Municipal Bond News 11/18/24

Landmark Appeals Court Ruling Upholds PREPA Revenue Lien…Muni Credit Upgrades Surpass Downgrades…Experts See Tax-Free Yield Opportunity…Congestion Tolls Revived… Atlantic City Credit Upgraded…2025 Muni Bond Supply… Wall Street Dials Back Rate Cuts… Fed Not In A Hurry…

Landmark Appeals Court Ruling Upholds PREPA Revenue Lien… Credit positive: The U.S. Court of Appeals ruled in favor of Puerto Rico electric utility bondholders, overturning a 2023 Title III Court ruling that limited the revenue lien granted to bondholders. A three-judge panel determined that bondholders have a claim on all the principal and interest due, which amounts to just under $8.5 billion. By contrast, U.S. District Judge Laura Taylor Swain’s 2023 ruling limited bondholders’ claim to only $2.4 billion. First Circuit Judge William Kayatta Jr. wrote that the board’s argument, that PREPA could avoid a lien on future revenues because such revenues do not yet exist, was incorrect. The bondholders requested that the bonds be payable from investment earnings, federal subsidies, or insurance proceeds. The First Circuit rejected this request, ruling they have a lien on net revenues, or whatever is left after operating expenses are paid. The Appeals Court denied the oversight board’s request to rehear the revenue lien litigation. The bondholder-friendly ruling empowers bondholders in mediation talks. The landmark ruling sets a favorable precedent for revenue-secured muni bonds, integral to the $4 trillion muni bond market.

Muni Credit Upgrades Surpass Downgrades…Upgrades continued to outpace downgrades in the third quarter of 2024. Moody’s credit upgrades outnumbered downgrades by more than three to one. Continued economic stability and stronger finances of borrowers are reflected in the trend. Additionally, favorable outlook changes slightly exceeded unfavorable ones. Local governments and infrastructure led the way for upgrades while healthcare and higher education had more downgrades than upgrades. Notably, the charter school sector accounts for the most speculative grade obligors. Ratings within the muni bond sector are predominantly investment grade.

Experts See Tax-Free Yield Opportunity…“We see the recent rise in rates as an opportunity to put cash to work and increase income in portfolios,” the largest fixed income manager told Bloomberg last week, adding “We are past the risk event in elections. We are telling people that if the Fed goes to neutral, it is time to take some duration risk.” Morningstar recently noted that “the value proposition for municipal bonds has rarely been stronger.” Investors are trying to gauge impact of President Trump’s policies and the future path of Fed policy. Current long-term muni bond yields are about 25 to 30 basis points higher than lows recorded in January and August. Top-rated long term muni yields have dropped 15 bases from a week ago.

Congestion Tolls Revived…A $9 toll to enter mid-town Manhattan is slated to start on January 5. “This $9 daytime toll is enough to secure the $15 billion in MTA funding that congestion pricing was intended to support,” Governor Kathy Hochul said. The plan needs to secure an MTA board vote on the new pricing structure next week, as well as federal review. Hochul (D) paused the toll plan just weeks before it was set to launch this summer, with the infrastructure already in place. President-elect Trump is opposed to congestion tolls. Post-elections, Hochul has a small window to revive the tolls. $9 was the lowest toll-rate cited on the environmental impact report for congestion tolls; any lower amount would require a new report and potentially delaying the implementation of the tolls significantly. The new tolls face legal and political challenges, including opposition from State of New Jersey.

Atlantic City Nears Investment Grade…S&P raised its long-term rating and underlying rating on the City of Atlantic City’s general obligation debt to ‘BB+’ from ‘BB’ and kept its positive outlook. “The upgrade reflects continued strengthening of the city’s financial position and management practices,” S&P said. “Because of our competitive nature, we were seeking a multi -tier upgrade, but we are more than grateful for the one we received,” said City of Atlantic City Mayor Marty Small adding “We are confident the city will be in investment grade much sooner than later.” In April, Moody’s also upgraded Atlantic City. With a positive outlook in place, Atlantic City is one step away from achieving investment-grade status.

2025 Muni Bond Supply…States and local governments are poised to issue a record amount of muni bonds next year. Wall Street estimates for next year’s muni bond issuance range from $485 billion to $520 billion. Payments of $480 billion in principal redemptions and $160 billion of coupon payments will be returned to investors next year. About $30 billion high yield muni bonds are anticipated in 2025 per Barclays forecast. Airports, colleges and hospitals are expected to continue ramping up borrowing plans next year.

Wall Street Dials Back Rate Cuts…Major Wall Street banks are reconsidering the timeline for anticipated rate cuts in 2025. Policy uncertainties would call for quarterly rate cuts from March, rather than at each meeting, JPMorgan estimates. Goldman Sachs suggests the Fed “might want to move more cautiously to make sure it gets the stopping point right”, forecasting quarter-point rate cuts at each meeting until March and final moves in June and September. Barclays has revised its forecast, now predicting the Fed will reduce interest rates twice in 2025, down from an earlier expectation of three cuts. TD Bank anticipates the Fed holding interest rates steady from January to July, giving officials time to assess the impact of Trump’s new policies, before resuming cuts as the economy slows.

Fed Not In A Hurry…“The economy is not sending any signals that we need to be in a hurry to lower rates,” Powell said last week. The Fed Chair said that inflation was likely to continue to move lower, “albeit on a sometimes-bumpy path.” Powell reiterated that it was too soon to say how policy changes by President-elect Trump and a Republican-led Congress might reshape the outlook for the economy and rates. Bond markets assign fewer than 60% odds of a 25 basis point rate cut in December, with two additional rate cuts in 2025.

Compare 30-Year taxable U.S. Treasury yield 4.67% to 30-Year tax-exempt Municipal Bond yield “AAA” 3.74% “AA” 4.07%; “A” 4.23%. For investors in the 35% tax bracket, a 3.7% tax-exempt yield is equivalent to a 5.7% taxable yield. Top-rated long-term tax- free bonds yield 80% of comparable taxable U.S. Treasuries.