SUTTON: Brexit could mean cheaper bonds for local government

August 6, 2016

SuttonArthur Dent is the hapless anti-hero in the 1970s radio series “The Hitchhiker’s Guide to the Galaxy.” Arthur is blasted through galaxies in all sorts of uncontrollable near-disasters and he is constantly warned by his bizarre fellow space travelers: “Don’t panic!”

Don’t panic is our message as we follow the effects of the UK’s referendum on leaving the European Union, or, as it’s called, Brexit—for “British exit.” Even if Brexit happens, and that’s not a sure thing yet, the process will take at least two years after Britain signs the exit document, which hasn’t yet happened.

Just the fear of Brexit after the vote sent the markets into a quick fall, demonstrating we work in a global economy, but the U.S. market now shows signs of recovery and could be on track to its highest level since 2014.

However, Brexit has created uncertainty in the U.S. financial markets, which becomes an advantage for bond issuers.

The Federal Open Market Committee, chaired by Janet Yellen, had been expected to begin slowly raising interest rates. But with no one really knowing how Brexit will affect the long term, markets are expected to stay at or near present rates. That’s longer than what was expected before the Brexit vote, even with the improving U.S. economy and employment numbers looking better.

Natural supply and demand will probably push yields much lower, and it won’t surprise me to see 10-year Treasury rates dropping below the 1 percent threshold.

For cities, towns, higher education, schools and other bond issuers, this is an economically advantageous and prudent time to issue new bonds or refinance existing ones. We are seeing projects funded at rates of less than 3 percent for a 30-year bond. Ten years ago, that same bond issued for 5 percent to 6 percent.

Domestic and international bond buyers are flocking to the U.S. bond market in the “flight to quality,” meaning buyers are looking for good projects at good rates with security. This also puts issuers in good position to issue or refinance bonds.

For example, Umbaugh guided a northern Indiana community sewage plant program refinancing of $39 million in bonds to 1.77 percent, saving taxpayers nearly $4 million over the life of the bond.

As buyers chase the flight to quality bonds, Umbaugh assisted another community to finance a 20-year, $12.5 million sewer system work revenue bond at 2.56 percent. A year ago, a similar issue would have been in the 3.4 percent to 4 percent range and would have cost the community significantly in debt load.

Despite the headlines and the uncertainty about Brexit, this is a good time to restructure or issue your bonds. Remember, don’t panic.•


Tim Sutton is director of bond pricing at H.J. Umbaugh & Associates Certified Public Accountants, one of the largest independent municipal advisers to governmental units in the Midwest.

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