection is likely to drop by $13 billion this year. Income, sales, property and gas taxes are among the biggest state taxes. With some U.S. states facing deficits, the trend of income tax cuts is likely to fade. However, lawmakers are facing complaints about higher property tax bills and higher real estate assessments and could raise the issue of some property tax relief.

Compare 30-Year taxable U.S. Treasury yield 4.20% to 30-Year tax-exempt Municipal Bond yield “AAA” 3.45%; “AA” 3.80%%; “A” 4.15%%. 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 87% of comparable taxable U.S. Treasuries.