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Municipal Bond News 5/30/23
Higher Muni Bond Yields May Not Last…Muni Bonds’ Dismal May Return…Federal Debt Impasse Adds to Muni Bond Supply Woes…Illinois Bonds Outperform…Hospitals Seek Higher Government Reimbursement…Chicago Property Tax Revenue Stable…U.S. States’ Revenue Weaker…
Higher Muni Bond Yields May Not Last…Tax-free bond yields are the highest since last October. A sell-off in United States Treasury bonds amid federal debt ceiling impasse led to the spike in yields. Long term Muni bond yields rose 15 to 20 basis points, while Treasury bond yields shot up 25 to 30 basis points over the past week. Long-term tax-free muni bonds yield 95% of taxable Treasury bond yields. Retail investors are beginning to find value in higher long-term tax-free bond yields. Headlines on debt ceiling negotiations could bring near-term volatility. Timing the market may be challenging. With lawmakers poised to vote on a federal debt pact struck over the weekend, investors question if higher yields could be short-lived.
Muni Bonds’ Dismal May Return…Municipal bonds had the worst showing for May in over three decades. Municipal bonds lost 1.38% in May, defying average May gains of 0.9% over the past decade. However, municipal bonds outperformed U.S. Treasuries’ 2.17% loss in May. Concerns about federal debt ceiling impasse have contributed to lower bond prices. Fed officials are divided on future rate hikes. Several Fed officials believe that more rate hikes ‘may not be necessary’, and some said more rate hikes would ‘likely be warranted’ per Fed May 2-3 meeting Minutes released last week. The sale of Silicon Valley Bank’s $7 billion municipal bond portfolio during May also put pressure on bond prices. Lower bond prices could be temporary. Usually, summer months bring positive returns for municipal bonds. During Summer, fewer municipal bonds are issued, and investor demand for tax-free reinvestment of coupon income soars. Inflation expectations have ebbed. The Fed is closer to the end of its rate hike cycle. Historically, long- term and high-yield municipal bonds tend to outperform as the Fed ends a rate hike cycle.
Federal Debt Impasse Heightens Muni Bond Supply Woes…Heightened uncertainty hanging on financial markets until the federal debt impasse is resolved impacts states and local government borrowing plans. Several bond issuers including New York City put off anticipated muni bond sales. Short-term borrowing rates could spike, at least temporarily, a disadvantage for local governments. “Cities, towns and villages would have to delay or cancel many projects, such as bridges and sewer system upgrades, until interest rates return to normal. This would impact infrastructure projects and the jobs they create particularly hard, disrupting local economies, municipal budgets and much-needed infrastructure improvements in communities across the country,” a National League of Cities spokesperson said. Political partisanship led Fitch to place its ‘AAA’ rating on the United States on negative watch last week. Moody’s is looking for a resolution by mid-June to avoid a sovereign rating downgrade.
Illinois Bonds Outperform…Among U.S. states, Illinois GO bonds’ 2.1% year-to-date return is the highest. Last week, lawmakers approved Illinois’s $50 billion FY24 budget. The spending plan brings supplemental pension contributions beyond what is mandatory, pays off debt and funds school aid. Illinois is current on paying its bills and plans to shore up reserves. Both Fitch and S&P analysts said they will be watching how the state manages a lower revenue forecast and expense pressures. “April 2023 revenues were off projections, so we’ll be watching the collections to see if that was an aberration or the start of a trend,” an S&P analyst noted. The state carries a bigger reserve balance unlike past recessions and its budgets are timely. The days of Illinois budget impasse are long gone. The budget appears to carry the ‘positive momentum’, a Fitch analyst said. The lowest-rated U.S. state offers about 90 basis points additional yield relative to top-rated municipal bonds.
Hospitals Seek Higher Government Reimbursement…Calls for higher Medicare and Medicaid reimbursements to hospitals are growing. Costs are far outpacing reimbursements. Overall hospital expenses increased by 17.5% between 2019 and 2022, outpacing Medicare reimbursement rate increases of 7.5%. Labor cost rose by 20.8% between 2019 and 2022. Costs of drugs and hospital supplies have spiraled higher. Inflation is moderating and signs point to further easing. Hospitals are getting better at keeping costs in check. Patient volumes are higher, but workforce shortages are a drag. In Illinois, lawmakers have proposed legislation that hikes Medicaid base rates by 20%, over half to come from federal sources. At least two national Hospital trade associations, Kaufman Hall and American Hospitals Associations are lobbying for higher federal and state reimbursements.
Chicago Property Tax Revenue Stable…With one of the nation’s largest central business districts, Chicago has exposure to an office real estate market marred by high vacancies post-COVID-19. The city’s property tax levy is based upon a dollar yield, shielding the city from real estate valuation changes. Moreover, substantial downtown population growth and ongoing residential development cushion the impact of lower commercial real estate valuations. Chicago property tax collections have soared despite stable property tax rates, as overall valuations shot higher. Chicago’s property tax collections have never decreased, even after real estate valuations fell in the wake of the Great Recession. Chicago’s credit profile benefits from its very strong legal ability to raise property taxes, not subject to caps on tax rates or any cap on the amount by which it can increase its levy.
U.S. States’ Revenue Weaker…25 U.S. states saw revenue decline between January and April 2023, compared to a year ago. Personal income tax collections saw double-digit declines. Sales tax revenues are also beginning to decrease. In recent years, many states sent tax rebate checks from budget surpluses but steered away from permanent tax cuts. High inflation, higher interest rates, financial market volatility, weakening home prices, and the banking crisis are all likely to lead to a continuing slowdown in economic activity, leading to further weakness in state tax revenue collections, per the Urban Institute. States are beginning to lower revenue forecasts. Since the Great Recession, U.S. states finances have improved steadily. States will likely respond to lower tax revenues with sustainable actions that support ongoing structural budget balance.
Compare 30-Year taxable U.S. Treasury yield 3.90% to 30-Year tax-exempt Municipal Bond yield “AAA” 3.71% “AA” 4.1%; “A” 4.4%. For investors in the 35% tax-bracket, a 4% tax-exempt yield is equivalent to a 6.15% taxable yield. Top-rated long-term tax-free bonds yield 95% of comparable taxable U.S. Treasuries. you have any questions If or desire updated information.