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Between unemployment and underemployment at the individual level to impaired income sources for local governments, credit score downgrades are emerging as an inevitable shared reality.
As more and more states and local governments are grappling with the new reality of COVID-19, credit rating agencies are actively monitoring their fiscal health and quickly changing their outlook for these agencies to withstand the current financial recession. According to a recent report from S&P Ratings, “ U.S. public finance saw continued downgrade activity in June, including multiple notches for entities affected by a severe drop in hospitality taxes (local governments), cancelled social events (student accommodations and conference centers), and some universities’ decisions on remote learning.”
In this article, we will take a closer look at how credit rating agencies are assessing the financial health of states and local governments and what they think the future holds for municipalities.
Be sure to check out our Education section to learn more about municipal bonds.
Before diving into what municipal downgrades mean for the health of municipalities around the U.S., let’s take a look at the methodologies credit rating agencies use for both general obligation (GO) bonds and revenue-backed debt when assigning their credit ratings and outlooks.
In the credit rating analysis of GO debt, there are two main areas typically considered by rating agencies:
Here are the few areas that are closely examined before rating a GO debt:
In the credit rating analysis of revenue-backed debt, it’s about understanding the nature of the services provided that generate the revenues. Often, these revenues are pledged to service the debt issued to fund the respective projects. The credit analysis includes the size, the coverage or service area, the strength of rate management and the financial strength of its overall operations.
Here are the few areas that are closely examined before rating a revenue backed debt:
Here are some ways a credit rating downgrade can impair a municipality financially:
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Due to COVID-19, as businesses confront operating constraints due to social distancing and diminished consumer demand, the recovery path will likely be rocky. This economic shock in the private sector would trickle into the fiscal health of municipalities around the U.S. Municipal debt investors must subscribe to and carefully review all content coming out of rating agencies on the different sector of local governments and agencies.
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Disclaimer: The opinions and statements expressed in this article are for informational purposes only and are not intended to provide investment advice or guidance in any way and do not represent a solicitation to buy, sell or hold any of the securities mentioned. Opinions and statements expressed reflect only the view or judgement of the author(s) at the time of publication and are subject to change without notice. Information has been derived from sources deemed to be reliable, the reliability of which is not guaranteed. Readers are encouraged to obtain official statements and other disclosure documents on their own and/or to consult with their own investment professionals and advisers prior to making any investment decisions.