8/14/2019 The Mechanics of Finance: Municipal Finance
1/13
M I L K E N I N S T I T U T E C E N T E R F O R F I N A N C I A L M A R K E T S -
N AT I O N A L P R E S S F O U N D AT I O N
T U E S D AY, N O V E M B E R 1 2 , 2 0 1 3
Mechanics of Finance: Municipal Finance
8/14/2019 The Mechanics of Finance: Municipal Finance
2/13
Historical Interest Rate Yield: 2008-2013
Data Source: Bloomberg
0
0.5
1
1.5
2
2.5
3
3.5
4
4.5
5
Yield(%)
10 Year UST 10 Year AAA
Sep 2008
Lehman Bros. BankruptcyFannie Mae and Freddie Mac
conservatorship
Treasury guarantees money market
mutual fundFeb 2009
Financial Stability Plan announced
Recovery ACT signed
Jul 2010
Dodd-Frank ACT signed into law
TARP investment authority reduced
and limited to existing programs
May 2013
Bernanke discusses tapering
July 2009
QE1 expanded
Sep 2011
Operation Twist
announced
Mar 2010
QE1 ends
Apr 2012Italian and Spanish
bond yields spike
Jul 2011
QE2 endsNov 2010
QE2 announced
8/14/2019 The Mechanics of Finance: Municipal Finance
3/13
Muni Bonds: Where we are now
Source: Morgan Stanley - Municipal Bond Monthly Oct 2013
8/14/2019 The Mechanics of Finance: Municipal Finance
4/13
Muni Bonds Holders
Data Source: Q2 2013 Flow of Funds, Fidelity Capital Markets
Households are the largest holders of municipal bonds Households include farm households, domestic
hedge funds, private equity funds, and personal trusts(pension account)
Excludes bonds owned indirectly, such as throughmutual funds, which hold about $528 billion
The trend is gradually changing Mutual funds and commercial banks are increasing
their presence in this market0200
400
600
800
1000
1200
1400
1600
1800
2000
2008 2009 2010 2011 2012TotalOutstand
ingDebtHeld($Billions)
Households Commerc ial B anks Insurance Companie s
Money Market Funds Mutual Funds
Households
44%
Commercial
Banks
11%
Insurance
Companies12%
Money Market
Funds
8%
Mutual Funds
17%
Closed-end
Funds
2%
Foreign Holdings2%
Brokers and
Dealers
1% Other
3%
8/14/2019 The Mechanics of Finance: Municipal Finance
5/13
Muni Bond Issuance
Data Source: SIFMA
Municipal bond issuance is far below the 2010 levels Majority of municipal market is composed of revenue
bonds
0%
10%
20%
30%
40%
50%
60%
70%
80%
0
50
100
150
200
250
300
350
400
450
500
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013YTD
in
$bn
GO Revenue Private Placement
Revenue bonds as a percentage
of total issuance
8/14/2019 The Mechanics of Finance: Municipal Finance
6/13
New-Issue Supply
Data Source: SIFMA
New dollar issuance New Issue supply in 2013 YTD ($251.1 bn) is at nearly 60% of what it was during itspeak in 2010 which reflects ongoing austerity measures at both the state and local levels
Overall, refunding and maturities continue to marginally outweigh the new money supply in 2013, creating aslightly net negative supply environment
185221
287
228201
288
358383
360
408387
429390
410433
295
379
251.1
0%
10%
20%
30%
40%
50%
60%
70%
0
50
100
150
200
250
300
350
400
450
500
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013YTD
in$bn
Total Municipal Issuance Refunding as % of Total Issuance
8/14/2019 The Mechanics of Finance: Municipal Finance
7/13
Current State: Muni Finance
Source: Blackrock - Municipal Market Myths and Realities Aug 2013
8/14/2019 The Mechanics of Finance: Municipal Finance
8/13
Funded Ratios of State Public Pension Plans
Source: taxfoundations.org/maps
8/14/2019 The Mechanics of Finance: Municipal Finance
9/13
Credit Profile
Source: Janney Fixed Income Strategy State Fiscal Health Update Oct 2013Source: BlackrockMunicipal Market Myths and Realities
Most U.S. State credit profiles are strong, but therehas been select deterioration
States are keeping their debt levels relatively flat
Municipals exhibit high credit quality versuscorporates bonds
8/14/2019 The Mechanics of Finance: Municipal Finance
10/13
Tax Treatment
Source: Janney Fixed Income Strategy Muni Tax Considerations Aug 2013
As discount increases, the gap between YTM and After Tax Yield grows With the recent uptick in the interest rates, tax considerations have become more important
than ever Increase in yields is leading to a fall in after tax yields for muni bonds
8/14/2019 The Mechanics of Finance: Municipal Finance
11/13
Challenges: State
Source: Standard &Poors
Removal of Muni Bond Interestaffects Municipalities Repeal in tax credit could affect
creditworthiness of at riskmunicipalities
State Funding Status According to reports by Center on Budget and
Policy Priorities, states have been forced to close$593bn in budget gaps from FY 2009 to FY2013
Largest gaps were closed by huge tax hikes in CA,CT, IL and MA netting $23.9bn in FY 2010
Unprecedented spending decline of 3.8% and 6.3%in FY 2009 and FY2010
8/14/2019 The Mechanics of Finance: Municipal Finance
12/13
Challenges: Detroit
Source: Detroit Free Press
8/14/2019 The Mechanics of Finance: Municipal Finance
13/13
Challenges: Puerto Rico
0
10
20
30
40
50
60
70
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
($billion)
GNI, Atlas method (current US$) Public Debt
103% of GNI
Data Source: World Bank and Government Development Bank of Puerto Rico; Moodys Analytics
Trade volume of Puerto Rican bonds increased to$20bn from an average of $3bn-$5bn sinceSeptember
75 percent of muni bond funds own Puerto Ricobonds (Morningstar funds)
Commonwealth of Puerto Rico has not balancedits budget in twelve years Annual deficit financing has caused the islands
debt-to-GNI ratio to rise. In 2010, it was 109%,compared to 64.8% in 2000