WASHINGTON — Moody's Investors Service has placed 256 local government general obligation ratings on review, some for upgrade and some for downgrade, after updating the methodology it uses to evaluate those bonds.
Of the local governments under review, 132 may be upgraded and 124 may be downgraded, the rating agency said.
Moody's expects most of the rating changes resulting from the reviews to be one or two notches, but some could remain at their current level. Most of the reviews should take about 90 days, Moody's said, but others could take as long as 180 days.
The methodology changes driving the reviews increase the weight Moody's places on debt and pension obligations to 20% from 10%, and drops the weight on economic factors to 30% from 40%. The new rating system also introduces a "scorecard" for U.S. local governments, of which Moody's rates about 8,300, which the agency said will increase the transparency of its rating considerations. Moody's said the scorecard provides a "composite score" based on the factors the agency considers most important. Each of these factors has its own score which is then expressed as a number one through six, with one being the best. These are then multiplied by their weighted importance and added together to produce the composite score.
"The scorecard is not intended to produce a final rating, only a starting point for analysis," said Matt Jones, Moody's senior vice president and one of the authors of the new methodology.
The increase in the weight of debt and pensions in the methodology "recognizes the potential for large pension liabilities to constrict a local government's financial flexibility," Moody's said in a release. "Because pension liabilities and debt each represent enforceable claims on the resources of local governments, Moody's has weighted the debt portion of its current methodology more heavily to capture the combined financial impact of both debt and pensions."
The reduced impact of economic factors in the methodology is a reflection of the reality that many governments do not fully utilize their revenue potential, Moody's explained. Although a government might have a large and affluent tax base, there are political factors such as tax caps and anti-tax sentiment, in addition to a lag between economic activity and an influx of government revenue.
"There is an economic limit on the level of taxation that a municipality's tax base can bear," said Julie Beglin, Moody's vice president and another author of the new methodology. "From a legal perspective, the local government's mandate to provide essential public services and pay retiree pensions may also have strong claims on a government's revenue and taxing power, depending on the particular state's laws."
The publication of the methodology follows a request for comment period, which was open from August to November 2013 and resulted in a number of tweaks to the final product, Moody's said.
