Week of 12/9/2019

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Chicago Board of Ed Bonds Upgraded By All Ratings Firms… Another Ratings Upgrade for Wayne County, MI… Puerto Rico General Fund Revenue Trends Higher, Beat Estimates… Puerto Rico Water Utility Bonds Upgraded… Toll Roads Outlook Stable… More Taxable Munis Next Year, Plenty of Demand…

Chicago Board of Ed Bonds Upgraded By All Ratings Firms…Moody’s became the third rating agency to upgrade Chicago Board of Education, IL Chicago Public Schools (CPS) bond ratings last week, following S&P and Fitch upgrades this August. Improved revenues and liquidity led Moody’s to upgrade the rating on CPS to “B1” from “B2”. In recent years, Illinois boosted its support to CPS by picking up a portion of pension costs, approving a property tax levy for pensions and increasing state aid. State actions cover nearly 90% of the District’s pension payments. The District’s general obligation alternate revenue bonds are secured by pledged state aid; an unlimited tax levy on property taxes is abated only after sufficient pledged state aid is deposited with the trustee for bond debt service. Chicago’s vast tax base, which has grown by 48% over the last five years to $306 billion, is revenue positive for CPS. While revenues are likely to grow, expenses too will grow at a steady clip over the next five years. Budgetary gaps ranging from 0.5% to 1.5% of annual revenue are not insurmountable. A $40 million surplus is expected in 2019 following a $600 million surplus in 2018. CPS’s significantly improved liquidity is likely to remain stable over the next two years per Moody’s. Continued revenue growth and expense adjustments that enable CPS to absorb higher costs of pensions and recent union contracts bring a positive outlook on $3 billion speculative CPS Bonds.

Another Ratings Upgrade for Wayne County, MI…For the second time this quarter, Wayne County earned ratings upgrades for its financial resilience. Structurally balanced finances, a surplus General Fund balance since 2016 and strong reserves led Fitch to upgrade Wayne County ratings to “BBB+” from “BBB-”. In September, Moody’s upgraded Wayne County’s credit rating to “Baa1”. Four years ago, State oversight allowed the county to achieve a lower cost trajectory. Core spending was cut through department reorganization, contract renegotiation and retirement plan changes for significant savings. The county exited state oversight in 2016 and a series of upgrades followed to cement an investment grade rating for approximately $280 million muni bonds. The county’s economy is centered around the Detroit area where economic development has renewed tax base growth and employment has rebounded. A five-year trend of surplus General Funds is likely to continue. A surplus is expected in Fiscal 2020. “This upgrade by Fitch further demonstrates that Wayne County’s recovery plan has led to a sustainable, efficient government and built the foundation for the long-term rebuilding of the county,” Wayne County Executive Warren C. Evans said. “We have reduced our long-term liabilities, developed a reserve, and we are better prepared to weather future economic downturns. This upgrade reflects that reality.”

Puerto Rico General Fund Revenue Trends Higher, Beats Estimates…Puerto Rico General Fund revenue is trending higher and outperforming. Government cash has grown 50% within a year, to $16.3 billion from $10.9 billion a year ago. The outperformance is driven by higher corporate income tax collections and economic recovery. This year, Puerto Rico General Fund revenues are 23% higher or $705 million more than a year ago and $667 million more than projected. In October, General Fund revenues increased 19.3% or $ 142 million more than last year and $ 179 million above estimates. In Fiscal 2019, record high government revenue of $11.3 billion was collected, which was 22% higher than prior year and 34.5% more than board projections. Strong tax collections and liquidity will factor in the Island’s general obligation bond debt restructuring. While mediation of $22 billion general obligation debt dispute is pending, the chief mediator has asked the federal Title III court to allow litigation to commence in January.

Puerto Rico Water Utility Bonds Upgraded…Fitch upgraded $3.3 billion Puerto Rico Aqueduct and Sewer Authority (PRASA) bonds to “CC” from “C” and removed negative watch. The water utility’s monthly cash balances, including funds for operations and debt service, have trended upwards over the past two years. Although structural changes are needed to reduce PRASA’s Fiscal gap, a July 2019 restructuring of federal loans has brought cash flow relief.

Toll Roads Outlook Stable…Transportation muni bonds have delivered 7.5% index returns this year. “BBB”-rated tax-free toll road bonds yield around 2.1% for 10 years. A year ago, similar bond yields were about 3.4%. Bond prices gain when yields fall. Ongoing growth in e-commerce and online retail sales has expanded commercial traffic on roads. Traffic and toll revenues are likely to grow in 2020, although at a slower pace than recent years. Toll road activity correlates directly with economic growth and gas prices; toll hikes are fueled by rising pension costs and debt service. Traffic growth of 0.5%-1.5% median and revenue growth of 1.5%-2.5% median is likely per Moody’s. Investor demand is fueled by additional yield of about 60 basis points for “BBB” toll road bonds compared to top-rated benchmarks. Next week, a California tollway agency Foothill/Eastern will issue $892 million taxable Assured Guaranty insured munis. Bond insurance, recent credit upgrades and higher yields for taxable “A-”/“BBB” bonds will draw wide interest from pension funds, foreigners and traditional muni buyers.

More Taxable Munis Next Year, Plenty of Demand…Taxable muni bonds have become more prominent this year. Lured by the higher yields on taxable municipal bonds, foreigners have built up record high portfolios of U.S. muni bonds. With $13 trillion of European and Japanese sovereign debt offering investors negative yields, muni bond yields are attractive. Large U.S. bond buyers such as banks have also boosted muni bond purchases to the highest in two years and retail investors have bought muni bonds for 47 straight weeks. In 2019, 14% of new muni supply was taxable compared to only 8% in 2018. In 2020, Bank of America Merrill Lynch forecasts $105 billion taxable munis will be issued, roughly 75% more than this year’s taxable supply should find plenty of takers.

Compare 30-Year taxable U.S. Treasury yield 2.27% to 30-Year tax-exempt muni bond yield “AAA” 2.13%; “AA” 2.42%; “A” 2.48%; “BBB” 2.91%. For investors in the 35% tax-bracket, a 2.91% taxexempt yield is equivalent to a 4.48% taxable yield. Top rated tax-free bonds yield 94% of comparable taxable U.S. Treasuries.