Municipal Bond News 12/16/24

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High Yield Hospital Bonds Biggest Winners…Individuals Buy More Muni Bonds…Bellwether Yields Surge… California Outlook Raised…Judge Seeks PREPA Debt Pact…Deadline Looms on Chicago Budget Plan… Colleges Face Demographic Risks…SALT Changes

High Yield Hospital Bonds Biggest Winners…Junk hospital bonds have delivered over 13% index returns this year, the highest returns among all muni bond sectors. The search for higher yields has fueled a surge in demand for lower-rated bonds. Notably, bond issuance in the healthcare sector has more than doubled in 2024 from a year ago. A wave of hospital mergers led to the issuance of several billion dollar plus muni bonds. This “essential service” tax-free bond sector is amidst a slow recovery, and operating margins are expected to remain below historical levels in 2025. A Municipal Bond Specialist’s valuable expertise helps investors select and source quality high yield bonds. This year, high-yield municipal bonds have achieved returns of 7.67%, outperforming the overall year-to-date returns of municipal bonds, which stand at 2.14%.

Individual Investors Buy More Muni Bonds…Households’ muni bond purchases, which includes direct purchases in brokerage accounts, have grown 15% from a year ago. Notably, foreigners have increased investments in tax-free bonds, showcasing the ‘haven’ status and attractive yields offered by the muni bond market. In third quarter of 2024, households held $1.86 trillion of state and local government bonds, or approximately 44% of the $4 trillion muni bond market. The total market value of outstanding state and local government bonds reached $4.152 trillion in September 2024, marking a 2.8% increase from the second quarter of this year and a 9.8% rise from the third quarter of 2023. U.S. households are the largest holders of state and local government bonds.

Bellwether Yields Surge…Top-rated muni bond index yields shot up about 15 basis points last week, following a 20-basis point surge in comparable U.S. Treasury yields. Prospects of fewer rate cuts in 2025 than anticipated led bellwether yields to rise. Last week, muni bond funds, a gauge of investor demand, saw outflows, breaking a streak of cash inflows for 23 straight weeks. Munis have seen strong demand this year, with $42 billion of inflows into bond funds, bucking the trend of two consecutive years of outflows in 2022 and 2023.

California Outlook Raised…Outperforming state revenue driven by a strong economy has led Moody’s to raise its outlook on California to stable from negative, while affirming its ‘Aa2’ credit rating. Previously, in May 2023, Moody’s assigned a negative outlook due to uncertainties surrounding state revenue after California faced a $31.5 billion deficit that year. However, the Golden State’s fiscal challenges have eased after implementing spending adjustments. While state reserves have come down from a record high, they remain at a satisfactory level.

Judge Seeks PREPA Debt Consensus… “The best Christmas present ever could be some progress on some of the issues we’ve been talking about,” Judge Swain said last week at a court hearing on Puerto Rico electric utility debt resolution. The mediation team has warned that the mediating parties are far from consensus. Although the US Court of Appeals for the First Circuit has ruled that bondholders have a lien on the utility’s future net revenue, the oversight board has asked the Court of Appeals to reconsider this decision. Bondholders mediating the debt dispute have offered a $2.5 billion funding to help the utility modernize and offered to trade in legacy bonds for new 50 -year bonds. An updated multi-year fiscal plan from PREPA is expected by year-end. This will show how much money the utility is collecting and what its expenses are. A lawyer for the bondholder group stated, “In order for this case to move forward, no matter what, we have to figure out what the net revenues are.”

Deadline Looms on Chicago Budget Plan…Property tax hikes and cuts to policy/fire departments are key issues as lawmakers work to address a $1 billion deficit in the city’s operating budget. The latest update of the Windy City’s spending plan calls for a host of other taxes and fees to rise by an additional $165 million. This includes a 2% increase in the tax levied on software licenses, cloud services, other digital goods and a 1.25% increase on subscriptions to streaming and cable television services. City officials aim to achieve $45 million in “operational efficiencies” across the city’s departments. Mayor Brandon Johnson dropped his plan to raise property taxes amid political obstacles. Last week, the Mayor postponed a city council vote amid contentious budget talks. Johnson and his team are working to update the budget plan to win lawmakers’ support. City Council plans to meet today as the budget faces a December 31 statutory deadline.

Colleges Face Demographic Risks…Although state funding, endowments and donor support are bright spots, colleges face a ‘demographic cliff.’ Enrollment at U.S colleges fell by 15% in 2021 compared to 2010. Over the last 27 years, over 1,660 institutions have closed, mostly private for- profit colleges. Moody’s has a stable outlook on the higher education sector but notes that colleges suffering from enrollment challenges will likely face downward pressure on tuition revenue. Large, comprehensive universities are projected see up to 4% tuition revenue growth in 2025, while smaller colleges could lag. A Philadelphia Fed study suggests that colleges closures could soar over the next few years. In this competitive landscape, colleges will likely continue ramping up borrowing plans in 2025.

SALT Changes Ahead…President-elect Trump’s economic advisers are considering doubling the state and local tax (“SALT”) deduction to $20,000. Lawmakers are poised to make changes to the SALT deduction in itemized federal tax filings in 2025. President Trump plans to extend his 2017 package of tax cuts, potentially enact some new ones, and cut government spending. The U.S. government’s large deficit, inflation and interest rate risks could add to market volatility next year. Most U.S. state constitutions include a “balanced budget requirement,” which prevents states from spending more than they collect in a fiscal year.

Compare 30-Year taxable U.S. Treasury yield 4.58% to 30-Year tax-exempt Municipal Bond yield “AAA” 3.61% “AA” 4.07%; “A” 4.17%. For investors in the 35% tax bracket, a 3.6% tax-exempt yield is equivalent to a 5.5% taxable yield. Top-rated long-term tax-free bonds yield 79% of comparable taxable U.S. Treasuries.