State of the Union: Latest Trends in Public Finance, Market Developments and Projections from the Industry Veterans

Transcription:

Alma Subasic (00:06):

Our first session of the conference is the State of the Union latest trends in public finance market developments and projections from the industry veterans. Michael, please take it away.

Michael Scarchilli (00:20):

Thanks, Alma. Hello everyone, and welcome to the first official panel of this year's California Public Finance Conference. I hope you'll enjoyed the CDIAC pre-conference earlier today, but this is the first official panel for our event and we're very excited about the event to come. So I hope you have a great time over the next couple of days. I'm Mike Scarchilli, I'm the editor-in-Chief of the Bomb Buyer. We have a great panel here to kick things off today with four panelists who can really illuminate the current state of municipal finance, the issues the community's dealing with from each of their unique seats in the business and how that's impacted them from each of those seats. I'll take a moment first and introduce these panelists. Representing the issuer side, we have Rhonda Chu, Capital Finance Director at San Francisco International Airport from the banking and underwriting perspectives.

(01:07)

We have Gary Hall, who heads up infrastructure and public finance as Partner and president and Seabert, William Shank and Rob Dailey, head of public finance at PNC Financial Services. And we also have Jason Giardano who will give us a more data-driven perspective as Director of fixed income at s and p Dow Jones indices. So Jason, let's start with you and get an overview of the current market environment and then we'll go around the table first with Rhonda, then with Rob, and then to Gary to respond individually how that environment has impacted each of their individual businesses. And then after you've all gotten a chance to respond, we'll move into a free flowing conversation on a variety of topics. Think of it as more of a curtain raiser on the conference and a high level kind of macro view on the issues impacting the market and the micro on each individual firm and sector of the business. So that'll be the second half of the panel and then hopefully there'll be some time at the end for some questions for the audience. So let's get into it. Jason, want to take it away?

Jason Giordano (02:10):

Yeah, Thanks Mike. Hi everyone. So as Mike alluded to, we at S and P Dow Jones indices kind of provide a very unique view into not just the municipal bond market, but the fixed income market in general from the perspective of the fixed income investor. And as you can imagine, given the rate environment we're in with this rising interest rate cycle, investors in fixed income have really been challenged. I mean challenged kind of to the extent they've not seen before ever. And I don't say that lightly is this, oh, I thought I'd see this in front of us. Sorry, let me just get to the point. So I was going to put up the yield curve and show changes in US treasuries, but instead I thought I'd show the AAA Muni GL yield curve thinking this would give you the oh wow factor I was looking for, but I did this on Friday or I did it on Monday using Friday data.

(03:13)

And since Friday the yield curve is up about 15 basis points across the entire curve. I checked on CNBC this morning and the two headlines were the 10 year US Treasury yield crosses 4.9% the first time since 2007 and the 30 year fixed rate mortgage crosses 8% for the first time since 2000, right? So when I say we're kind of an unprecedented rising rate cycles, we've obviously been through cycles where we've increased rates before, but we've never done it starting from such a low point, right? The Fed has raised rates 11 times for 525 basis points, but from a range of zero to 25. So one of the effects of that is that treasury bonds and treasury notes are staring at their third consecutive year of negative performance, something that has never happened before. The treasury started issuing government securities in 1928. So in 95 years, we've never seen three consecutive years of negative performance.

(04:25)

So what has that meant for fixed income investors? Basically, there's not many places to hide, right? If you look across the spectrum of the segments in the bond markets, everything's down and it's really a duration story. Meaning the longer maturity, the more duration exposure you have to interest rates, the worse the performance is going to be. So there's no surprise we've seen an exodus from long-term mutual funds into shorter term, shorter maturity, shorter duration investments. If you look at this mass inflow into money market funds, and again, you saw a lot of deposit bases, leave banks and flow into money market funds. The one year treasury bill yield right now is five and a half percent, which seems pretty good compared to something. Maybe you're getting less than a half a percent in a deposit base. So here this chart is showing you all the fed hikes that occurred and the impact to various asset classes. And you can see short-term Munis actually have performed the best of all the various sectors and asset classes we track. They've been the most resilient. And a lot of it has to do with you've got tax exempt investments that are seeking to remain in tax exempt investments. So they just kind of move out the curve or move closer to the front end of the yield curve.

(05:59)

Again, it's a duration story. To this point, we haven't seen any widening in credit rates. Our credit spreads are still relatively tight even in high yield. But what I'm showing here is we've got a general obligation index, which is about a duration of six years. It's down almost 10% since the beginning of 2021, and our revenue index, slightly higher duration, so it's down a little. If you look at the 20 plus year treasury index year, this has a duration of 16, it's down 40%,

(06:33)

Which is massive actually, right? Can you imagine if the S and P 500 was down 40%, how many people would be talking about it on CNBC and Bloomberg News? So what you've noticed is fund flows have been flowing out of longer term investment options into shorter dated vehicles, and the result here is that you've got this combination of rising interest rates plus investor flows are putting downward pressure on prices. So I pulled some of our sector specific indices and the Muni space here. I thought one or two of these would be relevant to some of my panelists. So you could see the airport index is down. Again, these are prices. So Muni prices are down about 20% across the board. And what that means is yields are up. So if we look where the yield of our municipal bond airport index was about a little over a year ago, it was about 1%. It's now closing in at 5%, and I didn't check yesterday or today, but it's probably very close to 5%. So what does this mean to issuers, right? Your cost of borrowing has increased, which means your hurdle rates are higher, which means you have to evaluate or take into consideration what projects you may be more receptive to undertake or how you're going to fund those projects. So with that, Mike, I'll turn it back to you.

Michael Scarchilli (08:07):

Alright, Thanks Jason. So yeah, so we're facing this high rate environment, which has a lot of implications across the board. So Rhonda, you want to talk to us about how this is impacting the issuer environment?

Ronda Chu (08:23):

Yeah, So Jason, you are looking for the wow, it's wow. For us, it's issuers for the airport where we participate in the bond market once or twice a year for the last eight years. And you might wonder this current environment, why you're in the market, but we have a reason why we're still investing. And if you can hit the button on that video.

Video Presentation (08:56):

Welcome to San Francisco International Airport. We begin at the newly renovated Harvey Milk Terminal one named after famed San Francisco Civil Rights Pioneer Harvey Milk. This terminal not only reflects SFO S commitment to diversity, equity, and inclusion, but our spirit of innovation and focus on the environment. The passenger experience is a mix of serenity, modernism, and luxury. An open ticketing lobby and streamlined security screening area make the travel experience less stressful. state-of-the-art dashboards, display flight times and gate information, and a honors the late politician and gay rights leader, Harvey Milk post-security passengers can fill up water bottles at s FO's. New hydration stations for aficionados. SFO Museum is the first accredited museum at a US airport and on display flight patterns featuring flight attendant uniforms from the 1960s and seventies. Other amenities include retail stores, locally sourced dining outlets, a yoga room and animal relief area, and the first gender neutral restrooms At SFO floor to ceiling smart windows reduce glare and unwanted heat enabling SFO to reduce its energy usage. The terminal connects directly to the AirTrain and is being opened in phases with 22 gates open between 2019 and 2021. Final completion is expected by spring 2024.

Ronda Chu (10:26):

So that's the reason why we still invest and still go to market really to build into the future. So realizing that on a day-to-day, there's fluctuations in the market. Us as an issue, as an airport, we plan for the future. So we have a long-term perspective, long-term view, we've gone to market, like I said before, once or twice a year for a past eight years just to fund the capital needs of the airport. Really to give those that travel through SFO to come here, that experience, that customer experience. We've gone to market in good markets, bad markets.

(11:07)

In January, we went to market as well. We had pretty good subscription, total subscription, 455 million abouts, but there were challenges. The non AMT portion of it was not an issue, it's the AMT portion. The front end was fine, it's just the five to 10 year range was challenged in January. During the rate back then the longer dated ones are even more challenged. So we have to remain nimble. So for that transaction, we actually had to pull back some of the maturities that didn't show any interest in participation. So for the issuer in this kind of volatile environment to say that we remain flexible, right? I cannot emphasize more than current today to be made really flexible, to really plan out, right? Looking in the horizon, the fort calendar, who's coming to a market who might be an impact on your sales on the day of looking at the current rates that we're looking at right now.

(12:12)

Also, in addition, all these news releases, economic releases prior to your proposed issuance date. Those all have an impact. It has been fairly challenging to nail down all those pieces, so many moving pieces. This current transaction will actually come into market again in November to price additional refunding and new capital needs. We have a program in place, a CP program for this. One of these reasons is to make sure that we always maintain market access regardless of where the rates are. So we have a CP program to sort of tie us over until we decide when's the best time to go to market. So having those flexibilities in place does work to our advantage.

(13:06)

Although we have 600 million CB program, it does come, you can use your credit card up to use limit, but it does provide some flexibility in terms of timing. This current transaction is interesting in the sense that we had different components of the transaction at play in the very beginning. We started transaction in July. As we move forward in time, you're seeing what Jason has pointed out, the movement in yield curve, the whiplash back and forth, the yield curve, it's hard to chase after. So for an issue like SFO, really again, think about long-term, what the needs are and how to best situate ourselves into the market. Having the flexibility of having the rating agency credit, your rating it at hand, having a solid team around you, having your thought leaders with you making those decision points is key. We know when to peel off certain elements of a transaction, always maintaining the goal of making sure the airport has the funds to again build the current projects.

(14:20)

So we're building on the airport that you guys are seeing, hopefully traveling through SFO. So those has been sort of our focus is to maintain a long-term perspective. If you look at it, say the rates are crazy for sure, but if you look back at 2030, they're average. We're not that crazy. Yes, it's crazy, but it's not that crazy, right? And for those that you don't know, uncover, SFO, our debt profile, we have actually intentionally in past where the environments were great in terms of the three year yield, MMD, we placed a lot of those bonds in the backend and created this little barbell in the middle of our debt profile so we can fill those in as we see fit. So having that strategic thinking about in the future if things happen, how can we position ourselves to still maintain that access, maintain that lower cost of capital at the time you go to market. But if I say that didn't affect SFO's financing, I mean in terms of how we think about it, it does. And I think my colleagues here at PUC and office public finance, we all get together and think about, okay, timing for those transactions, again, remain in limbo and having all your ducks kind of lined up sort of mitigate some of those impact was pain. But overall, I think say I can say, wow, while every single day, morning wake up, no way. Wow. It's just been that kind of volatile environment.

Michael Scarchilli (15:53):

Thanks Rhonda. I think just to underscore what you said, remaining nimble is a key theme that I'm hearing just kind of across the board, whatever piece of the industry that you're in. So we'll use that kind of segue over to the banking side of things. So I guess first, Rob and then Gary, you want to talk about just how this rate environment has impacted the banking sector and the way that you guys approach your jobs?

Rob Dailey (16:21):

Great, thanks Mike. So maybe just an opening comment about rates are higher, obviously they're a lot higher, right? 500 basis points of tightening, but I was listening to a podcast this past weekend. I haven't checked this so I'm just going to use this. A financial history was written that said that the previous 10 or 15 years we've had basically zero rates were the lowest in 4,000 years. So with some perspective we can appreciate it's not that bad. And if you look back, as Rhonda said, the past 30 years we're at about average rates that we have been over the past 30 years is where we are today. I think to a great degree, we're continuing to reset from conditions we've had for the past 15 years, still adjusting to the new environment. I think we're highly sensitive to political events, geopolitical events, inflation, unemployment, data, relative value versus other markets.

(17:23)

I think there's a lot going on that I would characterize as evolution of our market in relation to other markets that had begun. Pre covid was interrupted a bit and now we are beginning to revisit again and continuing to evolve. In general, market receptivity remains strong in both the bond market and the bank market. We're seeing relatively stable, relatively tight credit pricing. There is some differentiation based on sector, but I think the big thing that drives the results you're going to get are some of the things that Rhonda was talking about. It's about execution and making sure that you can deliver on the plan of finance in the way that you plan. So what does that mean? It means you have to plan, you have to communicate with all relevant participants, you have to offer transparency in what you're doing, and then you have to deliver as you promise. You can't time the market and we're a market that's going to be here in 0% rates or 10% rates and you have to just forge ahead. And so I think the quality of how you do what you do is really so much of what drives the results you get. And I would say that's true in any market, whether that's taxable tax exempt bond bank, floating fix, et cetera.

(18:44)

A couple other thoughts on this. We have returned to a great degree to the conditions we had pre-financial crisis in the sense of having a yield curve that matters. It's still inverted in somewhat disrupted, but I think we all expect at some point to normalize and to get to an upwardly slope that factored with the opportunity cost of what you do with either liquidity or where you structure your debt means that there are very real financial outcomes and implications for how you structure, which means there's going to be savings in floating rate exposure. It matters whether or not you put a bond out in 12 years or 20. It matters what you do with your short-term cash liquidity, $10 million set aside, no longer can be forgotten about. Now it's potentially worth $500,000 over the course of a year in return. So all of these things are new, I think makes the issuers toolbox much bigger.

(19:51)

There will always be a place for long-term fixed rate bonds, but we now are calling into demand the need to manage that portfolios and manage them against asset portfolios as well. So it's kind of a new game I think very, very interesting as we look forward over the near term market's been down, but if you look at actually the tax exempt gear to date, it's only down issuance volume, only down 3%, the market's open and it's a matter of being able to determine what you need to do by when and developing a plan for executing on it.

Gary Hall (20:34):

So Rhonda, first of all, I definitely appreciate the improvements in terminal one and of all the things I like about the Grand Hyatt, it's the cookies, chocolate chip cookies, which I partake in too much. But you get up here and you say the state of the union and you've seen the presidents always say the state of union is strong, not so much. What keeps me up at night is actually the cost of construction. Those projects that Rhonda mentioned that was done in SFO would be precipitously higher In this current environment. We are seeing construction, McKinsey just did a study, 79% of all public improvements are incurred cost overruns. The rise of construction costs basically because of cost of materials are going up precipitously, cost of labor is going up substantially and then also inflation is causing prices to go up, is really causing a lot of our issuers some consternation.

(21:34)

We're seeing cis being adjusted, the timing of transactions being adjusted because of this, but most importantly how we bank in this current environment is totally different. When you have the luxury of doing advanced refunding or current refunding at your computer, you can target the prospects of deals. Our ability to know where the deals will be happening requires us going out in the market, getting front of our clients, going to the board meetings, going to the council meetings to know when those CIPs are being adjusted. So we haven't spent a lot of time with our clients trying to get a feel for when they're coming to market in ways that we haven't before. We've had a huge hit to our volume and we'll walk through that later on in the presentation, but I'll go ahead and let you guys get started with the other stuff.

Michael Scarchilli (22:25):

Alright, so I think now that we've set the table, I think we want to dig into more of the broader implications of the environment that we're in. So I think for this phase we'll make it a free flowing conversation. Just sort of chime in what you want. I guess just to get it started, the rate environment, the shape of the yield curve, what, let's talk about this, right? I mean, so refunding activities down obviously because it's a rate driven calculation. So I mean let's start there. So where does the market need to be with the refunding activity, where it is now and how long can we go with this sort of lower refunding environment before just issuers have needs that need to be refinanced regardless of the cost? Right.

Gary Hall (23:26):

Well Mike, actually refunding are actually up, I thought it was counterintuitive as well when I saw it, but we've got a slight uptick in refunding based on our overall composition that we've had since 2021. That's largely driven and I'm sure Nikolai, Julie and Sam can tell you, we're pitching tenders all the time. And while this has been found volume for us, we rarely see what I call naked tenders. Tenders are typically done when there's another sort of plan of finance connected with it. So we don't have, because of what rates are, we don't have the true sort of current fundings and obviously with tax reform and advanced refunding and a taxing basis has gone away and where rates our taxable refunding are gone away. But that said, most of our issues are still prudently looking at their debt portfolios, trying to extract savings where they can and it's incumbent up on us as bankers to help them figure that out.

Rob Dailey (24:24):

Maybe just to jump in there, I think the one big biggest driver that people have to get used to is higher volatility. It's been enormously unsettling over the course of it's been, look we've, we've been living through this, but we're still in an environment where we get massive moves and not just on the long end of the curve with a 10 year treasury moving around and relating and reacting to that, but also the short curve. So SIFMA bouncing around 25, 50 more a hundred basis points in a very short period of time. I think the part of it that people haven't yet gotten their arms around. So in my view, while that shouldn't have a huge impact on volume, it may, I think the bigger driver for me around bond volume is increased activity around crossover, crossover activity among investors. You see classes of investors coming in and out depending on where we are relative to taxable rates. And that's something that I think has been accentuated and I would place that in a larger context of markets. I wouldn't necessarily call them converging, but at least getting more and more integrated, better integrated in the Muni market, getting better integrated with other markets as well.

Ronda Chu (25:52):

And just also chime in too, right? Remain having the continuous access to market. So for the airport we had 500 million in CB capacity and the way we use it is just in time financing before we go to the market to bonding during covid, as you all know, liquidity was pretty tight, but as an entity we know that we had, our goal is to make sure that there's always the access to market. We actually increased our CP program to 600 during that time, and so we did work with commercial banks to make sure that the extra a hundred million is backed by literal credit.

(26:40)

It was pretty tight, but we were able to get it done. It worked out really well for the airport during covid and up to this point in time as well, because although the MMD is moving and whatnot, there's inversion, we're still seeing at least most recently this week, last week, the resets for the seven days or they're high, but we're watching it closely. If it continues that way, there are a thought process of, again, what makes more sense? Do you want to row short term? Do you want to then lock in what you think would be the high at this point in time, long-term rate. So those are things that we actually got to evaluate as well, watching closely over the version of the yield curve when it's going to flip back to normal. I don't know what normal is anymore after the pandemic, things just seem to just go every which way.

(27:37)

I was talking to some colleagues before the conference, I had some convictions, I say something before pandemic, I had a real strong conviction, this is the way we're going. That can never happen. Now you never know. You can never say never in my lifetime, there's no way one thing could actually stop the whole world from closing down. There's no way. And it happened. And with the interest rate the way they are, again, maintaining the focus of what the priority is and not chase after the market, looking back at the rates again, historically it's bad, but again, putting in perspective, you make the best decision at the time with information you have. So it has always served us well. We've raised funds even during downturns because then there's still advantage to that during downturns, there's a lower cost of borrow. Again, we keep on marching forward, most airports you fly through in the US are making major capital programs.

(28:43)

There are not millions or billions. So again, it's all the infrastructure that may be also part of the infrastructure plan from DC, but the issuers can access those funds through those means. The grant means the federal program, but it comes with certain provisions that you to comply with and the time necessary to make sure that stars line up to get the lower rate. You got to weigh whether or not it's worth their time and instead go to market. But there's an opportunity for issuers like myself maybe perhaps don't issue as many debt. Let's go on the grant and federal side. But again, you weigh the weigh what it has to look like in order for you to actually access those grant funding. So there's a whole lot of discussions that me and my partners, my colleagues in the room always thinking day in, day out, how do we make sure that we have the best borrowing rate, right matter if it's grants, bonds, TIFIA loans, and all those instruments just to make sure that always keep the ball in front of you. You goal is to make sure that now that the construction project stops

Rob Dailey (30:00):

Just a note maybe on the federal funding. This issue of constraints on federal being able to spend federal dollars is not something that I was necessarily all that focused on until we were talking about it. Rhonda, a couple other points about the federal dollars. Number one is they're still out there. They haven't been spent away from IGLA, I think they're still best. We can count. There's 60% of the dollars, sorry, 40% of the dollars have yet to be spent. They've been made available, sometimes they've been kind of allotted or assigned or even committed but not spent. So that's going to have a continuing dampening effect on activity in our market. I would just note as an aside to get those numbers was really, really hard. I was expecting we could just download a report from GIO or somebody who was tracking this stuff to the dollar.

(30:56)

It's just not out there. And our best counting is to that number and there are a couple other, there are a half a dozen places that are tracking it from a very narrow point of view, but nobody's got a good sense of the overall. And then one other point is this came up in a conversation earlier today, the number and breadth of new financing techniques that were included in the federal stimulus and infrastructure bills is overwhelming and there's no catalog of them. And I think there's a huge amount of activity that could be spurred by this stuff launched by it, but not everybody yet knows what they are. So we're still in this learning process. We could find that we've got years of innovation ahead of us because of what they passed of the past couple of years that nobody really has gotten their arms around. So I could be a lot smarter on this topic, but I was surprised at how dumb I am on it to be frank. So that is something I think that could lead us in new directions could be kind of interesting.

Gary Hall (32:03):

Another point on that as well is that especially for IIJA you have a large concentration of the allocation being on competitive grants, which is requiring a lot of collaboration amongst local governments. It's great. Fiona mentioned that the state has just received a competitive grant. I know Chicago and other places have, but that's requiring our governments to work together in order to measure impact. And the metrics for how those are being judged are very subjective and they aren't clear. And so my count is only 22% of IIJA has been spent. And so there's a lot more to come out there to come, but the access to it is not that clear.

Ronda Chu (32:45):

Yeah. One thing before I drop this federal, there's no federal government agencies in here, but it is been really difficult to actually draw down those grants, right? Because for project qualify, you have to fulfill the American rules on your steel and your manufacturing goods from the get-go US products, you have to have a prevailing wage in all the contracts. The contract has to be competitive. All those things have to be in place in order for you to actually then be eligible for the grant funding. So as an airport entity, for those folks that are interested in doing those kind of grants, you have to have really forethought, really measured planning to make sure all those requirements are fulfilled. And those do take time. So it does take time, but the access to market for us 3, 4 months of work for the federal piece, it takes way longer. So again, the access is a bit different in terms of timeframe as well.

Michael Scarchilli (33:53):

All right. Anybody else want to talk on this topic or jump into a different topic? Otherwise I'll throw another idea out there. What about the impact of technology on the business? How is that kind of impacting everything sort of causing development or whatever innovation in the background of the context of what we're all talking about here?

Rob Dailey (34:22):

I'm happy to jump into that one. So number one, we all were kind of slapped in the face with the need to adapt to new technology in order to do business in a new way with covid, which sort of was interesting. We all found a way to live with it. In some ways we found some things were better, but there are tremendous opportunities to continue that process. I think in double down on some of the improvements that we've learned, we're seeing at our bank, new tools to communicate, to streamline processes, to automate processes. We're busy working on applications for artificial intelligence in, for example, the loan credit underwriting process.

(35:13)

My view is as an industry, we should be running to this and embracing it to the extent we can. It's an opportunity for greater productivity and we've got some tremendous minds in the industry and I've seen some of the new technology. I think it's all in my mind the future and to a great degree, we've got I think collectively more opportunity than some other industries I can think of. On the other hand, I think it also raises the issue of bad actors in cyber fraud. That's the most recent topic that we did a bond buyer webinar on. Again, not something that I ever thought I'd be finding myself talking about, but somebody reminded me of a stat this morning that the estimate is that the enterprise, the cyber fraud, global enterprise money changing hands by 2025 is going to have effectively GDP of $11 trillion, which would be the third largest economy in the world.

(36:21)

Just mind boggling. I think one other issue that isn't necessarily just technology but it's worth talking about here is I think the Muni market is evolving and getting closer to other markets. And so in the case of issuers, from an issuer's point of view, it increases the scrutiny and control over disclosure. It increases the requirement and resources needed to convey transparency for investors is an increased focus on liquidity. They're tracking their positions much more closely to what they're doing across asset classes. And so we become a competitive asset. Class ETS are now a meaningful part of the investor profile That wasn't true a few years ago for banks and dealers. We've got a convergence of information tools that are used across the bank. We find ourselves picking up on processes and things that are being done on the corporate market much more easily. I think that's all good stuff and I think that's a good thing for the evolution of municipal market.

Gary Hall (37:27):

And we see we have evolution in benchmarks. MMD was the standard benchmark we're now navigating to BVAL. I saw that the MSRB now is using BVAL on Emma. So I think we're starting to evolve and get smarter to figure out more transparency in our marketplace.

Jason Giordano (37:49):

If I could just add quickly as an index provider, we license our intellectual property to those large ETF funds firms that sponsor those products. So we're seeing tremendous growth in that area. The increase in the number of funds provides price discovery, more liquidity to the market, more accessibility to the municipal investor. So I mean I just see that trend continuing and as Rob said, getting closer to the taxable side of the bond markets.

Michael Scarchilli (38:29):

Alright, well before I jump into another topic on my list here, I wanted to make sure we save a little time. We have about 10 minutes left, so if anybody has any questions we can take them now. We've got a microphone coming around. Yeah, thank you.

Audience Member 1 (38:49):

Mike started off or Dave referring to a change by one of our underwriters. I wonder if you could talk specifically about the state of our underwriting community and what sort of changes you might be seeing in the future.

Gary Hall (39:07):

So I just want to announce Seabert will not be leaving the public finance business. You'll be around for a while, but that's a great point. One thing that continues to put pressure on underwriting is that we're starting to see real risk in underwriting. Unsold balances are going up, but take downs remain low. So we're not getting paid for that risk and I think at some point we're going to have the balloon to burst. So that's one aspect. The other thing I would say is that compensation, especially for our junior bankers, has gone up exponentially and there's compression and attracting people to this marketplace is becoming harder given the competitors options they have. And I get concerned about what our market is going to look like tomorrow because it's hard to get folks motivated about public finance.

Rob Dailey (39:59):

Yeah, I think consistent with what Gary is saying, PNCs public finance business is constructed not just to be bonds only. It's really across. It includes and builds on our corporate banking business, really commercial banking, traditional banking business, which I find very attractive as a diversified set of products and capabilities on which we know that over time in a relationship context we can make enough money. I think what I see happening among the biggest firms in particular is a repositioning where they'd like to be able to play a national game and make sure that they're working on the biggest deals, the places where there's most value added.

(40:46)

My view is there isn't room for nine firms to be cherry picking, but whatever. That's kind of not the game we're playing. What we're really trying to do is make sure that we are finding the places where clients will reward the value that we can bring. We tend to run away from situations where we're simply commoditized. By that I mean reduced to a matter of price. I think the value of execution, what we were talking about earlier is really, really high. And I think it tends to be not necessarily paid for, but if you can position yourself as a high quality provider and get paid for it, that's the way to be successful in this business. There are a lot of trends kind of going the other direction, so you got to be careful to pick your spots.

Gary Hall (41:32):

We would also be remiss if we didn't say that the process to accessing the market and the method is totally different. Today investors are requiring us to contextualize credits and sell credit stories a little bit more palpably. We spend a lot of times with our issuers getting into understand the subjective assessments that buy-side a analysts are making. And so that price discovery is more art than science, which requires us to be a little bit more, no longer the field of dreams where you can just put bonds out there and folks will come and buy them. We haven't seen true credit differentiation the way I think it's going to happen in our marketplace. So access is still there, but we are starting to see an uptick in bond insurance. Investors are looking for a little bit more security and as we start to get more credit differentiation and access to the market won't be as plentiful. You're going to start seeing more firms. Take a second look at it.

Michael Scarchilli (42:34):

Any other questions out there?

Gary Hall (42:45):

If we don't have any other questions? One point I would make, and we haven't talked about rating agencies processes, I really encourage our issuers to actually take advantage of a face-to-face meeting with your rating agency analysts, get a chance to talk to them live again, contextualize your credit challenges and highlight your credit strengths. Really, really important. Just answering their questions and having phone calls is obviously a way to just check the box. But spending time with your rating agencies I found in this market environment is really, really important.

Ronda Chu (43:21):

I mean for us, aside from during Covid last, during Covid, we did a transaction during Covid with the lockdown. We did your virtual meetings with the rating agencies. But last two few weeks ago, my colleagues here and a few weeks ago we did rain presentation. We had them in at the office at the airport. We let them through the construction of the airfield and to showcase where the money's actually going. So I think to your point Gary, we've always had maintained that closed relationship with the rating agencies. Even during off cycle, we make the effort to go and visit them to make sure that they're sort of updated in terms of what we're up or what we're working towards operationally and financially. So having that connection is really key for resiliency. I think they also ask business travel, right? Because an airport business travel, what do you think that's going to Gary's point, all the businesses conducted, there's some element you can do virtually, but some element you just got to do shoulder to shoulder to get that most impact. So you think that it's always going to be there, it will be there and as in the airport, unless like I said, unless you can scramble your DNA in one room to another and not need to fly, I think there's always going to be a need to fly, whether it's your friends conduct business and whatnot. So getting back to the point, making that relationship work even during volatile times is just key and making sure that they have again, access to capital.

Michael Scarchilli (45:02):

Alright, last call for question is out there. Anybody else with the question?

Rob Dailey (45:07):

Mike? I'm happy to maybe take a minute on the bank market, kind of what's going on there.

Michael Scarchilli (45:12):

Well, I'm going to just say we'll do a final thoughts ahead around the table. So I mean if Rob, you want to just take it with the bank market?

Rob Dailey (45:20):

Yeah, just wanted to make sure that got addressed. I just wanted note because I think the bank loans and bank facilities have a permanent place in the market going forward. And just to kind of take a moment to reflect on the current market environment, all banks I think are under pressure and I'm going to just go through, lemme quickly go through five things that every bank is facing and that's what when you see a little bit of tension on the other side of your bank, this is what's going on. So there's an increased increasing cost of funding that's in both deposits and in the fixed income markets. In the corporate bond market, every bank has significant mark to market losses in their securities portfolio. From a rise in rates of 500 basis points, there is continuing concern looking forward around commercial real estate exposure and then connected to that other credit weaknesses, which we haven't seen a lot of yet, but commercial real estate, it's their increased regulatory burden, both supervision close to supervision, increasing requirements, then increasing costs of compliance including higher capital levels. And then there's a tremendous need for increased investment in technology. So that's what the banks are kind of going through and they're going to have to manage through this over the course of the next several months, or maybe it's 12 to 18 months. As a result of that, we're seeing a little bit lighter activity in the bank market. And I think a general tightening of some of the conditions in which banks are lending.

Gary Hall (47:08):

I know we've been sort of doomsday with higher interest rate environment, higher construction costs, but I'm still bullish that our market is, we remain strong, we still have a huge infrastructure glut in this country. We still have, like I said, only 22% of the 1.2 trillion of IIJA money has been spent. A lot of that's going to require a local match that might be funded with bonds. So I'm still bullish that we have a strong Muni market for years to come.

Jason Giordano (47:38):

Yeah, I agree with that. I think when we look at rates maybe when think about the rate outlook, we like to look at CME Fed fund futures. That kind of tells us what the bond market is seeing. I think it's really interesting given where Fed fund futures are, there's about a 50-50 chance of another rate hike before the January fed meeting. What's really interesting is that if you look at March of 2024, about a third of the market sees a hike, a third of the market sees no change and the other third sees easing. So I think the takeaway is expect volatility. I don't think anyone really knows what's going to happen three, four or five months from now. So that's the way I think what Rhonda alluded to about being flexible, being nimble, I think that's really important for issuers.

Ronda Chu (48:35):

And as the issuer. What I want to leave with you is if I didn't say that earlier, we're going to market, my POS is out, take a look at it. We'll be in the market in November. Thank you.

Gary Hall (48:47):

And it's good to be communal again, it's great to see everyone and still the residuals of the pandemic, it's still in the back of my mind and the craziness that's going on in this world and you can always count on the California Bond buyer being a place that we can all get together and celebrate the great things were going on in our marketplace.

Michael Scarchilli (49:05):

Absolutely. Alright, well thanks very much to our panelists here. Thank you Jason, Rhonda, Rob and Gary for sharing their thoughts and expertise. And up next will be networking Break sponsored by BLK Financial. Thanks everybody. Thank you.

Ronda Chu (49:18):

Thank you.