Thanks to improving financial conditions and rising interest rates, many states will be scaling down or completely forgoing annual short-term note programs in 1994.
The declining supply has helped lift the price of short-term notes, and forced letter of credit bankers and single-state money fund managers to search for alternative business opportunities.
State governments sold $8.3 billion of short-term notes and commercial paper to cover cash shortfalls in the first half of 1993, after issuing $6.4 billion in the first half 1992, according to Securities Data Co. Through June 30 of this year, however, only $4.1 billion of such issues have been sold.
"It's a couple of things," said Claire Cohen, executive vice president at Fitch Investors Service. "Financial conditions are better than they were, and the other side is that revenue estimates are better and the budgets are more controlled."
Several sources cited Michigan as a prime example.
The state's greatly improved economy will allow it to forgo a cash-flow borrowing in fiscal 1995 after tapping the market for $900 million of notes in 1993, and $1.2 billion in 1991. Michigan had no short-term issuance in calendar year 1992, borrowing for fiscal 1992 in December 1991.
"We won't have a cash-flow borrowing because of improved revenues," said Tom Saxton executive director of Michigan's State Building Authority.
Short-term issuance has also slowed considerably during the past three years in Massachusetts, which had relied on issuing commercial paper in recent years to help pay bills.
"When we came into office, there was about $990 million in outstanding short-term debt all the time," said Ken Olshansky, state deputy treasurer for debt management. "Now that figure is more like $100 million."
New York, too, was able to forgo its annual short-term cash offering this year, thanks to legislation which allowed the Local Government Assistance Corp. to bond out certain state school aid requirements which fall during cash-poor months in early Spring.
In Iowa, Gov. Terry Branstad recently canceled a proposed $80 million to $120 million tax and revenue anticipation note issue, citing improved revenue estimates, according to Gretchen Tegeler, Iowa's budget director.
Budget reforms, an improved economy, efficient management of state programs, and a one-cent increase in the state sales tax approved two years ago have also helped boost Iowa's revenues in fiscal 1994, which ended June 30, Tegeler said.
Tegeler said the state's solid financial footing should ensure that Iowa will not need short-term borrowings in the future.
Pennsylvania, too, has dramatically improved its cash flow situation in recent years, cutting the need for large short-term borrowings in the process. The trend is partly a result of fewer payments deferred to future fiscal years and partly the result of an end to large budget deficits, according to state officials.
To meet cash flow needs in fiscal 1993, Pennsylvania issued $975 million of tax anticipation notes. That compares to $600 million for fiscal 1994 and a projected $700 million for this fiscal year, which begins today.
Pennsylvania's borrowing needs were much higher in fiscal 1992, when the state issued roughly $1.5 billion of notes.
Improvements in cash flow management and a shift in the timing of certain tax collections have helped reduce New Jersey's need for notes as well.
New Jersey sold its first note deal in recent history in the fall of 1992 in a $1.6 billion offering. In 1993, the state came to market with a $1.3 billion note issue. This year, New Jersey plans a slightly smaller offering in the $1 billion to $1.3 billion range, according to state budget officials.
The situation is less clear in Illinois, but if Gov. Jim Edgar's proposed fiscal 1995 budget plan is approved, the state could reduce its level of note issuance as well.
Illinois accessed the short-term market to the tune of $900 million in 1993 and $1.4 billion in 1992, according to Securities Data, while Edgar's proposal includes $600 million to $900 million of short-term borrowing for fiscal 1995, which begins today.
But the debt plan is up in the air until a final budget is approved, according to Ellen Feldhausen, a spokeswoman for the Illinois bureau of the budget, noting that Democratic leadership in the General Assembly has come out against key elements of the Republican governor's proposal.
The reduction or elimination of the annual programs by these states -- which were all among the top 15 most active short-term issuers in 1993 -- has left the supply of notes low and is contributing to the fact that "short-term munis are probably as aggressively priced in relation to Treasuries as they have been in quite some time," according to the head of short-term trading at a large Wall Street firm.
The supply factor, in combination with investors' general "aversion" to the long-term market, has short-term tax-exempt issues trading at about 70% of one-year Treasuries, which is the "more aggressive end of the range," the source said.
The trading desk head, who asked not to be identified, expects the ratios to continue upward to just about 80% in the coming weeks ahead of two massive note offerings expected soon from California. After that, he said he "wouldn't be surprised if [they] drifted back."
In addition to its impact on prices in the short-term market, a slowdown in cash flow borrowings could pinch letter of credit banks, who often provide credit enhancement for those issues. But LOC bank officials said it is too early to speculate whether or not they will suffer decreased business opportunities.
"The jury is going to be out for the next two to four months," said Susan Kish, vice president and section leader at Union Bank of Switzerland, one of the municipal market's major LOC providers. "It certainly appears that note issuance is going to be less than in previous years, but California may be so big that it will make up for" the slowdown from other states.
California finance officials are forging ahead with plans to sell $7 billion of short-term debt next month in two financings scheduled one week apart, according to Hal Geiogue, state assistant treasurer.
The plan calls for a $4 billion sale of revenue anticipation warrants via competitive bidding on July 20 and $3 billion of revenue anticipation notes on July 27 in a negotiated deal whose senior bookrunning manager is Bank of America.
"California's note program is growing exponentially," said Larkin of Standard & Poor's. "They are tossing around numbers that are unprecedented. I've never seen this kind of short-term borrowing."
The $3 billion of Rans would be sold without credit enhancement, but California is seeking credit support from domestic and international banks for the entire $4 billion Raws issue, Geiogue said.
Kish said that if California's large program is insufficient to make up for the shrinking note market, "business is being found in other places, other forms."
One traditional way LOC banks make up for a dearth of variable-rate offerings is by providing credit enhancement on issues with long-dated maturities that contain puts, which are eligible for purchase by money market funds.
This technique is a traditional method of financing in a rising interest rate environment for issuers that must access the market because of budget or operating reasons, the trading desk chief said.
Managers of single-state tax-exempt money market funds that invest in Michigan, New York, Iowa, and the like could be the hardest hit by a diminished supply of short-term notes, he added.
"Gaps in the availability of paper may be more stressful for single-state managers then general market people," the trader said.
Karen Hand, who manages several funds for Dreyfus Corp. including the $660 million New York State tax-exempt money market fund said "the elimination of New York's borrowing did place some pressure" on the fund.
However, other New York state agency and local government issuers are "out there filling the gap," Hand said.
Despite the overall slowdown, LOC bankers and short-term traders noted that in addition to California, many other states are still planning significant short-term borrowings this year.
Texas, which has $1.4 billion of notes maturing at the end of its fiscal year on Aug. 31, is also expected to be back in the note market in earnest this year.
During 1994, the Lone Star State plans to sell between $1 billion and $1.5 billion of notes for fiscal year 1995, which begins Sept. 1, according to assistant state deputy Treasurer John Bell.
"It's really a typical timing-cash flow problem, not a budget problem," Bell said. "We've been borrowing since 1986, and I think we'll continue to do that unless something changes quite a bit. We just tend to spend more at the beginning of the year."
Despite increased sales tax revenues in the boom states of Colorado and Idaho, both issued notes Tuesday, with Colorado's tapping the markets for $250 million of tax and revenue anticipation notes and Idaho's bringing a $200 million Tan deal to market.
"Mine is for a cash flow deficit in mid-December. No matter what happens, I still have a major school payment going out in mid-November, just prior to receiving cash," said Idaho treasurer Lydia Justice Edwards.
In Colorado, revenues exceeded fiscal 1992-1993's $3.25 billion budget by $306 million. But Colorado's legislature also spent the anticipated increase and needed to issue $250 million of Trans on Tuesday to fulfill its school obligations this fall, said assistant treasurer Greg Diamond. Colorado's fiscal year begins June 30.
Elsewhere, Wisconsin sold $350 million of operating notes on June 22 and Maine just passed a milestone in note issuance.
Frank Hoadley, Wisconsin's capital finance director, said the borrowing was not related to economic conditions in the state, but is done every year to eliminate a timing problem between tax revenue collections and aid payments during the fiscal year.
"The [state's] outlays are greater in the first half of the fiscal year than revenues," Hoadley said. "The status of the economy doesn't change that."
And Maine treasurer Sam Shapiro said the recent $175 million sale of tax anticipation notes was the largest single note issue in the state's history. The offering was designed to "help the state meet its operating costs," Shapiro said.
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