Week of 7/1/2019

Muni Mid-Year Gains Best In Five Years…Chicago Liquidity In Good Shape…More Corruption in Island Government Is Wake Up Call To U.S. Lawmakers…Oversight Board Strayed Far From PROMESA Says Assured Guaranty…Puerto Rico ERS Bond Secured Lien Reduced…Cook County Illinois Finances Near Structural Balance…Bond Market Awaits Trade Talks Signal Amid Mixed Data…

Muni Mid-Year Gains Best in Five Years…At mid-year, muni gains are the highest since 2014. Lower-rated municipal bonds have gained 6.6% this year, outpacing general muni market bond gain of 5% per Barclays. Most Wall Street firms concur that new debt sales will likely fall short of the 2019 target range $360-$380 billion and investors will continue chasing tax-exempt income, which has been the case for 25 weeks in a row. States and local governments have been frugal with borrowing. “Getting a good allocation of bonds you like is a frustration for every investor in the muni market right now,” a muni analyst told Barron’s this week. Investors have put in orders several times the amount of bonds on offer creating market expectations for muni gains to continue. Wall Street firms, including Bank of America and Barclays expect muni bond yields to be lower by year-end. Prices of long term tax-free bonds are attractive relative to comparable taxable U.S. Treasuries. Long term top-rated tax-free muni yield 2.4% is 95% of comparable taxable U.S. Treasury yield 2.53%, reflecting attractive prices of tax-free munis.

Chicago Liquidity In Good Shape…Adequate financial flexibility and liquidity led Chicago to close out a short term bank line of credit. “We have enough cash on hand to cover capital needs for next year,” a city finance spokesperson stated. Savings of $22 million on financing costs are just a drop in the bucket as the Windy City needs to plug a budget gap exceeding $700 million. This month, Mayor Lightfoot announced changes to the workers’ compensation program, which aim to cut costs, restore accountability, and generate significant annual savings. “We are both strengthening our city’s fiscal position and freeing up dollars that are better allocated in next year’s budget,” Mayor Lightfoot plans to invite bondholders to an investor conference in advance of her inaugural budget, a tradition that former Mayor Emanuel set up during the peak of Chicago’s budget crisis when Chicago general obligation bond yields were 330 basis points more than top-rated munis. Since then, the yield gap has been cut in half due to the Windy City’s fiscal progress.

More Corruption in Island Government Is Wake Up Call To U.S. Lawmakers…U.S. Congress and Puerto Rico’s federal Title III Court, its Oversight Board as well as bondholders must take note of the public radio allegations, made by Puerto Rico’s Treasury Secretary Raul Maldonado that within his department influence peddling, issuance of fake licenses, destruction of documents, extortion, and access to privileged taxpayer records is rampant. The former finance chief revealed that an “institutional mafia” existed in Puerto Rico’s budget management agency which he oversaw. A former Treasury chief, Teresita Fuentes resigned earlier because of irregularities within Puerto Rico’s Treasury. An audit firm, BDO is being investigated by the FBI in connection with irregularities connected to contracts with the territory’s government. Allegedly, Governor Rosselló ordered the audit firm to change a report on Hurricane Maria aid that may have shown mismanagement in a relief effort that involved Rosselló’s wife. Governor Rosselló, who rejected the accusations, fired Maldonado while Puerto Rico Justice Secretary Wanda Vázquez ordered Maldonado to meet with prosecutors to present evidence to back up the corruption claims. This week Puerto Rico’s Chief of Staff appeared before Federal Grand Jury investigating corruption related to accounting in the Island’s health insurance agency followed by a spate of resignations from other top officials. Last month, FBI arrested the executive director of Puerto Rico’s Senate Office of Government Affairs and two legislative advisers for an alleged billing scheme for professional services never rendered. Government corruption is not new in Puerto Rico. United States Government Accountability Office reported to U.S. Congress last year that government corruption played a role in Puerto Rico debt crisis. U.S. Congress allowed Puerto Rico to take advantage of triple-tax-exempt bonds, attractive to both U.S. taxpayers and Islanders. The allegations raise many questions. Is there any oversight of Puerto Rico and why are bondholders being forced into footing the bill for corruption? The U.S. Senate, which will vote to confirm Oversight Board members, must note that current federal oversight of the Island has not been effective.

Oversight Board Strayed Far From PROMESA Says Assured Guaranty…How does trying to repudiate debt issued and approved by Puerto Rico’s government in 2012 and 2014 help to restore capital market access? Assured Guaranty points out that Puerto Rico’s Oversight Board has spent over $1.5 billion of Puerto Rico taxpayers’ money litigating against bondholders and paying consultants. The Oversight Board’s actions ignore U.S. Supreme Court precedent, dating back to the 19th century, that if an issuer represents the validity of its bonds to investors at the time of issuance, it is barred from later denying repayment based on a claim of invalidity. Assured Guaranty urges that recent developments related to the appointment of the Oversight Board, including U.S. Supreme Court review and Senate confirmation “creates an opportunity for a newly reappointed board to fulfill PROMESA’s stated goal for Puerto Rico, achieving fiscal responsibility and regaining access to the capital markets.”

Puerto Rico ERS Bond Secured Lien Reduced…Bondholders of Puerto Rico’s Employees Retirement System lost their secured rights to recover their investment from the pension system. Judge Swain issued a partial summary judgment, siding with a federal Oversight Board’s argument that bondholders cannot claim a secured interest in employer pension contributions earlier offered as collateral to bondholders. Judge Swain’s decision leaves ERS bondholders with an unsecured claim.

Cook County Illinois Finances Near Structurally Balanced…Cook County Illinois, home to Chicago has whittled down its budget gap to barely $18 million in fiscal 2020 down from $500 million eight years ago. “This marks the smallest gap we have ever experienced…the manageable size of this preliminary gap and year-end projection means we will not be asking residents for new revenue.” Cook County President Toni Preckwinkle remarked on the County’s $5.98 billion proposed fiscal 2020 budget. Cook County, rated Moodys “A2” S&P “AA-” Fitch “A+”, is an issuer of $3.5 billion general obligation muni bonds and is exploring avenues to issue special revenue-backed debt. The County expected a $15 million surplus over fiscal 2019 budget. Structurally balanced finances came through job cuts, refinancing and reducing debt levels. Cook County expects to see roughly $10 million in new revenues from approved state measures such as recreational cannabis sales, new casinos and sports betting.

Bond Market Awaits Trade Talks Signal Amid Mixed Data…G-20 meetings in Osaka, Japan between President Trump and the Chinese premier could bring more clarity for investors amid mixed economic data. In May, Consumer spending and prices rose slightly, and sales of single-family homes fell for a second straight month. In the first quarter, U.S. GDP grew by a 3.1% annualized rate driven by strong defense spending. The Fed’s preferred inflation gauge, core personal consumption expenditures rose 1.6% for a second straight month in May and continues to be below 2% Fed target. At its recent meeting, the Fed downgraded its inflation projection for 2019 to 1.5% from the 1.8% projected in March. The bellwether 10-year U.S. Treasury yield hit below 2% as global demand for safe-haven fixed income has soared. Traders are betting with 100% certainty that the Fed will cut rates in July. The Fed is data dependent, and Fed Chair Powell has stressed the importance of policies geared toward sustaining the United States decade-long economic expansion.

Compare 30-Year taxable U.S. Treasury yield 2.53% to 30-Year tax-exempt muni bond yield “AAA” 2.4%; “AA” 2.58%; “A” 2.75%; “BBB” 3.34%.