New-money borrowing keeps Midwest in positive first-half territory

BY SourceMedia | MUNICIPAL | 08/16/22 12:03 PM EDT By Yvette Shields

Municipal issuers in the Midwest sold $38.6 billion of bonds in the first half of 2022, according to Refinitiv data, a 0.6% year-over-year increase in a market that declined nationally.

A double-digit surge in new-money borrowing countered a steep slide in refundings.

The 11-state Midwest joined the Southeast in landing in positive territory compared to the same period last year. The Far West dropped off by 28.2%, the Northeast by 18.3%, and the Southwest slipped 10.1%. The Southeast grew by 6.3%. National volume was down 11.2% year-over-year.

New-money deal volume was up 16.4% to $28.7 billion while refundings slid 35.7% to $5.9 billion; combined new money/refunding deals dropped 12.5% to $4 billion.

Tax-exempts picked up by 2.2%, accounting for $30.5 billion of the total volume, while taxable structures slipped 7.5% to $7.6 billion, likely reflecting the drop off in advance refundings that use a taxable structure following the ban on tax-exempt advance refundings in the 2017 tax bill.

Throughout the first half of the year lackluster supply has slipped below market participants' expectations due to the rising interest rates as well as market volatility, inflation hitting decade highs, and uncertainty over the Federal Reserve's policy decisions.

"It's not a surprise we are in a flat situation as it's reasonable to expect that there's been a propensity to not issue refunding bonds with rates going up but you also have issuers locking in rates for new money financing needs," said Richard Ciccarone, president of Merritt Research Services.

The new-money hike doesn't surprise David Erdman, who recently joined Baker Tilly Municipal Advisors as a managing director after retiring as Wisconsin's debt manager.

"Yes, rates have gone up in the past year, but interest rates are still good compared to historic averages," Erdman said. "The increase in interest rates have impacted refunding transactions, but governments and universities continue to have new money/capital projects needing to be financed."

The remainder of the year remains clouded given the interest rate trajectory and the influence of last year's federal infrastructure package as issuers await more direction from the federal government.

"Some issuers might have held back and so we could be poised to see a steady flow of new money while refundings will be held at bay," Ciccarone said.

"Issuers will continue work with their municipal advisors to address utilization of both ARPA and IIJB funds," Erdman said of the federal programs. "Certain capital projects will still need funding, so do not expect a significant change in new-money market activity. Issuers may check the market temperature but ultimately will need to jump in, as interest rates are still good."

Chicago's borrowing plans will give the second half of the year a healthy boost. The city intends to sell later this month up to $1.8 billion of new-money and refunding O'Hare International Airport general airport revenue bonds.

T the city plans to follow up in September with a customer facility charge refunding for $200 million and in the fall will sell up to $900 million of general obligation bonds that will include a $100 million to $150 million inaugural environmental, social, and governance designated series. The city also later this year could tap up to $1.2 billion of new money and refunding water and wastewater authorization.

Rising interest rates won't impede either new money or refundings with savings still available.

"Ultimately we are trying to get to a good timing that fits with the operations with each of the credits we are issuing," Chicago Chief Financial Officer Jennie Huang Bennett said. "We are timing our new-money bond issuances more closely with cash flow needs. We see the all-in interest rates still being very low for the city and attractive for locking in a good cost of capital."

Michigan led the way for the Midwest in the first half, with issuers there selling $7.2 billion of bonds, a 44.9% increase year-over year.

It was followed by Illinois, up 2.5% to $6.3 billion and Wisconsin with $5.3 billion, a 10.8% uptick. Minnesota and North Dakota also recorded increases while borrowing tapered off in Indiana, Iowa, Missouri, Nebraska, Ohio, and South Dakota.

Bonds Refinitiv classifies as being for education were the region's top sector, up 6.3% to $15.6 billion, the top amount among sectors.

General purpose debt followed at $8.6 billion for a 4% decline, followed by healthcare at $4 billion, a 3.4% drop, and housing bonds at $3.7 billion, up 32.4%.

Fixed-rate structures accounted for $35.9 billion of the volume, but several market participants said floating-rate paper's lower rates could pick up steam in the second half as interest rates rise with the Federal Reserve lifting rates to combat inflation.

"Future mix of fixed-rate bonds and variable-rate obligations will depend on what transpires with interest rates and the economy," Erdman said. "Continued flatness of the yield curve may promote more issuance of fixed-rate bonds, but with the continued uncertainty, now is a good time for issuers to consider what may be the optimal composition of their debt portfolio."

Debt Refinitiv classifies as being from state agencies represented $12.6 billion of debt, up 13.2%,
Colleges and university issuance was $4.3 billion, almost tripling the year-ago figure.

The Regents of the University of Michigan's $2 billion March sale topped the scales as the Midwest's largest deal in the first half. The new-money and refunding issue marked two firsts for the state flagship school as it offered both a century bond and green-designated paper.

The series included a taxable $1.2 billion century bond and $300 million of taxable green bonds. The school returned the next month with a $400 million deal.

Illinois' May sale of $1.6 billion of general obligation bonds followed.

The Michigan Finance Authority's $890 million April deal was third-largest with a financing related to the newly minted BHSH System created by the merger of Beaumont Health and Spectrum Health..

The Chicago Board of Education's $872 million new-money and refunding sale in January and the Iowa Finance Authority's $839 million April sale followed.

The Michigan State University Board of Trustees March sale for $500 million made the top 10 list at number seven.

The East Lansing-based school unveiled its plan to join the small club of century bond issuers in the not-for-profit higher education sphere in December. The taxable bond proceeds will finance initiatives related to the university's long-term strategic plan, including infrastructure and technology investments and research programs.

The various century bonds helped boost the sector's healthy deal flow as did the University of Minnesota Regents' $500 million April sale which was originally expected to include a 100-year tranche. The finance team shifted gears to a more traditional structure due to rising rates.

Stifel took the top spot among book-runners in the Midwest, credited by Refinitiv with $3.5 billion of the region's borrowing, followed by Citi with $3.3 billion, Barclays (JJCTF) at $3.1 billion, BofA Securities at $3 billion, and JPMorgan (JPM) with $2.95 billion. Robert W. Baird & Co., RBC Capital Markets, Goldman Sachs (GS), Piper Sandler & Co., and Morgan Stanley (MS) rounded out the top 10 senior managers.

PFM Financial Advisors took the top spot among financial advisors, credited with $6.1 billion, followed by Baker Tilly Municipal Advisors with $2.6 billion, Columbia Capital Management with $1.5 billion, Ehlers & Associates with $1.2 billion, and CSG Advisors Inc. with $1.2 billion. Ponder & Co., Blue Rose Capital Advisors, PMA Securities, Sycamore Advisors and Piper Sandler (PIPR) rounded out the top 10.

Miller Canfield led among bond counsel, credited with $5 billion of bonds, helped along by its work on the higher education deals out of Michigan, followed by Dorsey & Whitney with $2.997 billion, Kutak Rock with $2.986 billion, Chapman and Cutler with $2.89 billion, and Gilmore and Bell with $2.15 billion. Quarles & Brady, Ice Miller, Ahlers & Cooney, Square Patton Boggs and Thrun Law Firm rounded out the top ten.

The University of Michigan's almost $2.5 billion of borrowing put it at the top of the rankings of issuers, followed by Illinois with $1.64 billion, the Wisconsin-based conduit Public Finance Authority at $1.62 billion, the Iowa Finance Authority at $1.24 billion, and the Michigan Finance Authority at $1.2 billion. The Chicago Board of Education, Indiana Finance Authority, state of Wisconsin, Michigan Housing Development Authority and Illinois Finance Authority rounded out the top 10.

In general the bond market is volatile, and fixed income securities carry interest rate risk. (As interest rates rise, bond prices usually fall, and vice versa. This effect is usually more pronounced for longer-term securities.) Fixed income securities also carry inflation risk and credit and default risks for both issuers and counterparties. Unlike individual bonds, most bond funds do not have a maturity date, so avoiding losses caused by price volatility by holding them until maturity is not possible.

Lower-quality debt securities generally offer higher yields, but also involve greater risk of default or price changes due to potential changes in the credit quality of the issuer. Any fixed income security sold or redeemed prior to maturity may be subject to loss.

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