Municipal Bond News 9/11/23

Income Investors Go Back to School…Airport Muni Bonds…Recent Muni Bond Sales…Charter School Revenue Grows…State Revenues Falter…Lawmakers Weigh FEMA Funding… September Rate Pause Likely…

Income Investors Go Back to School…Income investors are finding attractive tax-free yields in the $4 trillion muni market, while helping finance schools, cities, counties, and U.S. state operations or projects. Such bonds are secured by the full faith and credit of government payors. “We think the valuation is relatively attractive right now,” a Schwab strategist told CNBC “You are getting something that is high credit quality to begin with and we think the credit backdrop is relatively stable right now and could possibly improve.” For those in the highest tax bracket, current muni yields can reach over 6% on a tax-adjusted basis, or higher for top earners residing in high tax states. The credit quality of local GO bonds is pretty solid, a strategist said. While revenues from income and sales tax may slow, property taxes are likely to remain largely stable. Prices of many real estate assets such as homes have risen significantly over the past several years, which could eventually translate into more revenue from property taxes. Property taxes on certain commercial real estate could be prone to a lower assessment. About 45% of local GO bonds are ‘AAA’ rated. Not all local governments are created equal. Some regions are more exposed to post-COVID-19 lifestyle changes, while others are thriving. Varied governance and diverse revenue streams differentiate local GO bonds across the nation. A GMS Municipal Bond Specialist is best equipped to research a local government’s reserves, budgets, and regional developments. Hunting for yield, investors are finding opportunities in the $4 trillion muni bond market. An institutional investor noted recently “This is a great time to be in muni bonds.”

Airport Muni Bonds…In 2023, the supply of airport bonds has diminished to a third of last year’s level. August saw a revival of airport bond issuance. Three major airports, Chicago, Atlanta, and Dallas-Fort Worth collectively sold about $1.8 billion of airport bonds. Air travel is back. Sooner-than- expected recovery from the pandemic, aided by significant federal funds points to the resilience of airports. U.S. airports need $151 billion over the next five years to meet infrastructure needs per Airports Council International -North America. Large hub airports including Charlotte and Minneapolis-St. Paul will issue new muni bonds shortly to fund capital projects. An index of airport muni bonds has returned 3.2% over the last year.

Recent Muni Bond Sales…Two large billion-dollar plus muni bond issues were issued last week. California GO bonds saw a yield of 4.08% for 30-year 5.25% coupon tax-free bonds callable in ten years. Port Authority of New York & New Jersey offered a 4.1% yield for 5% coupon 20-year bonds. This week, close to $7 billion in new muni bonds are expected.

Charter School Revenue Grows…Rising enrollment and higher state funding have boosted charter school revenue. Most pandemic-related federal aid reimbursed the sector’s higher expenses. Operating margins have trended in the high teens for the last three years, reflecting stability. Schools tend to carry a high debt load, related to expansion and significant facility upkeep, to meet growing demand. Charter schools with long operating history and those that may have repaid significant debt, tend to have higher ratings. Charter schools are a niche high yield muni sector.

U.S. State Revenues Falter…For the eleventh straight month, U.S. state revenue collections declined in June 2023. U.S. state revenue slid 10.7% in Fiscal 2023 which ended in June, from a year ago. States faced serious revenue haircuts on the income tax front but held steady on their sales tax collections. June saw personal income taxes decline by 20.5%, corporate income taxes decline by 10.9%, and sales tax revenues increase 0.1%, all adjusted for inflation per Urban Institute. While U.S. states had largely forecasted flat-lined revenue growth for Fiscal 24, some states are beginning to lower revenue forecasts. “Economic challenges lie ahead due to factors like increased inflation, financial market volatility, rising interest rates and a decline in housing prices,” Urban Institute added. “This could ripple into weakened economic activity, further straining state tax revenue collections in the upcoming months. The exceptional budget surpluses witnessed in fiscal years 2021 and 2022 are unlikely to recur.” Lower state tax collections, which comes after robust revenue in 2022, could force a few U.S. states to rethink tax cuts handed out in recent years.

Lawmakers Weigh FEMA Funding…Federal disaster relief, that states and local governments rely on to recover from natural disasters is facing heat. FEMA’s Disaster Relief Fund is dwindling and “approaching exhaustion” per FEMA. The House and Senate are currently debating a $12 billion appropriation, sought by the White House to help restore the Disaster Relief Fund. Faced with growing extreme climate events, FEMA has been forced to set up new spending restrictions. Historically, federal relief funds spurred rebuilding and revitalized local economies of disaster-hit areas. Growing climate risks suggest that solely relying on federal recovery funding may not be prudent risk management for states and locals. It remains to be seen if the $4 trillion muni market could play a role in filling future funding gaps. Meanwhile, ratings agencies and muni bond investors are attentive to climate risks and mitigation.

September Rate Pause Likely…A voting Fed official signaled that the Fed was preparing to hold its benchmark interest rate steady at next week’s meeting. “There’s nothing that is saying we need to do anything imminent anytime soon, so we can just sit there, wait for the data and see if things continue,” Fed Reserve governor Christopher Waller added he was highly attuned to incoming inflation data. While there had so far been back-to-back months of “good reports”, he said it was still an open question whether the ongoing moderation was a “trend” or just a “fluke”. “We’ve been burnt twice before,” he said, noting declines in price pressures in 2021 that reversed course the year after. “I want to be very careful about saying we’ve kind of done the job in inflation until we see a couple of months continuing along this trajectory”. Fed officials have stated that they will depend on economic data when making interest rate policy decisions and plan to keep policy rates higher for longer.

Compare 30-Year taxable U.S. Treasury yield 4.37% to 30-Year tax-exempt Municipal Bond yield “AAA” 3.95%; “AA” 4.31%; %; “A” 4.57%. 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 90% of comparable taxable U.S. Treasuries. If you have any questions or desire updated information, contact your GMS Account Executive.