S&P Boosts Its Outlook On Municipal Bonds

• Looking for Specific Bonds?

Do you have specific criteria for bonds you're looking for? Let us know and we'll e-mail you bonds that fit your needs. There is no charge for this service.

Bondholders can expect to see upgraded ratings in their municipal bond portfolios following a major review by Standard &Poor’s of its rating criteria.

According to S&P, general obligation, full faith and credit issues will now have a minimum “A” rating assigned, unless specific vulnerabilities can be identified that require a lower assessment.

An internal review of rating trends since 2001 by S&P has revealed that upgrades of municipal debt outpaced downgrades by a ratio of 3:1 in recent years, reflecting improved credit quality. 

An improved economy, better financial reporting and strong corrective actions in financial and economic downturns have contributed to an overall strengthening of the credit profiles of local governments and other issuers of municipal bonds. Defaults in the municipal sector are rare, which is also recognized in the rating agency’s standards re-evaluation

S&P said the new rating approach will be phased in over time. Rating trends indicated that the existing criteria might be out of step with actual issuer debt payment performance. From 2000 to 2007, 5,318 upgrades occurred, spurring the current review.  A similar pattern occurred in the first quarter of 2008 which, according to “The Bond Buyer,” saw 192 upgrades as opposed to 41 downgrades.

Some critics have suggested the rating re-appraisal reflects calls for reform at a time when the rating agencies have been under attack for the inconsistency between ratings granted to governmental or public purpose entities and those assigned to financially engineered products, such as mortgage backed securities. The latter group usually receives ratings of “AAA” based on statistical modeling, while governmental units have been rated significantly lower. 

S&P denies this action is in response to recent criticism of the agency. The company argues that the current change is based on long historical trends and the agency’s finding that local governments typically take corrective actions during a financial downturn that enable them to continue debt service payments while making cuts elsewhere. As a result, benchmarks will be adjusted to reflect historical reality.

This news reflects what bondholders already knew. Municipal issuers provide “essential” services that generally have broad public support. A byproduct is that non-payment of debt obligations is normally unthinkable, and the consequences grave.  Whatever the genesis, the adjustment to reality will be welcomed by investors as well as issuers.