August 23, 2018
The U.S. Supreme Court’s 2017–2018 term yielded key federal decisions with sweeping implications for municipal issuers. The Supreme Court ruled that state and local governments may levy and collect taxes from online sales (South Dakota v. Wayfair, Inc.) and permit sports gambling (Murphy v. NCAA), which should bolster government revenues. More significantly, the Supreme Court found compulsory public-sector union dues for non-union members to be unconstitutional (Janus v. AFSCME). These decisions helped support the market’s positive outlook and outperformance relative to other liquid fixed-income sectors.
After suffering a loss in the first quarter, the Bloomberg Barclays Municipal Bond index posted a 0.87 percent gain in the second quarter. Lower quality underperformed higher quality, but all ratings categories delivered positive returns. AAA-rated bonds gained 0.72 percent, AA-rated gained 0.80 percent, A-rated bonds gained 0.91 percent, and BBB-rated bonds gained 1.41 percent, respectively. Spread compression has been supported by technical factors (i.e., less new issue supply, persistent fund inflows, lower dealer inventories), tax collections growth, rating upgrades exceeding downgrades, and defaults (excluding Puerto Rico) at the lowest levels since 2008.
Longer term, the Supreme Court’s decision on union dues helps alleviate constraints on achieving meaningful pension reform and narrowing funding gaps. Public-sector employees from non-right-to-work states suddenly find themselves in right-to-work jurisdictions and can broadly expect reductions in payrolls and collective negotiating leverage. Pro-union candidates can expect to suffer from diminished influence of unions as a major voting bloc and source of political contributions. Absent state-level Supreme Court decisions, the ruling on Janus v. AFSCME will merely provide measures of rest during the crescendo of pension issues in the United States. Although these cases provided general obligation bond issuers with much-needed flexibility, we remain focused on revenue bonds insulated from inexorable pension liabilities. As the pension underfunding problem grows, we expect risk to be more prominently discounted as the market recalls a key theme of past municipal defaults: politically motivated issuers are more than willing and able to dilute bondholders’ value in favor of retirees.
The U.S. Supreme Court ruled that state and local governments may levy and collect taxes from online sales and permit sports gambling, which should bolster revenues for most states.
Source: U.S. Government Accountability Office, Guggenheim Investments. Data as of November 2017. Note: Potential revenue gains reflect “high scenario estimates” according to the GAO, which does not anticipate revenue changes for AK, DE, MT, NH, and OR.
Public-sector employees from non-right-to-work states suddenly find themselves in right-to-work jurisdictions and can broadly expect reductions in payroll and collective negotiating leverage. Pro-union candidates can expect to suffer from diminished influence of unions as a major voting bloc and source of political contributions.
Source: National Conference of State Legislatures, Guggenheim Investments. Data as of 6.30.2018.
—James Pass, Senior Managing Director; Allen Li, CFA, Managing Director; Michael Park, Vice President
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