Independent Banker - October 2020 - 31

Next: Regulators are tracking bank diversity and inclusion
market is owned by individuals, either
through purchases of individual bonds
or through mutual funds. In early
March, when news of the pandemic
spread as rapidly as COVID-19 itself,
retail investors began dumping their
bonds, causing all prices to plummet
and yields to spike. Bloomberg estimates
that in the month of March,
spreads on 10-year investment grade
taxable munis ballooned by almost
100 basis points (1%).
The market quickly recovered, and
bond fund inflows resumed. By the
middle of April, year-to-date invested
dollars were on the plus side and
have continued to grow since. What
caused this immediate-and apparently
sustained-change of heart? For
one thing, the Fed announced a lending
facility aimed at supporting state
and local governments. The Municipal
Liquidity Facility (MLF) has had
more of a psychological impact on
investors than anything, since as of
this writing exactly one entity-the
state of Illinois-has borrowed under
that program.
Port in a storm?
For another, the credit quality for the
currently outstanding issues is quite
good. Moody's Investors Services currently
has both the State Government
and Local Government Sectors on
Outlook Negative, although local governments
(i.e., counties, cities, school
districts, utility districts and the like) in
particular entered this crisis in healthy
financial condition. Around 75% of
the general obligation (GO) issues to
which Moody's assigns a rating are
currently " A3 " or better. Downgrades
at the local level have thus far in 2020
been almost nonexistent, but that can
be expected to change.
Going further into the why's of
investor demand, it can be said that
banks are scrambling to maintain
some modicum of interest rate margin.
Education on Tap
Webinar series continues
ICBA Securities and its exclusively endorsed broker, Vining Sparks,
will host the next webinar in the Community Banking Matter series
on Oct. 13 at 10 a.m. Central. Michael Erhardt will present Planning
for Year End and the New Year. Visit viningsparks.com to register.
Quarterly economic update
Vining Sparks economists Craig Dismuke and Dudley Carter will
present their fourth quarter Economic Outlook webinar on Oct. 6 at
10 a.m. Central. You can register by visiting Vining Sparks' website.
Durations have shrunk below many
managers' targets, and muni bonds
are among the few longer maturity
options for depositories. And for GO
issues, which are backed by property
taxes, investors are assuming for the
moment that most obligors will be able
to stay current.
Regardless of metrics, investors
understand two more fundamentals
about municipal finance in 2020. One is
that most issuers have the legal authority
to raise revenues, even though it
may be a tough sell politically, as well
as the ability to reduce expenses when
possible during the fiscal year to assist
in balancing operations. The other is
that there are a number of federal government
assistance programs, such as
the MLF, that can help backstop the
muni bond market.
Easy does it
Another variable that's boosted municipal
bond prices is the supply. So far
the amount of municipal bonds out
there hasn't improved, although it is
possible that at some point local governments
may have to borrow to plug
some revenue leaks. That prospect
hasn't yet factored into valuations, but
would actually be welcomed by many
investors who are trying, unsuccessfully,
to buy local munis.
Common sense and sound practices
are the advice here. Most banks have a
strong preference for GOs or essential
service revenue bonds. This year may
not be a good one to invest in a bond
that's backed by transit or greens fees.
Community banks can also avail themselves
of alert systems that can notify
them whenever there's a public notice
regarding one of their holdings. Brokers
and consultants can also provide
access to demographic data for buyers
to review before and after purchases are
made, to identify potential soft spots.
The muni market has seen and
weathered storms before. Moody's
reports that there has been a total of
113 defaults of rated issues in the past
50 years, from a population of more
than 100,000. Community banks
should exercise all due caution but will
continue to participate in the municipal
bond market.
Chances of fiscal fallout from the
pandemic? Likely. Is this an opportunity
for community banks to remain
invested in high-quality municipals?
Also likely.
independentbanker.org Q 31
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Independent Banker - October 2020

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