Billions of dollars will flow to states and municipalities following passage of the American Rescue Plan Act (ARPA). The law provides $350 billion in federal stimulus and should continue to aid the economic recovery.
The ARPA will distribute $195.3 billion in aid across the states and $130.2 billion to local governments. States will receive at least $500 million, with the balance distributed based on unemployment levels. The local aid calculation is based on population, among other factors. The package also includes $30 billion for transit, $130 billion for K–12 schools, and $10 billion for a Coronavirus Capital Projects Fund. The fund is designed to support infrastructure for managing the pandemic. We believe this aid represents a significant percentage of moststates and local government budgets and takes financial pressure off many municipal bond borrowers.
Pandemic hit states differently
Many states are successfully navigating short-term budget shortfalls. On average, states saw a decline in revenue of 0.2% in 2020 compared with 2019 (Tax Foundation). For some states, tax receipts were not as low as projected. The Tax Foundation noted in a recent report that 23 states saw revenue gains in 2020.
Still, the economic recovery has been somewhat uneven. States that rely on certain industries impacted by the pandemic, such as energy and tourism, experienced deeper revenue declines. The Tax Foundation found energy-focused states such as Alaska and North Dakota face more than 20% in revenue losses. States with large tourism industries, like Florida, Hawaii, and Nevada, have losses ranging from 7% to 14%. That said, the combination of rebounding economic growth coupled with the recently passed stimulus bill has us more optimistic on municipal credit fundamentals.
States can utilize aid in various ways to relieve pressure
States can use the ARPA funds for a range of purposes. The provisions allow more flexibility than last year’s CARES Act. The deadline for spending the funds is 2024.
The biggest impact of the aid may be filling more immediate budget shortfalls. Fitch Ratings noted in a recent report that, “The aid is not expected to alter the long-term credit fundamentals of state and local governments, but it should bridge near-term fiscal gaps.”
The aid will likely have a positive impact on state governments with a negative outlook where near term budget gaps are a credit concern. As an example, the outlook for the state of Illinois was recently moved from negative to stable by both Moody’s and S&P ratings services. Another example is Connecticut, which recently received an upgrade from Moody’s to Aa3 from A1, representing the state’s first upgrade in roughly 20 years.
According to the Conference of State Legislatures, states may use the aid to:
- Respond to the Covid-19 emergency and its economic effects, with aid to households, small businesses, nonprofits, and industries
- Provide premium pay to essential employees or grants to their employers
- Provide government services affected by a revenue reduction resulting from Covid-19
- Invest in water, sewer, and broadband infrastructure
Rising home prices often buoys local government tax receipts
Real estate taxes are a significant source of revenue for local municipalities. In some regions, real estate receipts were higher in 2020 due to rising property values.
Record low mortgage rates and inventory levels fueled a steady increase in home prices in 2019 and 2020. The trend accelerated in June 2020.
As for cities, all metro regions tracked by the National Association of Realtors gained. House prices jumped more than 10% in 88% of metro areas in the fourth quarter.
Monitoring credit fundamentals is part of our active approach
Putnam’s active municipal bond investment process closely monitors the financial health of issuers and underlying credit fundamentals as well as market technical and valuations. Putnam’s experienced municipal bond team continuously analyzes credit metrics, the impact of the pandemic as well as other factors, and repositions the portfolios and seeks to capture both tax free income and return opportunities for our shareholders.
Evaluate yields on a tax-equivalent basisCompare municipal funds on equal footing with taxable bond funds.
For informational purposes only. Not an investment recommendation.
This material is provided for limited purposes. It is not intended as an offer or solicitation for the purchase or sale of any financial instrument, or any Putnam product or strategy. References to specific asset classes and financial markets are for illustrative purposes only and are not intended to be, and should not be interpreted as, recommendations or investment advice. The opinions expressed in this article represent the current, good-faith views of the author(s) at the time of publication. The views are provided for informational purposes only and are subject to change. This material does not take into account any investor’s particular investment objectives, strategies, tax status, or investment horizon. Investors should consult a financial advisor for advice suited to their individual financial needs. Putnam Investments cannot guarantee the accuracy or completeness of any statements or data contained in the article. Predictions, opinions, and other information contained in this article are subject to change. Any forward-looking statements speak only as of the date they are made, and Putnam assumes no duty to update them. Forward-looking statements are subject to numerous assumptions, risks, and uncertainties. Actual results could differ materially from those anticipated. Past performance is not a guarantee of future results. As with any investment, there is a potential for profit as well as the possibility of loss.
Diversification does not guarantee a profit or ensure against loss. It is possible to lose money in a diversified portfolio.
Consider these risks before investing: International investing involves certain risks, such as currency fluctuations, economic instability, and political developments. Investments in small and/or midsize companies increase the risk of greater price fluctuations. Bond investments are subject to interest-rate risk, which means the prices of the fund’s bond investments are likely to fall if interest rates rise. Bond investments also are subject to credit risk, which is the risk that the issuer of the bond may default on payment of interest or principal. Interest-rate risk is generally greater for longer-term bonds, and credit risk is generally greater for below-investment-grade bonds, which may be considered speculative. Unlike bonds, funds that invest in bonds have ongoing fees and expenses. Lower-rated bonds may offer higher yields in return for more risk. Funds that invest in government securities are not guaranteed. Mortgage-backed securities are subject to prepayment risk. Commodities involve the risks of changes in market, political, regulatory, and natural conditions. You can lose money by investing in a mutual fund.
Putnam Retail Management.