The Impact on the Municipal Markets Most Affected
In less than one month, three Category 4 hurricanes hit the U.S., the first time three such powerful storms landed on U.S. soil in such a short time frame. On August 25, Hurricane Harvey hit the Gulf Coast of Texas and brought with it record rainfall and flooding in and around the Houston area. On September 10, Hurricane Irma reached the Florida Keys and moved up and along the western coast of the state, bringing with it hurricane-force winds and flooding from heavy rain and the storm surge. The third and most devastating of the three was Hurricane Maria which reached Puerto Rico on September 20, knocking out power all across the island and creating a humanitarian disaster. The damaged communities in both Texas and Florida are in various stages of cleanup and damage assessment, but good progress has already occurred. Puerto Rico's challenges will be more long-lasting and much slower to return to normal.
We are watching and analyzing developments very closely to see how specific municipalities were affected by the hurricane-related damages, but some broad perspective may be helpful. While we understand the impact on those individuals and families touched by the storm is heart-wrenching and a significant financial strain, from a municipal credit perspective we do not expect that there will be payment delays or defaults on any of the municipal debt held in the Baird Advisors portfolios and funds.
Common Strengths in Texas and Florida
While the two storms that struck the mainland of the U.S. were quite different in many respects, there are important similarities between the two states most directly impacted. Both Texas and Florida have been among the fastest-growing states from an economic and population perspective since the end of the Great Recession. Both states are highly rated, with Texas at AAA by all three of the major rating agencies and Florida at AAA by S&P and Fitch and Aa1 by Moody's While there is never a good time for a national disaster to occur, the fact that the storms hit when each state is in a strong fiscal position will help facilitate the recovery effort and provide available resources for local municipal needs.
Texas and Florida also share a similarity in that neither assesses an income tax on its residents. Instead, each state relies heavily on sales tax revenue. In Texas, sales taxes provide approximately 75% of total state revenue and they provide more than one-half of all revenues in Florida. Certainly, there will be a short-term decline in sales tax revenue because of the storms, but now that the cleanup and rebuilding effort has begun we expect that sales tax revenues will rebound quickly. One difference between the two states is Florida's heavy dependence upon tourism. Florida derives 13% of state revenues from tourism, which will certainly decline for a period of time, but already Disney and the surrounding attractions are open after being closed for a couple of days.
In addition to the strength of the two states, the majority of local municipalities in each state were also in strong fiscal shape when the storm hit based on the major ratings agencies mentioned above. Between their own reserves and available insurance reimbursements, as well as what we expect to be significant help from state and federal funds, we believe the affected local municipal credits will recover and rebound over the next several months without any impact on debt payments.
Compounding Concerns in Puerto Rico
As stated above, the situation in Puerto Rico is much more difficult, both from a humanitarian perspective as well as a financial perspective. In contrast to Texas and Florida, the fiscal condition of Puerto Rico was already severely strained. The island was operating under the supervision of a federal control board created by PROMESA, which is responsible for restructuring debt. Prior to the storm, the PROMESA board was facing several difficult decisions regarding the level of debt that could be supported by the island and what the priority of payments would be. The post-storm environment only makes these decisions more difficult, with many new questions to answer. How many residents may leave the island permanently, and what sort of economy will exist post-Maria? How much federal money will be available to rebuild? How many resources that may have gone to repay bondholders may now go toward the rebuilding effort? This is all unprecedented territory for both Puerto Rico and for the municipal market.
Unfortunately, the hurricane season is not yet over, so other storms could still emerge in coming weeks. Yet in addition to the damage and destruction that has occurred, we have also seen an amazing outpouring of support for those affected. We are confident that support will continue. The strength of the American spirit becomes particularly evident in the most difficult of times.
Past performance is no guarantee of future results.
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