The Bond Buyer - - Front Page - BY JOHN HALLACY John Hallacy is a con­tribut­ing ed­i­tor at The Bond Buyer fol­low­ing a long ten­ure in the mu­nic­i­pal busi­ness, pre­dom­i­nantly as head of mu­nic­i­pal re­search for Bank of Amer­ica Mer­rill Lynch. John has also spent time as an an­a­lyst and man­ager a

us to con­sider the value of pub­lic as­sets in every­day life, the prospects for re­build­ing with mu­nic­i­pal fi­nanc­ing, and the ef­fects on credit ◽ual­ity.

As Hur­ri­cane Har­vey’s flood­wa­ters be­gin to re­cede in Texas and Louisiana and Hur­ri­cane Irma bears down on Florida, we are just be­gin­ning to fo­cus on the many tasks ahead. The fo­cus of this com­ment is the con­sid­er­a­tion of pub­lic as­sets in every­day life; the prospects for ac­com­plish­ing the re­build­ing with mu­nic­i­pal fi­nanc­ing, and the ef­fect on credit qual­ity for the cred­its af­fected by these force­ful and dev­as­tat­ing storms.

I have a great deal of em­pa­thy for the chal­lenges and the suf­fer­ing that peo­ple face in the Greater Hous­ton area and along the coast. Hav­ing had to deal with the tragedy of 09/11 and the dam­age and dis­rup­tions of Sandy first hand, I truly know what you are going through and I hope for the best for you.

In Texas, we will need to be­gin to fo­cus on the fine points of dam­age es­ti­mates and the chal­leng­ing tasks of re­cov­ery, de­bris re­moval and re­build­ing. Given the fact that ac­cess at this point to prop­er­ties is just not prac­ti­cal, drones are re­ally prov­ing their worth. As­sess­ments must be made by claims ad­justers no mat­ter which ap­proach is uti­lized. Early es­ti­mates of in­dus­trial and com­mer­cial dam­age have been in the $20 bil­lion range for the com­mer­cial in­sur­ers, though at this point the num­ber is just an ed­u­cated guess. The num­ber will be re­vis­ited many times be­fore the ag­gre­gate to­tal is more ac­cu­rate.

The dam­age es­ti­mates when they be­come for­mal are likely to lead to prop­erty tax ap­peals that are likely to ex­ert ad­di­tional pres­sure on lo­cal prop­erty taxes. The lat­ter is the fun­da­men­tal sup­port for school dis­tricts in Texas and for lo­cal gov­ern­ments.

In the mu­nic­i­pal mar­ket we are con­cerned about all as­pects that will af­fect the out­comes, es­pe­cially for pub­lic as­sets. As re­ported, the pre­lim­i­nary ask to Congress is going to be ap­prox­i­mately $180 bil­lion. The ra­tio­nale for this num­ber will need to be strongly sup­ported with facts and re­fined dam­age es­ti­mates. In a post Sandy world this as­pect has be­come highly politi­cized. How­ever, when the fi­nal vote comes I would trust that we will do right by the peo­ple in the zone.


What can be ac­com­plished by tax ex­empt fi­nanc­ing? The pro­grams au­tho­rized for the Sandy re­cov­ery were very spe­cific as to amount, time and pur­pose. In the case of Har­vey, this con­sid­er­a­tion may take more than one week when Congress is in ses­sion. The press­ing needs will still dic­tate that swift ac­tion will be a fac­tor in the process. But it is prob­a­ble that the re­cov­ery pack­age that is for­mu­lated by Congress will be pat­terned af­ter what has come be­fore.

The muni in­dus­try can get a lot of sup­ply to mar­ket very swiftly. The mar­ket is starved for sup­ply and a surge of Texas pa­per could be ab­sorbed eas­ily. It does not mat­ter that the bond pa­per con­sti­tutes na­tional names ver­sus spe­cialty state pa­per. There is the added kicker to the prospec­tive buyer that in ad­di­tion to suf­fi­cient yield that the buyer is as­sist­ing in the ef­fort to re­build.

The im­pact on the states and its lo­cal­i­ties is quite real and dis­cern­able. In a dif­fer­ent mar­ket than the one we are in at present, bonds would po­ten­tially trade off more given the po­ten­tial for credit con­cerns. In this mar­ket now, this con­di­tion is not quite the case.

Most lo­cal gov­ern­ments have some kind of spe­cific event, blan­ket in­sur­ance, or self-in­sur­ance poli­cies against prop­erty dam­age and loss. Flood cov­er­age is of­ten the most dif­fi­cult to ob­tain and is not as preva­lent. It is im­pos­si­ble to ob­tain flood when the im­prove­ment is in the flood plain. Ul­ti­mately, this means that the Is­suer is ques­tion has to go out of pocket to the ex­tent there are no other re­im­burse­ments pend­ing.

In light of this event, we may want to re­visit whether re­lax­ing reg­u­la­tions for build­ing in the flood plain should be ac­cept­able. In the event there is no other cov­er­age, FEMA is called upon.


The lessons learned from Ka­t­rina and Sandy are many. We should hear­ken back to some of those lessons but we should also be very cog­nizant of where we may make im­prove­ments in the re­cov­ery ef­fort so as not to dis­turb the un­der­ly­ing credit qual­ity.

I had the op­por­tu­nity to visit New Or­leans just a cou­ple of weeks af­ter Ka­t­rina. I did not fully ap­pre­ci­ate what the Army Corps of Engi­neers was talk­ing about when they re­ferred fre­quently to the “bath­tub”. There I was stand­ing in the Ninth Ward view­ing the de­struc­tion. I looked at the one struc­ture that was stand­ing on that block and re­al­ized that the lip of the levee was higher than the roof of that struc­ture. All was clear. I just re­lay this ex­pe­ri­ence be­cause ac­tual in­spec­tions will make a dif­fer­ence.

Dif­fer­ent struc­tures will have an ar­ray of spe­cific dam­age in­ci­dents. Many struc­tures will be af­fected by elec­tri­cal and HVAC dam­age. Con­cern­ing the former, in the case of Sandy, the salt wa­ter did a great deal to com­pro­mise ca­bles and sys­tems. Gen­er­a­tors were over­come by the flood­ing. HVAC sys­tems were wa­ter logged.


In Texas, on av­er­age, the phys­i­cal plant is much more youth­ful par­tic­u­larly in an area such as Hous­ton that has ex­pe­ri­enced a great deal of growth in re­cent years. In many cases, the HVAC sys­tems for schools, civic cen­ters, and other im­por­tant struc­tures are on the roof. It is not likely that all of them are sit­u­ated this way. Elec­tri­cal ca­bles gen­er­ally are run from the street in heavy con­duit, but, even­tu­ally they have to come above ground.

Pri­mary and Sec­ondary schools for the most part are among the best de­signed struc­tures around. It is just that there is no way to fully de­sign and pre­pare for an event such as this one. Most of the schools in the state have the Per­ma­nent School Fund back­ing for their bonds. The in­tegrity of the pay­ment stream for school bond pay­ments is well pro­tected. What will take time is what dam­age that is not cov­ered by any kind of in­sur­ance will have to be re­paired with the pro­ceeds of a fi­nanc­ing. Of course, some schools have rel­a­tively large fund bal­ances but those bal­ances are pri­mar­ily main­tained due to the un­even­ness of the cash flow. Some re­pairs will be done out of pocket or with bank loans. Ex­ten­sive dam­age will re­quire bond­ing of some kind.

I have fo­cused on schools be­cause there are just so many of them. Hous­ton ISD on its own has 283 schools serv­ing over 210,000 stu­dents.

Now we need to turn our at­ten­tion to all of the other pub­lic as­sets out there. We can­not fully cover these in a com­men­tary of this kind but they in­clude roads, bridges, air­ports, gov­ern­men­tal cen­ters, civic cen­ters, po­lice & fire sta­tions, wa­ter & sewer sys­tems, lev­ees, etc. You have the pic­ture. Each as­set has its own dis­crete set of con­sid­er­a­tions and chal­lenges for re­cov­ery.

Turn­ing to credit qual­ity of the lo­cal is­suers, most of the cred­its in the state are eval­u­ated at an A or higher. Fund bal­ances of 5% or more and rel­a­tively steady as­sessed val­u­a­tion growth are com­mon fea­tures. Most of the GOs at the lo­cal level are cov­ered by spe­cific mil­lages that are ded­i­cated to the re­pay­ment of debt. What this means is that the dam­age would have to be very sig­nif­i­cant be­fore the GOs would have an in­suf­fi­ciency. How­ever, down­grades for lo­cal­i­ties with weaker fi­nan­cial po­si­tions going into the event may be harder to fore­stall. There may be some cheap­en­ing in the trad­ing of lo­cal pa­per.

The state it­self is re­liant on the sales tax for over 50% of its gen­eral fund rev­enues. A de­pressed level of ac­tiv­ity in the Greater Hous­ton area is likely to have some im­pact on the state’s bud­get in the near term. In the longer term, the state is likely to ex­pe­ri­ence a boost when the re­pair­ing, re­build­ing and re­fur­bish­ing com­mence. This ef­fect would only be some­what mit­i­gated by any pro­grams to grant sales tax breaks on the re­build­ing ma­te­ri­als. How­ever, the hours paid for in the re­build­ing will still yield some eco­nomic uptick. This ef­fect is likely to be de­layed for some months. Given the state is AAA, we do not think that these fac­tors will have an overly pro­nounced ef­fect on the state’s cred­it­wor­thi­ness.

Rev­enue bonds will need to cope with a diminu­tion or ces­sa­tion of rev­enues for a pe­riod of a cou­ple of months or longer. Some of the out­come de­pends on whether the as­set that is linked to the cash flow is in ser­vice or not. This is part of the rea­son that rev­enue bonds have ex­cess cov­er­age and re­serve funds. Wa­ter & Sewer sys­tems tend to op­er­ate with some­what tighter cov­er­age due to rate pres­sures. Most sys­tems have more cov­er­age than what is called for in the rate covenant as a buf­fer against events both large and small. Wa­ter & Sewer sys­tems are also some­what eas­ier to re­pair and need to be due to pub­lic health con­sid­er­a­tions. We could dis­cuss the other sec­tors, but, you have the idea by now. Some sec­tors may trade off than oth­ers for a time. An­a­lysts will be por­ing over re­ports to see which bonds may be more sub­ject to chal­lenges.

Irma in some ways may pose an even greater chal­lenge to Florida, Ge­or­gia and the Caroli­nas de­pend­ing on the tra­jec­tory of the record winds as­so­ci­ated with this event. Florida has an­tic­i­pated a storm such as this one with the cre­ation of the CAT fund. The fund has had the ben­e­fit of a long pe­riod of time to build as­sets with­out the in­ci­dence of any ma­jor events. The fund has also had a long stand­ing prac­tice of is­su­ing rel­a­tively short term debt to have ready cash avail­able for just this kind of event. The pro­tec­tion af­forded by the pres­ence of the CAT fund would prove its worth if a ma­jor event de­vel­ops over this com­ing week­end.

In the end, the re­pairs and the re­build­ing will be pur­sued apace. Few cred­its, if any, will ex­pe­ri­ence such a de­gree of dam­age that even with the con­sid­er­a­tion of state and fed­eral aid pro­grams they can­not sus­tain their op­er­a­tions.

We are hop­ing for the best out­comes for all. The mu­nic­i­pal mar­ket will do its best to cre­ate and place any fi­nanc­ing that is re­quired and we will do it in a fash­ion that is ef­fi­cient and at the low­est pos­si­ble cost. We know how to de­liver.

IIn the mu­nic­i­pal in­dus­try “we know how to de­liver,” Hallacy writes

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