Equities are clearly running on sentiments about the future and not on the fundamentals at the present time. In the long run, the optimism will probably turn out to be well founded. In the near term, we know we are in for enduring more financial pain before the storm dissipates. There will be more volatility ahead. Admittedly, the equity market was responding to the results for a drug that is turning out to be efficacious in shortening the recovery period for Covid-19 patients. One may only hope for more breakthroughs in the days ahead. We know that developing a vaccine may take a much longer period than is ideal.
Yesterday we were also responding to the Federal Reserve’s press conference. We learned that the Fed wants to maintain its stance of maintaining as much support as possible to the markets. The Fed stated that it wants to keep access to credit open and available. It is abundantly clear that the Fed will stay with the lower bound for rates for some time before it will change its stance. One question asked about the prospects for deflation. Given the massive level of support being provided, it is not easy to see that deflation is the next consequence. There was some discussion about moving back towards the 2% target later in the year.
There was some dialogue about the federal debt at the Fed meeting. Chairman Powell appeared to be sensitive to the fact that we are headed for a debt level beyond 100% of GDP. He emphasized that even though it is an important topic that now is not the time to focus on the level. Supporting and restarting the economy is more critical.
Somewhat reassuring is the increase in the number of mentions about support for state and local governments. The Fed lowered its minimum population guidelines for eligibility for support this week to much lower levels in order to reach more municipalities. We are not certain what the approach will be since the process has not begun but the Fed will still need to be aware of municipal credit as it doles out the largesse.
Pondering the current financial predicament for states and localities one item becomes noticeably clear that interim financial reporting would be most helpful in this environment. For most states, the fiscal year ends this June 30. Audits for fiscal year 2020 will not be available until at the earliest in mid Fall and are more likely to be available towards the end of the year. Unless an Issuer comes to the bond market for a sale or voluntarily posts interim financials, most analysts and other participants will be “flying blind”.
The matter of municipal disclosure is always with us. How to disclose how the pandemic is affecting financial operations of a municipality will have many layers of context. First, the numbers provide the initial snapshot. But, looking behind the numbers will require some real careful contemplation. In the last quarter, we are only examining the effects of two weeks of quarantine. Results for this quarter will be more of an indication of the depth of the suspension in economic activity.
A pandemic is a vastly different event from a financial meltdown. In each case a recession may be considered the natural progression. Any programs that put more cash into circulation will go a long way towards warding off negative consequences whether that support is from the Fed, the Treasury, Unemployment assistance or other programs.
I would anticipate that most municipalities will do their absolute best to prevent hitting the financial wall. Despite the incredibly low rates, the municipal market is still receptive and open for business. Rating downgrades are unavoidable. The question is whether some of the strict criteria may be relaxed or suspended for a time if the municipality in question has a plan to regain its financial footing after an interim period of uncertainty. We will see if there is any consideration in this regard. Otherwise, if discretion is not exercised, we must expect a raft of downgrades.
On a more positive note, we know that there is a modicum of support on the way. In the meantime, relatively low rates may ease some of the pain for issuers while instructing investors to stay the course and to swap when there are opportunities.
John Hallacy Consulting LLC
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