WASHINGTON -- There are sound reasons to believe the rolling boom in the municipal bond market will last right through the year, and possibly over the next several years.
That is good news for market participants, from the state and local issuers who need the credit to the underwriters and dealers who can make money distributing the debt.
Municipalities like to come into the market when interest rates drop to cut financing costs, and they try to stay out to keep costs down when rates rise. The long decline in rates since the spring of 1989, when the Federal Reserve began to ease monetary policy, has been accompanied by a healthy rise in municipal bond volume.
Some market analysts are predicting that bond volume this year will top $200 billion, possibly beating the record $204.8 billion total in 1985.
Certainly, rates are in no danger of rising anytime soon, if one goes by last week's cut in the discount rate to 3.0%. But even if they do edge up as the economy recovers, the municipal market is undergoing some fundamental and long-term changes that may point to a prolonged period of solid demand for bonds.
One optimistic analysts is Aaron Gurwitz, vice president of fixed-income research for Goldman Sachs & Co. He believes the rise in the number of bond issues reflects a growing political consensus on the part of state and local governments that they have to upgrade their infrastructure.
Plenty of big projects that are bond-financed are only now just coming on stream, he says, citing the Boston Harbor tunnel and clean-up programs and the construction of new rail transit lines in Los Angeles. "I would anticipate that this trend is going to continue," he says.
Indeed, a case can be made that the political imperative for domestic investment has already won the day with the collapse of the Soviet Union. It can take years for municipalities to agree on a project, to plan it, to go through the environmental impact process, and then to build it. So if there are more projects in the pipeline because of new public commitments, they will add to what the industry already sees.
Another factor at work that will help municipal bond volume is the growing use of interest rate swaps, options, and other derivative products that can help issuers hedge against risk.
Lee K. Barba, managing director of BT Securities Corp., estimates derivatives are used for some $25 billion to $30 billion in bond deals a year. And, he says, the use of derivatives is growing rapidly.
Many issuers are still reluctant to use derivative products, fearing that they are exotic and sophisticated instruments that increase risk. But there is no argument that derivative volume is flourishing.
Another bright spot for bond volume is the evidence that the economy is improving , although at a slow and uneven pace. California is still in a financial bomb shelter, but large parts of the Midwest and the South seem to be doing all right. Even hard-hit New England seems to be climbing out of the bottom.
Thus, the outlook for municipal revenues is improving, and over the long term revenues should climb as localities see an upturn in personal income and retail sales.
Finally, there is the outlook for interest rates. Most economists forecast sluggish economic growth over the next year or so, with little change in rates. Short and long-term rates may move higher, but not much. If that is so, issuers can take their time about refinancing or taking on new debt. There is no reason to stampede in fear of high rates.
It could be a long time before the bulls in the municipal bond market are back in the corral.