U.S. states face a “staggered” recovery even as the national economy shows signs of stabilizing, Susan Urahn, a managing director at the Pew Center on the States, told investors on a conference call.
They may also have to contend with three to four more years of budget woes, said Laura LaRosa, director of fixed income at Glenmede Investment & Wealth Management in Philadelphia, on the call yesterday.
“When the recovery comes, it’s going to be staggered and slow,” Urahn said. “The lag happens because it takes time for the states’ unemployment rates to come down to pre-recession levels.”
Nationally, unemployment held at 9.7 percent in March for a third month, the Labor Department reported on April 2. The jobless rate reached a 26-year high of 10.1 percent in October. Employment has a direct impact on the ability to generate revenue through personal income tax, Urahn said.
States’ personal income-tax revenue fell 7.1 percent in January and February from the same period in 2009, and there is a risk the slide will extend into this quarter, the Nelson A. Rockefeller Institute of Government said in a report yesterday.
Tax revenue likely declined for a record sixth straight quarter in the first three months of the year, the institute’s deputy director, Robert Ward, said in congressional testimony on April 15.
Payrolls increased in 33 states in March, the Labor Department reported yesterday in Washington. Employers added 162,000 jobs last month, the biggest increase in three years.
Lawmakers have struggled with three consecutive years of revenue shortage, Urahn said. They closed $117 billion in cumulative budget deficits last year and are estimated by Pew to face $146 billion of gaps this year, she said.
“Given the long-term ramifications of what’s going on, we could be looking at malaise through these state budgets for three to four years,” said LaRosa, who helps manage $4.5 billion in municipal bonds.
Investors in municipal bonds should purchase higher-rated debt and diversify across the states, LaRosa said. Buyers should focus on pre-refunded municipal bonds, a tax-exempt security payable from U.S. Treasuries in escrow that are left in the market after refinancing deals, and callable debt.
Not Yielding Enough
Lower-rated states, such as California and Illinois, are not yielding enough to merit the risk of investment, LaRosa said.
“You would normally think that it’s intuitive that when states are having problems, the rates on these bonds become attractive,” LaRosa said. “The spreads on that credit quality versus a safer, more secure credit are just too slim. We don’t think investors are getting paid to take the risk.”
The extra yield investors are demanding on California’s 10-year bonds above AAA rated municipal securities was 1.28 percentage points yesterday, compared with 153 basis points in December, according to Bloomberg fair value index data. One basis point is 0.01 percentage point. California is the lowest rated state, with a Baa1 from Moody’s Investors Service, its third-lowest investment grade, and one level higher by Standard & Poor’s at A-.
Top-rated, 10-year tax-exempts yielded 3.25 percent, 146 basis points lower than the record high of 4.71 percent reached in October 2008, according to a daily survey by Concord, Massachusetts-based Municipal Market Advisors.
Similar-maturity BBB rated bonds yielded 4.86 percent, 2 basis points lower than a four-month high reached April 13, according to Bloomberg Fair Market Value data.
The spread between the two securities, at 161 basis points, has narrowed from 350 basis points in March 2009. The premium has averaged 80 basis points since the MMA index’s creation in 2001.