Bonds

Municipal bond market leaders discussed their expectations for regulatory developments, the economic environment and issuance on a panel at The Bond Buyer’s 2023 National Outlook Conference.

“The Municipal Securities Rulemaking Board is in the midst of a robust rulemaking phase,” said Mark Kim, chief executive officer at the MSRB. “Our regulatory agenda is focused on two areas in particular. One is a coordinated rulemaking initiative with the Securities and Exchange Commission and FINRA examining fixed income market structure broadly. And the second is an effort that the MSRB is focused on — modernizing our rulebook.”

Regarding environmental, social and governance, Kim said this creates a lot of opportunities.

“I think ESG is here to stay in our market,” he said. “I think it’s a natural fit with the types of infrastructure that our market finances, whether its higher education and educational attainment or hospitals and healthcare outcomes or economic redevelopment and growth — those are all the areas that ESG investors are interested in.”

He said another reason ESG is a plus for the market is that investors are allocating capital to it.

“In our market now, there are at least three exchange traded funds that are dedicated to sustainable or ESG or green investing,” Kim said. “We’re seeing hundreds of millions of dollars of investor capital being allocated toward this space. So there is a tremendous opportunity there.”

Last year the MSRB issued a request for information on ESG practices in the municipal securities market.

“We issued that RFI to make sure we had an opportunity to hear from market participants on what they thought and how ESG is being integrated into our market and what the trends are with respect to ESG,” Kim said.

The MSRB received a robust response to its ESG RFI, he noted.

“One of the key themes that emerged consistently was that regulatory action was premature in our market,” he said. “And we agree. But that said, there are a number of trends and practices that the MSRB is paying attention to with respect to ESG.”

Kim said some regulated entities submitted comments that raise possible regulator concerns about ESG with respect to the MSRB’s rules.

Since there isn’t a uniform standard for what constitutes a green bond or a social bond or a climate bond, commenters said, investors may be confused when an issuer in the primary market labels their own bond deals as green or social or climate..

Some market participants were also concerned about the compliance requirements in the secondary for these types of bonds under current rules.

He said the MSRB continues to monitor these issues from a regulatory and compliance standpoint.

From the issuer perspective, ESG is an important part of its overall bond issuance, said David Womack, deputy director for financing policy and coordination in the New York Citymayor’s Office of Management and Budget.

The city has done two labeled bonds — the first in 2021 was a tax-exempt green bond refunding deal for Hudson Yards and the second was the city’s first social bond, a taxable deal done last year for housing.

Last year’s taxable deal, “fit uniquely into our debt structure. We wanted to offer something that was very attractive and get a very good response from investors,” Womack said. “We had a second party opinion we secured from S&P because we had some concerns about issuers labeling their own bonds as the standards are not uniform.”

He said the issue was very well received and about four times oversubscribed, with about one quarter of the indications of interest coming from socially responsible investors: banks with Community Reinvestment Act eligible investments.

The city put together a detailed and comprehensive framework for ESG offerings that included additional disclosure with the intention of being able to access that market again.

Kristin Stephens, head of credit strategies in the UBS public finance department, said her firm had worked on the recent Chicago Sales Tax Securitization Corp.’s deal that consisted of new money senior lien tax-exempt and taxable bonds with a social bond designation.

“It’s a success story,” she said. “The city did achieve the highest pricing differential on an ESG financing to date where the social bonds actually priced three to five basis points lower in yield than the non-social bonds. So you’re starting to see some of that.”

When it comes to overall supply this year, however, panelists felt that it would be anemic at best.

Last year was a challenging environment for markets, said Glenn McGowan, co-head of municipal underwriting at RBC Capital Markets.

A wide difference of perspective exists between stocks and bonds, he said, with the equity market looking at a soft landing and the fixed income market gearing up for a hard landing.

“But the bottom line is that this huge disconnect can drive further volatility, even if rates remain range-bound,” McGowan said. “You can see some pretty violent swings in the flows in and out of the asset classes of capital based on divergent views and that’s exactly what we have to look at more.”

The muni market saw $384.086 billion of debt issued in 2022, almost $100 billion less than the $483.234 billion offered in 2021.

“Last year was a very light year in terms of supply,” McGowan said. “Our forecast for this year, assuming fairly stable long-term interest rates, which is the street consensus right now, is around $385 billion all in.”

He added there would be quite a lot of volatility within a 20-basis-point band this year.

“There’s just not going to as many refunding opportunities out there,” he said. “But I think there could be some potential upside in terms of new money, depending on how much help issuers get or don’t get from the federal government.”

But volatility and rising rates won’t stop some issuers from coming to market.

“New York City is one of the largest issuers in the market. We need to issue between $10 billion and $15 billion a year in new money just to keep out capital program funded,” said Womack, who is also executive director of the New York City Transitional Finance Authority, CEO of the NYC Municipal Water Finance Authority and president of the Hudson Yards Infrastructure Corp.

“We’ve financed through good markets and bad, high interest rates and low. We don’t really have the luxury to try to time the market,” he said.

The city is one of the biggest issuers of municipal bonds in the nation. In the fourth quarter of fiscal 2022, it had about $38.8 billion of general obligation bonds outstanding. That doesn’t include various agency debt, such as the TFA or the MWFA, which have $44 billion and $32 billion outstanding, respectively.

The city’s GOs are rated Aa2 by Moody’s Investors Service, AA by S&P Global Ratings, AA-minus by Fitch Ratings and AA-plus by Kroll Bond Rating Agency. Fitch assigns a positive outlook to the city while Moody’s S&P and Kroll assign stable outlooks.

The panel, “Industry and Regulatory Outlook from the Leaders in Public Finance,” was moderated by Brian Garzione, a partner at the law firm of Hawkins Delafield & Wood LLP.

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