Increasing healthcare costs and retirement rates will exert pressure on U.S. state and local government budgets, Fitch Ratings says.
Fitch's analysis predicts that the share of state and local budgets going toward healthcare and pension costs will rise by 800 basis points by 2025.
The ratings company's scenario assumes that pro-rated spending on education, transportation, public safety, housing, and environmental programs declines if no offsetting policy is implemented by 2025.
"These trends could affect the credits of lower-rated states and local issuers over the long term, as they begin the 10-year scenario time frame with lower fiscal flexibility and above average spending pressures, " Fitch says.
The current offering spread is 16 bps wider than a similar size bond issue last year, which was priced at 77 bps above AAA Munis.
Although the state is one of the wealthiest in the country, its credit rating is among the worst as, budget problems, underfunded pensions, and high debt levels have worsened its outlook resulting in investors demanding a higher compensation for the increased risk.
BlackRock says it maybe a good time to pick up municipal securities on the cheap, amid a temporary up tick in supply.
March 2018 has seen the highest issuance in 10 years. Any further pickup in supply should create good entry levels, with the outlook generally becoming favorable for muni buyers as supply growth fades.
BlacRock says stick to shorter duration strategies as interest rates continue their march upwards.
A legislation expected to pass the Senate this week will allow large banks to hold state and local securities as part of their "high quality liquid asset buffer" - which is a regulatory requirement to fund bank operations for 30 days during a crisis.
This regulatory buffer was limited to cash and Treasury securities, but the addition of municipal bonds will allow banks to earn better returns while offering a generous tax advantage.
Critics argue the lack of liquidity of municipal securities defeats the purpose of holding the liquid assets.