I am a member of the Eden Prairie A.M. Rotary Club. Each week we gather together on Tuesday mornings for breakfast and a program. This morning’s program was an economist from a Twin Cities investment adviser who gave us his view of what’s in store for the economy in 2010. Next week, we will hear from a different economist about what he sees in our 2010 economic future.
For today’s blog, I thought that I’d share a 2009 review and 2010 preview of the economy prepared by Springsted Incorporated, a public sector financial advisory consulting company located here in the Twin Cities. They are dominant in their market and well respected across the United States. Here’s what they have to say about 2009 and 2010:
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December 2009 Recap: Year End Bond activity slows, Economy sends mixed messages
The final month of the calendar year often is a combination of lots of bond sales during the first 2 – 3 weeks of the month, followed by a significant decline in issues during the last two weeks of the month. In addition, it is not uncommon for short term interest rates to rise dramatically during the latter part of the month as investors draw on short term investments to pay 4th quarter estimated taxes and make year-end charitable contributions. This reduces the supply of funds available in short term markets, causing rates to rise.
The trend of December rate behavior in 2009 is most notable for the fact that short term rates haven’t risen as they have in prior years. This is likely related to the fact that US Treasury short term rates continue to hover around 0% as uncertainty about the direction of Federal Open Market Rate Committee rate setting timing keeps investors focused on the short term, not wanting to invest in long-term federal securities that would decline in value when the FOMC decides to raise rates. No one knows when that will be, but the market is beginning to consider the possibility of a rate increase in mid 2010.
The economic news reported this month continues to present a very mixed message. Government and Industry sources reported that sales of existing houses increased in November, but sales of new houses declined compared to the prior month. Foreclosures didn’t increase, but the number of prime borrowers who are delinquent on their mortgages doubled compared to the prior year. Banks are showing improved earnings, but loan demand continues to lag expectations and corporate real estate financing is a concern for 2010. Unemployment declined a bit in November, but long-term unemployment is up. While some believe that the economy is emerging from recession, a more nuanced review of the data indicates that it is likely the economy has reached a trough and is not likely to get appreciably worse.
Equity values have risen substantially during 2009, indicating that the market expects continued economic improvement in profits going into 2010. While this is a hopeful sign, it should be kept in mind that much of the improved corporate performance is due to cost reduction and increased efficiency rather than expanded sales and revenue. For current price valuations to remain in place or increase, corporate earnings will need to continue to increase. This will be a challenge in the face of continued tepid consumer demand and tightening credit conditions.
The Week in Review: Bond Issuance slows as year end approaches
Bond Issuance slowed substantially after the second week of December as issuers and purchasers began the process of finalizing bond closings by calendar year end. With the improvement in bond prices since January (the result of declining interest rates) purchaser focus turns to “locking in” gains for 2009 and preparing for the upcoming year.
Longer dated Treasury interest rates rose in the past week as the market interpreted economic reports to indicate the recession is over and the economy will improve, leading the Federal Reserve to raise rates in 2010. Bond issuance volume declined the past week from record or near record weekly issuance calendars from November through December. Even with the high level of bond issues, the public finance market absorbed the offerings with little trouble, signaling that demand remained strong, with rates remaining at low levels.
Demand for debt remains strong, with investors willing to pay a premium for stronger (Aa/AA) credits. The difference between “Aa/AA” and “A” credits remains wider than pre 2008 levels, but has narrowed significantly since the middle of 2009. As the market continues to show strength going into 2010, we are hopeful that the difference in interest rates between different credit rating levels will continue to shrink
Where Do We Go From Here?
This year-end issue is where we want to take a quick look forward at short term trends for the first half of 2010. The upcoming year will be no less challenging than 2009 and may be more challenging in a number of ways. With tax receipts continuing to lag projections, unemployment remaining at high levels and home values continuing to show signs of stability at best, Administration and Congressional efforts to determine whether, when and how to adjust stimulus programs without harming the economy will take much greater emphasis around the second quarter of the year.
Efforts have already begun to work on extending some of the public finance provisions of the ARRA legislation, currently scheduled to expire at the end of 2010. The market success and acceptance of taxable bonds in the form of BABs has helped draw attention to the public finance market and raises expectations of investors who want to see a more deep and diverse pool of such securities. In part, this will help taxable bond issues such as BABs and other types of taxable issues to be an even larger part of the public finance area. This should serve to help keep tax exempt rates low, even as US Treasury rates rise in anticipation of improved economic conditions.
During 2010, we’ll continue to focus on economic activity and how it, along with political events, affects the public finance market, both taxable and tax exempt issues. We will work to bring you information about new financing options and variations on standard finance structures. We also plan to begin a series of articles reporting on efforts to extend or sunset various tax provisions that are of importance to your entity.
We appreciate the opportunity to be of service to you and thank you for your feedback and commentary as well as suggestions to this Market Commentary. As always, we encourage you to contact us about topics you would like to see addressed in future issues or comments on the Market Update.
A Happy New Year to all of you.
Springsted Incorporated
Public Sector Advisors
Information in this report is the personal view of the author at the time of writing and subject to change. This material has been distributed for educational purposes only, and should not be considered as investment advice or a recommendation for any particular security, strategy or investment product. The material is based upon information we consider reliable, but its accuracy and completeness cannot be guaranteed.
