By Gayl Mileszko
Predictions
If you were so inclined, you could bet good money on all manner of unknown future outcomes. The winner of this year’s men’s NCAA championship game in San Antonio. How many strikes Tarik Skubal will throw this season. The number of executive orders the President signs in March. How much spending DOGE will actually manage to cut this year. If Daylight Savings Time will be eliminated. Whether a federal judge will be impeached before July 4. If the all the incriminating Epstein files have been destroyed. Where 10-year Treasury yields will end the year. And more, much more.
Idea Futures
There are numerous forecasting platforms. They include academic as well as exchange-traded decision markets. Here in the U.S., Kalshi is one firm recently allowed to offer “event contracts” as it is regulated by the Commodity Futures Trading Commission as a Designated Contract Market. Kalshi says that its contracts differ from traditional sports betting (illegal in 11 states) because users do not bet against the house but rather engage in peer-to-peer trading. Others portray themselves as “idea futures” featuring binary options or offering derivative contracts based on trading probabilities of between 0% and 100%. Among other sites in the U.S., the Iowa Electronic Market has operated legally as an educational and research project since 1998 and Predict It recently secured a no action letter from the CFTC after promising to limit each question to a maximum of 5,000 traders and place an $850 cap on individual investments.
Wisdom in the Crowd
Even if you do not participate, it is fascinating to see what the crowd is thinking at any given moment — not based on surveys or polling but on how, in the aggregate, they wager. And, as we learned from last November’s elections, prediction markets turned out to be a lot more accurate than traditional forecasting models. There is a good deal of wisdom to be found in a crowd where beliefs are aggregated. Market prices, for example, indicate everything from the majority’s perceived value of Tesla stock to the probability of Beyonce having a number one album this year or a toll road being able to make its debt service payments.
Predicting Debt Affordability
The ability of the U.S. to make its debt service payments is being questioned again for the first time since Fitch downgraded our sovereign credit rating to AA+ on August 1, 2023. As with S&P exactly twelve years earlier, the rating agency action was taken in response to governance and policy-making concerns related to significant budget deficits and debt limit battles. Moody’s, the third of the major credit rating agencies, maintains a triple-A rating but with a negative outlook as of November 2023. In its latest commentary this week, Moody’s cited a “multi-year decline in fiscal strength” as likely to persist even in favorable economic and financial scenarios. The analysts cited higher interest rates as “weakening debt affordability”, and the possibility of the government’s evolving policy agenda on trade, immigration, taxes, spending and regulations “reshaping parts of the U.S. and global economy” with major long-term consequences. Traders, and primary dealers in particular, are fearful that demand for U.S. Treasuries will weaken. Trading across the curve in fact hit record highs in February with average daily volume of $1.03 trillion. It is hard to imagine that our nation would default on any debt payment, or that the bedrock of the global financial system would crumble and that our bills, notes and bonds would find no buyers at any price. But, in the past year, we have seen China, Japan, India, Brazil and Saudi Arabia sell $143 billion of their U.S. government holdings. And last September, hedge fund bets against Treasuries reached a high of $1 trillion, triggering a warning from the Bank of England about the threat posed to the global financial system as a result of a sharp and sudden sell-off.
Credit Forecasts
Municipal bonds have an average credit rating on par with that of the United States. Foreign investors perceive U.S. munis as relatively safe havens and in fact own about $115.5 billion of our bonds. Currently 30-year AAA general obligation tax-exempt bond benchmark yield at 4.19% is only 49 basis points below the comparable U.S. Treasury at 4.68%. As in the cases of Detroit and Puerto Rico, there have been noteworthy defaults but in the $4 trillion market as a whole, the history is one of very low default rates. A payment default by the U.S. Treasury has long been unthinkable. Rating agencies incorporate default risk into their assessments and credit ratings. They also analyze and opine on, among other factors, management, financial performance, debt level, security features, market position, users and affiliations, and vulnerability to adverse conditions. Muni yields, more often than not, correlate to those of U.S. Treasuries but technical factors such as new issue volume, attractive yields boosting demand, mutual fund flows, redemptions and volatility can make munis go their own way. From time to time, munis and even corporate bonds with triple-A range ratings alongside the United States trade better and produce better returns. So far this year, taxable municipal bond index returns at 2.92% are higher than that of Treasuries at 2.70%.
HJ Sims Brings Two Charter School Credits to Market
In February, S&P Global Ratings affirmed the BBB-minus rating for Triad Educational Services. Triad is a network of STEAM-focused charter schools in North Carolina serving more than 5,100 students. Last week, HJ Sims brought to market a $94 million bond financing for Triad through the Public Finance Authority. The final maturity in 2065 was priced with a coupon of 5.25% to yield 5.40%. We also underwrote a $7.7 million non-rated transaction for Odyssey Charter School in American Fork, Utah. Bonds were issued through the state’s Charter School Finance Authority; the 30-year maturity was priced at par to yield 7.25%. BlackRock sees this moment as a “generational opportunity to capture income” in the muni market. High yield municipal bond funds have seen $4 billion of net inflows so far this year. At this writing, the 2-year AAA general obligation tax-exempt benchmark yield stands at 2.69% and the 10-year at 3.20%. The 2- and 3-month Treasury yields stand at 4.29% and the 10-year Treasury is yielding 4.33%.
Predicting Policy Outcomes
Last week, the Fed met and told us what we already knew: a lot of new policy is being rolled out and we have no idea what will stick or how significant the results might be. President Trump has said he would like to see The Fed lower rates. So too would producers, consumers, and many investors. But Chair Powell is looking for greater clarity on the impact of the many policy changes, but he and fellow voters on the Open Market Committee anticipate two quarter point rate cuts this year. Futures trading reflects a growing consensus for three cuts but that seems more like wishful thinking. Prediction markets are seeing action on a number of tariffs, tax, rate, recession and downgrade questions. For the time being, traders are focused on the size of the April 2 tariff package, peace talks, whether the U.S. stakes in Fannie Mae and Freddie Mac might be used as assets in a U.S. sovereign wealth fund, Congressional talks on a reconciliation bill, and economic data releases on personal consumption, personal income and spending, inventories, new home sales and consumer confidence.
Speak Up This Week
The municipal market is looking for another new issue slate of $10 billion. Bond dealers, issuers, asset managers and individual investors are making their way to the U.S. Capitol to plead the case for preserving muni bond tax-exemption. One informal but influential economic adviser to the President reported last Friday that tax-exemption is “in play” and is more “politically plausible” than in prior years. It is a busy week – and an extremely exciting one with March Madness competitions and baseball’s Opening Day – but we encourage readers to write, call or visit your Congressman and Senators or visit the BuiltbyBonds project site to relay examples of the critical infrastructure built, and the essential services provided, by municipal bonds.