Municipal bond fundamentals and technicals improved significantly on the heels of stronger economic activity as states have reopened and received sizable federal fiscal aid.
Credit fundamentals continue to improve, in our view. Most states have seen an uptick in tax revenue since the second quarter of 2020 when the crisis began.
State tax receipts rebound to pre-pandemic levels
According to Pew Charitable Trusts’ analysis of Urban Institute data, most state tax receipts had reached pre-pandemic levels as of February 2021 (as appeared on the National Conference of State Legislatures).
Total state tax receipts were 0.01% higher in March 2020 through February 2021, compared with the period a year prior. (The data is preliminary and covers 49 states. Most recent available). That means cumulative tax revenue since the beginning of the pandemic has reached pre-pandemic levels for the first time (not adjusted for inflation).
Of course, no two states are alike, and cumulative data can obscure differences. Drilling down to the state level, Pew also reported:
- Tax revenue in 29 states had overcome its pandemic-driven losses. States reporting the largest gains from the prior year included Idaho (11%), Utah (8.7%), Colorado (8.0%), South Carolina (7.7%), and South Dakota (7.2%).
- Declines exceeded gains in at least 18 states. Collections were the furthest behind in Alaska (-49.2%), Hawaii (-17.4%), North Dakota (-10.9%), and Texas (-10.3%).
Sales taxes saw deeper declines
In its review of state tax receipts from April through December 2020, the Tax Policy Center found that sales tax receipts experienced a deeper decline compared with personal or corporate income taxes. This occurred as retail, restaurant, and travel spending dropped during mobility restrictions.
Muni defaults remain low
Improving economic activity, job growth, home-price appreciation, and federal aid to state and local governments are supporting strong muni bond credit fundamentals. Muni defaults, despite pandemic-related challenges, remained low and within long-term ranges during the crisis. In 2020, the default rate represented less than 0.25% of the overall municipal bond market. Defaults within the investment-grade-rated universe were a rare occurrence.
Infrastructure could shape the future
It’s been more than a year since the World Health Organization announced that the Covid-19 outbreak had reached the level of a pandemic. We believe we are coming out on the other side of this health crisis thanks to the aid of multiple relief packages and medical advancements. Recent funding infusions from the American Rescue Plan should help state and local governments enter their 2022 budget sessions with enough cash on hand to help absorb the economic stress of the pandemic, in our view.
In late June, the Biden administration announced support for a $1.2 trillion bipartisan infrastructure proposal.
If an infrastructure bill is passed, it would likely be a positive development for many municipal borrowers. In particular, the bill may benefit state and local governments, transit agencies, airports, and other entities that finance transportation infrastructure. Water/sewer and electric utilities are also likely to benefit from a broad infrastructure bill. Federal grants for these projects would reduce the need for municipal borrowers to issue debt to cover these essential services. This could increase fiscal flexibility for these borrowers while avoiding higher tax burdens.
Evaluate yields on a tax-equivalent basis
Compare municipal funds on equal footing with taxable bond funds.