Are municipal bond investors overlooking the improved outlook of Illinois?

For years, the state was plagued by budget problems and rising unfunded pension liabilities. For two years – from 2015 to 2017 – legislators and then-Gov. Bruce Rauner locked horns and failed to pass a budget.

S&P rated Illinois’ general obligation debt BBB-, a notch above non-investment grade, in 2021 before the agency raised it to BBB, its first upgrade of the state’s bonds in 24 years.

Why, then, is one prominent market professional now seeing promising signs?

“The upcoming elections, they will have very little bearing on Illinois’ credit in the medium term,” said Vikram Rai, Wells Fargo’s head municipal strategist, according to The Bond Buyer. “And the main story for Illinois has been a general improvement in credit fundamentals,” he said.

“Things have changed since Gov. Pritzker took over, and under his leadership, the state has made great strides fiscally. We have had balanced budgets, elimination of the bill backlog, improving balances in the budget stabilization fund… and [the state has] reached $1 trillion in GDP.”

Pennsylvania upgraded

Municipal bond investors closely follow the fiscal health and credit quality of state and local government issuers, and there is encouraging news (“State of Issuers Aids Robust Muni Market”).

In addition to Illinois, Moody’s Ratings recently upgraded Pennsylvania’s rating to Aa2 from Aa3, its highest rating since 2013.

Moody’s noted “Pennsylvania’s large and diverse economy, solid financial position, and moderate combined long-term liabilities balanced by relatively weak demographic and revenue trends and growing demands on spending, especially K-12 school aid.”

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Over the past four years, Pennsylvania “has accumulated significant reserves, including $6.8 billion in budget stabilization reserves and $7.4 billion in general fund balance; however the latter will likely be spent down to fund ongoing spending pressures and support capital investments.”

‘Stable reserves’

Overall, there is positive news for states heading into fiscal 2025.

“States are proactively maintaining stable reserves, providing a cushion as tax revenues soften, while also prioritizing budget sustainability in light of dwindling one-time federal aid,” according to a Northern Trust report reviewing the fiscal outlook for states.

Despite their strong fiscal position, many states will need to make “modest spending cuts.”

Of course, projections can always go awry, so it’s important for investors to understand the credit quality of the bonds they invest in.

However, current reports are encouraging, especially in light of today’s attractive yields.