Conning’s State of the States shows uneven credit quality improvement


While state credit quality is improving overall, that progress is still patchy regionally, according to Conning’s latest State of the States report.

The report released Wednesday pointed out that the highest-ranked states were mostly west of the Mississippi River.

Driven by expanding economies and population growth, Utah was named the top-ranked state, followed by Nevada and Idaho. Conversely, slowing economies and population growth along with underfunded pension and reserve funds were typical of the lowest-ranked states, with Kentucky coming in last at 50, followed by Louisiana and Mississippi.

This report examines the evolution of state quality since the great recession officially ended 10 years ago on this date.

“The 10th anniversary of the end of the U.S. financial crisis provided a unique opportunity to study longer-term trends in state credit quality,” said Karel Citroen, Conning’s head of municipal credit research and lead author of the report. “The long-term perspective shows us to what degree even small changes in employment, GDP, housing prices, budgetary spending, and reserves factor into a state’s credit quality and fiscal health.”

Citroen said the state of the states and state credit quality are particularly newsworthy because infrastructure is getting public attention once again, as is the possibility of a recession, as remote as that might appear at this time.

Individual demand for municipal bonds remains high, he said, while issuance is low.

The last 10 years revealed considerable shifts among the states. The report shows the most improvement for New Hampshire, which moved from No. 37 in 2009 to No. 7 in 2019. Other states with outsized gains over the last 10 years include Nevada, which rose from No. 29 in 2009 to No. 2 in 2019, and Utah, which climbed from No. 22 to No. 1.

The report also found the public pension funding gap has risen in the past 10 years, despite the equity bull market.

“A decade of historically low interest rates has resulted in lower discount rates, requiring sponsors to dedicate greater amounts of money to meet obligations for future retirees,” the report said. “Simultaneously, lower interest rates have generated weaker-than-expected returns for fixed-income investments, hurting plans’ asset growth.”

The report revealed a number of instances where greater strains on budgets have caused a number of states to skip scheduled plan contributions.

“As pension payments increase in heavily burdened states like Kentucky, these fixed costs, which the report defines as annual pension payments, annual OPEB payments, and debt service, crowd out other state programs like education and infrastructure, and hamstring low-reserve states’ budgetary ability to respond to the next recession,” he said.

The report also focused on recession preparedness.


Demand for munis to continue

Karel Citroen, head of municipal credit research at Conning, talks about states and credit quality.

“A 10-year GDP growth cycle has some economists thinking the U.S. is due for a financial downturn and the report finds that states overall are better prepared for a recession now than in 2009,” he said. “However, three main challenges — liquidity, expenditures exceeding inflation, and a lack of General Fund reserves — remain a significant hurdle for several states.”

General Fund reserve balances now average 13% of General Fund expenditures versus 9% a decade ago, just below the Conning-recommended 10% minimum, according to the report.

Fixed costs are the other side of the preparedness question, and the report found that several states are facing significant infrastructure spending and pension obligations that may challenge their fiscal stability should a downturn arrive.

“Our rankings use 13 indicators. We compare the states, rank them on these indicators and then we weigh them and come up with an aggregate score,” Citroen said. “There are definitely winners and losers. It doesn’t mean that the losers are necessarily bad. I would highlight Vermont, which has one of the best unemployment rates but its ranking is in the bottom five … so it doesn’t mean if you’re a low-ranked state that you are necessarily bad across the board.”

Citroen said he thought the issue of momentum was important and that what Conning’s ratings point out is “that it is very difficult to buck this trend if you are on a negative path: it’s very hard to reverse this course. I want to highlight Illinois, which has been essentially 40 and below for the last 10 years in our rankings.”

Conning, founded in 1912, is a global asset management firm with $141 billion in assets under management and investment centers in Hartford, London and Hong Kong. It invests on behalf of institutional investors such as P&C/Life insurers and corporate pensions.

Its State of the States report aims to help investment professionals make better-informed credit decisions. The report’s indicators include measures of economic activity, such as income levels, housing prices and foreclosure rates, as well as a state’s overall business environment.

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