ESG complexities multiply as muni market segment matures

Transcription:
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Keeley Webster (00:03):

Hi, I am Keeley Webster. Welcome to another bond buyer podcast. Today our focus is on ESG hot topics in the muni world. Today I have with me executive editor Lynne Funk, who will give a broad view of how ESG has impacted the municipal bond world, followed by updates on each of the five regions. Welcome, Lynne. What do you have for us today?

Lynne Funk (00:24):

Thanks, Keeley. Great to be here. So from a broad muni perspective, and I’ve heard this across the board, from the issuer to the investor, to the banker, to the bond council, no matter what your stance on it may be, ESG isn’t going away anytime soon. So I’m going to lay out some recent findings from a bond buyer ESG survey. We conducted it in the summer. It was a follow-up to a 2021 survey on the industry sentiments on ESG, and we’ve revisited some of the same or similar questions this year. And while clearly much has changed since 2021, ESG has become increasingly politicized and markets have become much more volatile, the sentiment somewhat surprisingly, came in almost the same on ESG as it did in 2021. So here are a few key findings. 32% of our respondents say ESG principles are very important to the industry.

(01:20):

That’s one in three. Now another 37% rated as somewhat important with just 31% indicating that it’s not important. Now, the more bullish sentiments on ESG definitely felt since we last asked these questions. In 2021, 1% said the topic was critical, 34%, very important, 34% somewhat important, and 7% not important, 4% not important at all. So the not important obviously, has risen dramatically up to 31%, but nearly half of respondents this year expect ESG to have a positive impact on the industry growth over the next five years. While 24% say it would be a limiting factor in 2021, growth expectations were higher with about two thirds of respondents expecting ESG to accelerate growth in the following five years. But when it comes to the E, the S and the G, 53% of respondents had ranked environmental as the most important of the three with 37% ranking governance and only 10% is putting social first.

(02:26):

That is similar to the 2020 responses, but social did fall somewhat. So what else did we find? The sell side had a more positive sentiment overall on ESG potential, while issuers were less sanguine. But the biggest takeaway in my book is that 75% of all respondents say they would like a universal language or standard for the meeting market down only 2% from 2021. So they still don’t agree on how the standard should be set though. And I think if we really look broadly at ESG factors in the muni market, there is a general sentiment that those factors can be found inherently in nearly every muni deal that gets done, whether it should be labeled as such as a different story. And while some market participants see it as an opportunity for industry growth in the US and abroad, others see ESG as a costly and unnecessary additional issuer disclosure burden with little pricing benefit.

(03:25):

For state local governments who say the debt they issue is inherently ESG. And I guess I’d leave this here. As is typical for most factors or challenges or opportunities in the muni space, the way that various market participants navigate ESG is really made more difficult by the disparate nature of the $4 trillion 55,000 issuer geographically and culturally diverse marketplace itself. But one thing I think is clear, it’s that ESG is a complex topic as the muni market itself, and what we have found is that much like much of the muni market, it’s also depends on geography. So my colleagues now will share some insights into ESG from around the country. I’m going to hand it off to senior reporter Karen Pierog, who will highlight the southwest where anti ESG sentiment is a bit more prevalent.

Karen Pierog (04:21):

Thanks Lynn. In Texas, which blazed the trail in the southwest for laws protecting the fossil fuel and firearm industries against perceived boycotts or discrimination. Two major investment banks, UBS and Citigroup have been banned from underwriting state, city, county, school, and other government debts since the two laws took effect in 2021. Attorney General Ken Paxton announced in October a cracked down on compliance with the laws in placed the status of other muni underwriters, bank of America, Barclays, JP Morgan Chase, Morgan Stanley, RBC Capital Markets and Wells Fargo under review to determine whether any are member of the net zero alliance, which seeks a transition to net zero greenhouse gas emissions by 2050. Meanwhile, Paxton’s office has given all banks seeking to underwrite Texas debt until Saturday to rewrite their standing letters of compliance with the laws by admitting language that in some way qualifies their compliance.

(05:25):

Some have already posted updated compliance letters on the Municipal Advisory Council of Texas website ahead of the deadline. Bond purchase agreements must also include language that puts the underwriter on the hook should it run afoul of the two laws which apply to contracts of a hundred thousand dollars or more. The prospect of even fewer big banks either bidding on or underwriting muni bonds in Texas could worry issuers. In the state Houston controller Chris Brown raised concerns over potentially higher issuance costs due to decrease competition as the city considers a $2.6 billion of bonds to renovate a terminal. At the George Bush Intercontinental Airport last year, Oklahoma enacted a similar law targeting oil and gas boycotters for divestment and contract purposes. Bank of America, JP Morgan Chase, and Wells Fargo landed on the state treasurer’s list of boycotters, making them ineligible to underwrite bonds. And in the case of Wells Fargo, leading to its resignation as lead manager for a $500 million Oklahoma Turnpike authority bond sale on Friday, an Oklahoma County judge will hold a hearing on a motion for a temporary restraining order or injunction against the Energy Discrimination Elimination Act.

(06:48):

A state pension recipient sued the state in Oklahoma, treasurer Todd Ross last month, claiming the law prevents public employee pensions from performing their constitutional duty to operate for the exclusive benefit of their beneficiaries. State lawmakers are also looking at tweaking the law by eliminating its application to local government contracts and other potential changes. Expansive anti boycott legislation that popped up in several states this year was enacted in Utah. In addition to fossil fuel and firearms, the law includes timber mining and agriculture, as well as boycotts against businesses that do not adhere to environmental emission standards beyond legal requirements, or do not facilitate access to abortions or sex characteristic surgical procedures. The law which took effect in may only affects contracts worth a hundred thousand dollars or more and leaves it up to public entities in the state to obtain as part of the contract certification from a company that it is not engaged in.

(07:57):

Boycotting entities listed in the Measure A spokeswoman for Utah Treasurer, Marlo Oaks said the office was only aware of one transaction in which the law prevented a financial institution, Deutsche Bank, from entering into a contract with a public entity. Details about the transaction involving the Utah Housing Corporation were not available. Arkansas lawmakers this year passed a bill to create an ESG oversight committee to compile a list of financial services providers determined to be discriminating against the energy or firearm industries. The list will be used for the divestment and investment of public funds. The Kansas Public Investments and Contracts Protection Act took effect in July, and it is largely aimed at prohibiting the state and local governments from giving preferential treatment to or discriminating against companies for procurement or contract purposes. Based on ESG criteria. Like Utah, the law includes an expansive list of potentially affected industries and corporate practices. Democratic governor Laura Kelly allowed the bill to become law without signing it, citing potential unforeseen consequences. Now onto Chip Barnett to talk about the southeast.

Chip Barnett (09:25):

Thanks Karen. In the Southeast, you can really see the pushback against ESG and the war on woke all along the line. Very different than the Northeast where they’re pushing ESG ahead. Starting with the region’s largest state Florida, it has two contenders for the GOP presidential nomination. And there you can see the biggest attacks on ESG right in the Sunshine State. Florida has banned the issuance of ESG labeled bonds by municipalities and the use of third party opinions. But a lot of this is just semantics language. If a municipality wants to issue bonds for environmental or social purposes like sewer and water bonds or housing bonds, it can do so and it has been doing so, so long as they don’t label the bonds as green bonds or as social bonds. Additionally, governor Ron DeSantis, a presidential GOP contender, has feuded with the Walt Disney Company over its vow to work for the repeal of the so-called Don’t Say Gay law, which limits classroom teaching about sexual orientation or gender identity to younger students.

(10:35):

And that led to the dissolution of the Creek Improvement District, which was run by Disney in Alabama. Governor Kay Ivy signed a law that’s designed to limit the use of ESG factors by private sector businesses who work with the government, but while bars, municipalities from signing new contracts with businesses that quote, refuse to deal with or take any commercial action intended to penalize other companies involved in the fossil fuel, timber mining, agriculture and firearms industries in the state. In Louisiana State Attorney General, Jeff Landry won the race to become the state’s next governor, and he’s taken over from term limited John Bell Edwards in January. Landry was endorsed by former President Donald Trump, another GOP contender from Florida, and is a fiscal and social conservative who has often fought against ESG and has had several run-ins with the state’s Bond Commission. Landry was endorsed by former President Donald Trump and is a fiscal and social conservative who is fought against ESG and has had several run-ins with the state’s bond commission over issues such as abortion and firearms.

(11:43):

In April, the bond commission voted to adopt the plan of financing for a negotiated sale of Garvey’s, despite having to use JP Morgan, a firm that was blacklisted from a deal. Last year, a representative of Landry’s on the board cast the only no vote during the meeting. Also at Land Resurging, the panel held up last year a request by New Orleans for funding for a power plan due to the city’s pro-abortion stance, which conflicted with state law, the commission later approved the deal in South Carolina Treasurer Curtis Loftus has removed Disney from its list of approved investments while the state’s portfolio of Disney debt securities will mature as schedule and won’t be replaced. Loftus is still deciding on how to handle the Disney equity shares in the state’s portfolio. In North Carolina State treasurer Dale Falwell praised the General Assembly’s override of Governor Roy Cooper’s veto on ESG legislation.

(12:42):

The assembly overrode the governor’s veto of the bill, which removed political and social considerations from state pension plan investment decisions. Falwell himself has taken steps to isolate the retirement systems from ESG precepts, such as assuming control of the state’s proxy votes when making investment decisions in West Virginia. Treasurer of Riley Moore has called ESG Coercive Capitalism and has been fighting against it. He has blasted the financial industry’s participants for boosting ESG saying at the end of the day, rating agencies, asset managers and banks. All we want them to do is maximize returns. We want banks to act like banks, asset managers to act like asset managers and stay out of politics, which is what they’ve decided to get into with this ESG nonsense. Over to you Keely.

Keeley Webster (13:40):

Thanks Chip. First we’ll take a commercial break and when we return, I will give the outlook on the Midwest.

Okay, and now we’re back with the Midwest.

The ESG focus has largely been on social bonds. Chicago won the Bond Buyers deal of the year award last week for a $1.7 billion sales tax securitization that funded affordable housing, homelessness support services, environmental justice and community development programs. It was the city’s first social bond deal and a cross credit refunding tender. The debt supported Chicago’s efforts to bring new resources to neighborhoods that had been grappling with decades of disinvestment and inequality ahead of the deal. The city had received 10 rating upgrades returning its ratings to investment grade. After nearly a decade at junk status, Midwestern cities and states have used American Rescue Plan Act funding to move the needle on social problems. The thrust was in creating programs that could increase workforce participation, mitigating affordable housing challenges and strengthening demographic trends, all of which could strengthen resident incomes in property tax wealth.

(14:59):

And for services. In Detroit, the city established a program to renovate and demolish blighted properties that tapped 95 million of the 2 820 7 million in arpa. In November, 2020, voters approved 250 million in bonding authority towards such efforts. And in June, Detroit issued a hundred million in general obligation bonds to speed up blight removal and fund park and transportation projects. Of that 75 million were social bonds. The city has made great strides since its 2014 bankruptcy. It currently holds ratings just one notch below investment grade. After receiving upgrades in the spring, Detroit’s 2021 sell also carried a social bond label. And the city reported to investors that as of December 31st, 2022, the proceeds had funded 3058 demolitions and 1,265 stabilizations. With about 81.2 million of bond proceeds spent. By then, the city had demolished 24,000. Of the 47,000 vacant houses rehab 16,000 and had 7,000 remaining. Not all Midwestern states are supportive of the ESG label, however, in Missouri, John j Ashcroft, the Secretary of State, issued a rule on June 1st that requires broker dealers to obtain consent from customers to purchase or sell an investment product based on social or other non-financial objectives, such as combating climate change. In Indiana State Representative Ethan Manning, a Republican sponsored to Bill to prevent the system from contracting with servicers who had an ESG mandate. But conversely, in Illinois State Treasurer Michael FRAs to law requiring investment managers of Illinois public funds to disclose how they integrate ESG investment strategies. He also testified at a US house hearing that there is a campaign to blacklist financial firms that embrace ESG efforts. And now we turn to Chip Barnett for the Northeast report.

Chip Barnett (17:03):

Thanks Keeley in the northeast, New York has been one of the leaders that have championed ESG precepts. Two of the city’s five pension funds have created plans to reach net zero emissions in their investment portfolios by 2040, citing rollbacks in the face of myopic right wing pushback against responsible fiduciary investing. City controller Brad Lander said, if the cynical war of political distraction waged by red state politicians at the behest of their fossil fuel donors deters us, we will sacrifice our opportunity to maximize the long-term investment returns along with millions of lives and trillions of dollars of global investment. Land R fiduciary for the city’s five pension funds and trustees for the New York City employees retirement system. And the teacher’s retirement system agreed to the new goals. While the New York City Board of Education’s retirement system has agreed earlier to divest from securities related to fossil fuel companies, but the police and fire pension funds are not involved in any of the actions in deal related action.

(18:14):

The city sold about 700 million of taxable general obligation social bonds. In October, proceeds will go towards financing the construction of around 4,500 affordable housing units. It was the city’s second issue with social bonds and came after last year’s sale of $400 million of taxable GOs, the city’s first social bond deal, which created more than 3000 units of affordable housing in dc. The Washington Metro Area Transit Authority hit the market in February with a $392 million green bond deal to tackle economic, social and infrastructure challenges. Sustainability is part of our core mission and agency. Spokesman said the agency has been building new lead design bus garages that will be zero emission and is moving ahead with testing to convert its buses through a zero emission fleet. Connecticut, Rhode Island and Massachusetts agreed in October to work together to develop offshore wind energy in a joint venture officials say will offset rising costs.

(19:23):

And some of these wind projects have been running into headwinds, driven by escalating costs with some developers in the region, rethinking major projects jersey’s, ocean, wind. The US’ largest offshore wind project is now facing an uncertain future after developer. Danish Energy. Giant Sted said it saw a $2.3 billion loss in its US operations. Last year in New York. Governor Kathy Hoel denied a request from developers of four ongoing offshore projects for an increase in subsidies to help keep the project solvent. Smaller ventures underway in New England also face similar stress in Connecticut. The electric utility avangrid pulled out of the state’s largest offshore wind project Park City wind. Due to the projects growing financial infeasibility, while two wind energy developers in Massachusetts South Coast Wind and Commonwealth Wind paid to terminate current contracts for energy delivery in that state. In Rhode Island, Rhode Island’s energy recently terminated its power purchase agreement with or in Eversource for the offshore Wind Farm revolution wind too. And now back to you Keely.

Keeley Webster (20:43):

Thanks. So in the far West, there has been a focus on moving from fossil fuels towards greener methods of producing energy. California’s Air Resources Board approved a measure that will prohibit selling new gas powered cars by 2035. The policy won’t take existing vehicles off the road, but automakers and car dealers will be restricted to selling electric vehicles and plugin hybrids. The aim is for EVs to represent 68% of the vehicles on the road by 2030 and 100% by 2035. Nine other states have followed California’s lead, Connecticut, Maryland, Massachusetts, New Jersey, New York, Oregon, Rhode Island and Washington have adopted similar standards. In addition to phasing out fossil fuels, the state is also contemplating other moves like tapping offshore wind power. The transition away from fossil fuels has been bumpy for states because of the longtime dependence on the gas tax to pay for highway construction and repairs. It’s estimated in California, the state will lose nearly $6 billion over the next decade in gas taxes.

(21:47):

According to the legislative analyst’s office in Oregon, lawmakers had to approve 19 million in emergency funding for winter snowplowing last week amid a 54 million shortfall in revenues for the Oregon Department of Transportation attributed to inflation and a decline in gas tax revenues. Washington State has faired well with its cap and trade program. Governor Jay Insley announced December 11th that the revenues from the state’s cap and trade program have surpassed expectations, and as a result, his supplemental budget will include an additional 941 million to support the state’s climate change programs. The focus on ESG in California extends to its bonds. California Treasurer Fiona MA created the Green Bond Market Development Committee two years ago to produce recommendations on best practices for issuing green bonds and a method for disclosing both pre-sale and post-sale information. On the MSRB’s Emma website, the committee released its findings. Earlier this year, the Government Finance Officers Association has been working on a similar program and begin releasing a series of best practices in different categories.

(22:58):

Early in 2022, California’s green bond committee comprised of bankers, bond attorneys, and financial advisors was also tasked at evaluating what was preventing issuers from labeling bonds green, given California’s stringent environmental mandates and environmental focus. The committee’s final report also contemplated what kind of disclosure investors need in order to be comfortable investing in green bonds. Ruth Decret, a senior research analyst at Breckenridge Capital Advisors who served on the subcommittee that developed the standards, told the bond buyer that more of the muni market could be green bonds if issuers were able to provide better disclosure. Part of the committee’s charge was evaluating what were the hurdles and providing that disclosure. For instance, what kind of aid would be provided to smaller issuers to make it possible for them to issue green bonds. Not all far west states are embracing ESG, however, Idaho was among the states that balked it.

(23:57):

S&P’s creation of an ESG report card for the states. When S&P announced in August that it would no longer publish new ESG credit indicators in its report or update outstanding ESG credit indicators, Idaho State Treasurer Julie Ellsworth, who had sent a letter to S&P protesting inclusion of ESG credit indicators, counted s and p’s announcement as a win.

It’ll be interesting to see how all the factors we have covered in this changing and growing market segment play out in the years to come.

Thanks to my colleagues for their insight and to our listeners for tuning in. This podcast was produced by Adnan Khan. I’m Keeley Webster. Please rate us, review us and subscribe to our content@ww.bond buyer.com.