Bonds

A political fight over whether natural gas fired appliances should be more strictly regulated or even banned may exacerbate the long, slow decline of municipally owned gas utilities.

The U.S. Consumer Product Safety Commission has recently taken aim and heat over their recommendations about using natural gas stoves, with its chair announcing in January that it was “researching gas emissions in stoves and exploring new ways to address health risks.” The agency is not, he added, aiming to ban gas stoves. Some data indicates stoves can leak benzene and methane even when they are turned off. The gas industry is also suffering effects from allegations of price gouging during extreme weather and federal legislation promoting electrification. 

According to the American Public Gas Association there are approximately 1,000 public gas systems in 38 states with a heavy concentration in the southeast. ”APGA is very concerned with efforts at the local, state, and federal level to excessively regulate or ban natural gas hookups and appliances,” said Dave Schryver, president, CEO American Public Gas Association.

The publicly owned natural gas industry issues bonds for a variety of reasons that go beyond long-term capital improvements. The still unfolding situation in Texas related to brutal winter weather two years ago has the Texas Natural Gas Securitization Finance Corporation issuing up to $3.6 billion of taxable relief bonds. The bonds will be backed by natural gas ratepayers with the proceeds paying off costs incurred by eight local distribution companies during Winter Storm Uri in 2021.

The market for prepaid natural gas bonds, broke records three years ago but they have been slumping ever since. Prepays are usually issued as tax-exempt instruments that allow utilities to lock in long-term, discounted prices on fuel purchased from the commodity trading arms of banks. In 2021 there was $6.5 billion of issuance which was quadruple the size of the market in 2020, another strong year.    

The banning of natural gas appliances, which can include everything from stoves to furnaces can be traced to Berkeley, California. The city enacted legislation in 2019 that prohibits the installation of natural gas infrastructure in new construction, low-rise residential buildings. The California Restaurant Association sued, the case was dismissed and is now being appealed. New York City and San Francisco soon followed Berkley’s lead. Over one hundred municipalities now have similar policies in place. 

Many states are pushing back on gas bans with preemptive legislative strikes. S&P Global Ratings tracks 26 standalone municipal gas utilities. “Of the 26 standalone utilities that we rate, 21 of them are in states that have enacted what colloquially are referred to as ‘ban on ban laws,'” says David Bodek, senior director, U.S. Public Finance, S&P Global Ratings. 

Bans on bans enable states to stop cities from passing laws that prohibit gas appliance installation. Most of the states utilizing preemptions are in the southeast but also include Texas, Iowa, Utah, Arizona, and Utah. In New York, Governor Kathy Hochul proposed phasing fossil fuels out of homes during her state-of-the state address in January. California already has similar plans in the works. 

Despite the dueling legislative efforts many experts are not hitting the panic button. Last February, Fitch Ratings gave the Philadelphia Gas Works a credit upgrade on approximately a billion dollars’ worth of paper dedicated to replacing cast iron main lines. 

“The importance of heating load makes any regulatory change on home appliances immaterial on retail gas demand,” said Kathy Masterson, Senior Director, Fitch Ratings. “Particularly as regulatory changes are often rolled out gradually.”

Natural gas accounts for about 50% of the country’s residential heat and 40% of the cooking fuel in U.S. homes. Cutting back on gas usage falls under the decarbonization umbrella which is propped up by provisions in the Inflation Reduction Act. The IRA offers consumers tax credits for switching out gas furnaces for electric heat pump systems. 

Bodek does not see the IRA as a doomsday scenario for municipally owned natural gas utilities. The tax credits are applied to new purchases, are capped at $2,000 a year per homeowner and carry income requirements. “The gas utilities will likely continue to be selling gas for some time to come,” he says. “The gas utilities are not facing an imminent vulnerability.”

But natural gas is generally expected to face a bleak future as governments focus increasingly on carbon reduction. The Philadelphia Gas Works, for example, expects gas use in buildings to fall by as much as 95% by 2050.

Moody’s rates municipal gas utilities, joint action agencies, wholesalers, and gas distributors.  Looking at the long-term big picture, they see trouble on the horizon. 

“Regulation that discourages or bans natural gas appliances would be credit negative as it would lead to stranded costs for utilities especially in cases where base rates, revenue and cash flow generation are highly consumption based,” said Clifford Kim, VP, senior credit officer, Moody’s Investors Service. “It would also begin to make the product less practical and less attractive for home use, which would have sustained negative credit implications.”

The APGA is opposed to anything that restricts natural gas usage. The group’s main area of interest related to the bond market are familiar topics to the industry. “The APGA will continue to work with stakeholders and the 118th Congress on direct pay municipal bonds, advance refunding, and bank qualified bonds,” said Schryver. 

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