Oct. 2 (Bloomberg) -- Municipal bonds sold by hospitals and health-care providers are rallying the most since 2009, defying a potential $11 billion drop in Medicare funding from federal budget cuts that loom in three months.
Health-care bonds have gained 9.5 percent this year and hospital debt 9.1 percent, making them the best-performing revenue securities, Standard & Poor’s indexes show. The segments are beating the broader $3.7 trillion muni market by the most in three years.
The rally is poised to continue as Federal Reserve efforts to hold down interest rates spur investors to add relatively risky, higher-yielding assets. Hospital and health-care debt has an average S&P rating of A-, seventh-highest. At the same time, some bondholders are betting President Barack Obama’s health-care law will limit hospitals’ unpaid bills.
“Health care still tends to have more yield than its similarly rated counterparts,” said Paul Brennan, a senior portfolio manager in Chicago at Nuveen Asset Management, which oversees about $90 billion in munis. “Investors may continue to look to lower-rated bonds for yield, which is what the Fed is trying to get the market to do.”
Health-related bonds have benefited from the biggest rally in four years in high-yield munis. The difference in interest rates between securities with a BBB grade, two steps above junk, and AAA securities narrowed to 1.1 percentage points in August, the smallest since 2008, data compiled by Bloomberg show. Investors are adding the debt to boost returns with muni yields rates near the lowest in a generation.
The U.S. central bank said last month that it would hold its target interest rate near zero through mid-2015 as it attempts to stimulate the economy.
“The Fed is a formidable opponent and it’s rippling through everything,” said Patrick Morrissey, who helps oversee about $2.2 billion in fixed income at Great Lakes Advisors in Chicago. “We’re forced into what could be perceived as riskier sectors.”
Even with this year’s gains, health and hospital yields are higher than any other type of revenue debt, except bonds sold by local agencies for corporate borrowers or industrial projects.
The 2.95 percent interest rate on 10-year health-care bonds rated AA compares with 2.22 percent on similarly rated general-obligations, data compiled by Bloomberg show.
That difference is enticing enough for Morrissey. He said he’s buying issuers such as Northwestern Memorial Hospital, which is rated AA+ by S&P, second-best.
Starting in January, the U.S. faces $1.2 trillion in automatic spending cuts over a decade unless Congress can agree on a plan to reduce the deficit. The reductions include $11 billion from Medicare, the federal health program for the elderly and disabled.
Congress is scheduled to return to Washington after the Nov. 6 election to debate the cuts as well as tax increases that will start in January unless lawmakers act.
The deficit “may lead to reductions in Medicare and Medicaid, which translate into weak volumes and revenue declines for hospitals,” Moody Investors Service said in a July study. Health-insurance programs accounted for 21 percent, or $769 billion, of the federal budget in 2011, according to the Washington-based Center on Budget and Policy Priorities.
In a reminder of the riskiness of the health segment, Moody’s downgraded $2.8 billion of nonprofit health-care debt in the second quarter, compared with $2.1 billion in upgrades. Last week, Moody’s cut Saint Peter’s University Hospital in New Jersey to junk and Albert Einstein Healthcare Network in Pennsylvania to Baa2, the second-lowest investment grade.
Lyle Fitterer, managing director at Wells Capital Management, said the spread between high- and low-quality hospitals has gotten “too tight.”
“There’s so much demand for income right now that people are overlooking some of the fundamental issues, not just within health care, but in all sectors,” said Fitterer, whose Menomonee Falls, Wisconsin-based company oversees $31 billion in munis.
Obama’s Patient Protection and Affordable Care Act was upheld by the Supreme Court in June, leaving in place a mandate that Americans obtain health insurance or pay a fine, expanding the protection to millions and curbing hospitals’ unpaid bills.
Uncompensated costs totaled about $57 billion in 2008, though hospitals get most of that back through government programs, according to the Henry J. Kaiser Family Foundation, a Menlo Park, California-based nonprofit research group.
Republican presidential candidate Mitt Romney says he’ll repeal the law if he wins November’s election. With enrollment in state-run health insurance exchanges set to begin a year from yesterday, 37 governors have yet to formally commit to the project.
“The real unknown is what’s going to happen after the election,” Brennan said. “There’s this lingering uncertainty out there with health-care bonds.”
Following is a pending sale:
PENNSYLVANIA ECONOMIC DEVELOPMENT FINANCING AUTHORITY plans to sell $2.9 billion of tax-exempt, unemployment compensation revenue bonds as soon as today, data compiled by Bloomberg show. (Updated Oct. 2)
To contact the reporter on this story: Brian Chappatta in New York at firstname.lastname@example.org
To contact the editor responsible for this story: Stephen Merelman at email@example.com