Week of 2/7/2022

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More Funding For Illinois Pensions, Reserves & Schools… Ratings Agencies Praise Illinois Budget… Municipal Bond Insurance Trends Higher… Puerto Rico Oversight Board Leader Steps Down… New Federal Reserve Governors…

More Funding For Illinois Pensions, Reserves & Schools… In Fiscal 2023, Governor Pritzker plans to spend less, sock away more in rainy day reserves and boost pension funding. For the first time in 50 years, Illinois’ underfunded public pensions could see supplemental pension contributions of $500 million. The extra payments bring pensions closer to ‘tread-water’ indicator. IL pension assets got a boost from a 20% investment return in Fiscal 2021. Illinois’ public pension funds are $4.1 billion short of an actuarially determined contribution. If approved, “this will be the first time since the beginning of 1994 that we will reduce our pension debt by more than our required contribution,” Governor Pritzker said. In Fiscal 2023, the state could reduce its bill backlog to $2.7 billion down from a high of $16 billion in Fiscal 2017. “The massive bill backlog that contained bills past due for as long as 500 days now contains only unpaid general fund bills averaging 15 days old,” Pritzker noted. Near depleted rainy- day funds could be as high as $879 million in Fiscal 2023, still short of a $2 billion statutory target. “And that $3.2 billion structural deficit, well today I’m pleased to announce Illinois will end this fiscal year with a $1.7 billion surplus, the first of its kind in more than 25 years,” Pritzker announced. Fiscal progress stands in sharp contrast to deficits projected in November 2021, and a turnaround from November 2020 when a $4 billion deficit loomed upon Pritzker’s failed progressive tax plan. Outperforming tax revenues are a driver, as only $500 million of federal direct aid is in the budget. Illinois expects an additional $4 billion of revenue above recent forecasts over the next two years. In January, Illinois’s revenue from state sources rose 37% from a year ago from gains in sales and income taxes. Pritzker’s proposed $45.4 billion spending blue print for Fiscal 2023 is a 3.4% drop from current fiscal year. Positive for Chicago Public Schools, state aid to schools includes the scheduled $350 million annual increase and raises spending by another $150 million. Illinois is in stronger fiscal shape than earlier forecast, and its budget plan is another step forward.

Ratings Agencies Praise Illinois Budget… “There are some proposals in the executive budget that clearly target the state’s biggest credit challenges,” a Fitch analyst noted, “To the state’s credit, they’ve unwound many of the one-time budget maneuvers implemented before and during the early months of the pandemic and have also continued progress in paying down the bills backlog to much more sustainable levels.” A S&P analyst added, “It is a budget based on reasonable assumptions that is addressing some of the credit risks we’ve discussed so to that end it is a budget that is taking steps in a positive direction.” Moody’s echoed, “In general, any additional money that goes to reserves or pays down long term liabilities that are coming from excess revenues we view positively.” Illinois still faces more long term liabilities and cost pressures than other states. Current revenue outperformance has allowed the lowest rated U.S. state to take a step forward. While the administration labeled the budget balanced, analysts have clarified that a deeper review is needed to assess the level of structural balance. An important credit improvement is higher transparency and a ‘relatively straight forward’ budget process. A unified state government has made a vast difference. A few years ago, Illinois budgets were unusually delayed amid political impasse. “After decades of credit downgrades by the end of my second full fiscal year in office, Illinois received two credit upgrades. The first upgrades the state has received in over 20 years,” Governor Pritzker cited Illinois’ credit improvement story.

Bond Insurance Trends Higher… Insured bond volume is at the highest since 2009. Continuing a growth trend, bond insurers provided financial guarantees on $38 billion muni bonds in 2021, 9% more than prior year. In 2020, the insured bond volume grew 7.6%, following 5.8% growth in 2019. “An important trend in recent years has been that institutional investors have continued to recognize the value of our guaranty, enabling us to help launch more of the market’s largest transactions,” Assured Guaranty CEO said. Bond issuers and investors value the higher liquidity and ratings stability of insured bonds. Build America CEO added, “We delivered value for both large and small transactions, negotiated transactions and competitive bid transactions in many market segments and across a wide ratings spectrum.” Assured Guaranty and Build America Mutual are the only two bond insures writing new insurance policies on muni bonds. New business prospects of high quality bond insurers, AMBAC and National, will likely be boosted with Puerto Rico’s impending debt resolution. A higher rate environment spurs demand for bond insurance. The growth trend is set to continue in 2022.

Oversight Board leader Steps Down… On April 1, Oversight Board Executive Director Natalie Jaresko will resign from Board’s helm. “Puerto Rico has reached an important turning point.” Jaresko referred to the Island’s court approved debt restructurings, “I am leaving the Oversight Board at a time of recovery and stability.” Created in 2017, the Federal Oversight Board has remained mired in controversy. It has taken flak for ‘micromanaging government operations’ from Island politicians, while bondholders termed it as ‘overly politicized’. The Board has been a key player in the Puerto Rico’s debt settlement and will remain in place until the Island approves four consecutive balanced budgets. President Biden will appoint a new executive director.

New Fed Reserve Governors… Capitol Hill is abuzz with confirmation hearings for three new governors of the Federal Reserve System. President Biden nominated Sara Bloom Raskin, Lisa Cook and Philip Jefferson to fill three vacant seats on the Federal Reserve Board of Governors in Washington. The nominations are subject to Senate approval, and confirmation hearings are ongoing. Two vacant seats at the regional Federal Reserve banks of Boston and Dallas will be chosen by their respective private sector boards of directors, subject to approval of the Fed Board of Governors in Washington. Two members of the seven-member Fed Board of Governors were initially appointed by President Donald Trump, and two by President Obama. The current Fed Chair Powell, who joined as a Fed Governor in 2012, and current Fed Vice Chair Lael Brainard are President Obama nominees and both won President Biden’s approval. Fed Chair Powell has the distinction of serving during the Obama, Trump and Biden administrations. President Biden will bring three new leaders to shape U.S. monetary policy.

Compare 30-Year taxable U.S. Treasury yield 2.2% to 30-Year tax-exempt muni bond yield “AAA” 1.90%; “AA” 2.10%; “A” 2.44%; “BBB” 2.89%. For investors in the 35% tax-bracket, a 2.8% tax-exempt yield is equivalent to a 4.45% taxable yield. Top rated tax-free bonds yield 86% of comparable taxable U.S. Treasuries.