BRADENTON, Fla. — A convergence of factors is pushing bond issuance costs up this year — including fallout from the “headline risk” associated with predictions of increased municipal bankruptcy, local officials from across Florida learned Friday.
“Higher interest rates, limited bond insurance, and higher credit spreads are pushing financing costs up significantly,” PFM managing director David Moore said at the firm’s annual asset investment seminar in Orlando. “The pain associated with doing a deal is much greater.”
Moore advised issuers to pay close attention to the rapidly changing market environment as federal stimulus disappears, new regulations pose difficulties on obtaining liquidity for variable-rate bonds, and the effect of “headline risk that is talking about you going bankrupt,” he told more than 100 local government attendees.
Moore warned about the effect headlines have on investors as published reports emerged across the country on Friday about the possibility of a congressional bill allowing states to file for bankruptcy.
“The barrage of negative headlines focusing on the credit health and possible future defaults of municipal bonds has sent shock waves through the market,” BMO Capital Markets reported Monday. “While the merits and likelihood of such a move are extremely questionable and refuted in a thoughtful article written by the Center on Budget and Policy Priorities, we continue to experience selling pressures due to this fear.”
BMO said “heavy and somewhat indiscriminate selling” has pushed yields to the highest levels in at least two years.
Meanwhile, Moore outlined factors that are increasing costs and making bond issuance more difficult, including the role an issuer’s fundamental credit quality now plays because less affordable insurance is available.
“This is going to be the year of restructuring,” he said. He referred specifically to issuers that restructured their auction-rate securities following the collapse of that market in 2008 with letters of credit or standby bond purchase agreements.
As liquidity support from the 2008 era expires this year, Moore said issuers will face increased costs and problems restructuring variable-rate demand bonds and puts largely because of phased-in regulatory burdens imposed by Basel III, which will force banks to hold higher-quality capital and set more liquid assets aside to guarantee municipal debt.
The new regulations could drive up borrowing costs 50 to 75 basis points as banks raise rates for liquidity or phase in cost increases at the time they comply with Basel provisions, Moore said.
In addition to a limited number of bond insurers, issuers that previously used surety bonds to fund reserves may face the higher cost of fully funding their own reserves if the bonds are refinanced. Sureties cannot be transferred to the new refunding bonds if they no longer meet credit requirements, he said.
Public Financial Management Inc. was the top financial adviser last year in the Southeast, including Florida, advising on 162 bond sales with volume of $10.92 billion in the region, according to Thomson Reuters.