“The municipal market funded the Erie Canal, the Golden Gate Bridge during the depression, the Hudson Dam and a host of other major infrastructure projects around the country.”
Hector Negroni is the Founder and CEO of Foundation Credit. Hector has been a pioneer in the municipal market over the last 3 decades, leading innovation in investing and proprietary trading, public/private financing, derivatives, securitized products and a broad range of structured solutions.
Gary Hall is a Partner with Siebert Williams Shank & Co., LLC (the nation's largest minority-owned investment bank) and a Partner with American Triple I Partners (an infrastructure private-equity firm). He formerly was an investment banker with JPMorgan, an attorney with
Municipal markets are at the center of how infrastructure and essential services are delivered, but it is very fragmented. The market is very local and decisions reflect the specific nature of the city/region, geographically and culturally. The need for infrastructure projects in the United States has been made even more urgent due to the pandemic. Municipal bonds have been responsible for many of the biggest and most iconic infrastructure projects in American history. “We have this sort of disparate view about government and its ability to operate and manage assets, but these are really important investments that we need to make in our country.”
In addition to the urgency of need, municipal markets have proven significantly less risky as an investment. There have been only 700 municipal bankruptcies in 100 years (90% from the notional value from four issuers). There were 119 corporate bankruptcies in 2019 alone. “In 2008, high yield corporate bonds lost 30% of its value, municipal bonds in that same market held steady.”
LISTEN AND SUBSCRIBE
SPEAKERS
Gary Hall
Partner
Siebert Williams Shank & Co.
Hector Negroni
Founder & Chief Executive Officer
Foundation Credit
EPISODE TRANSCRIPT
John Darsie: (00:07)
Hello, everyone. And welcome back to SALT Talks. My name is John Darsie. I'm the Managing Director of SALT, which is a global thought leadership forum at the intersection of finance technology and public policy. SALT Talks are a digital interview series that we started during this work-from-home period with leading investors, creators, and thinkers. And what we're trying to do on these SALT Talks is the same thing we try to do at our global SALT conferences, which has provided a window into the mind of subject matter experts, as well as provide a platform for what we think are big ideas that are shaping the future.
John Darsie: (00:42)
And we're very excited today to welcome Gary Hall and Hector Negroni to SALT Talks. Gary Hall is a partner with Siebert William Shank and Company, which is the nation's largest minority owned investment bank. And he's also a partner with American Triple I Partners, which is an infrastructure private equity firm. He formerly was an investment banker with JP Morgan and attorney with Gardner, Carton and Douglas, a White House fellow assigned to the US Department of Treasury. And he worked in Chicago, Mayor Richard M Daley's administration. Gary serves on the advisory board at the University of Chicago, Harris Public Policy School's Center for municipal finance and the Board of Directors of the Bay Area Council. He's a Chicago native, but currently lives in the Bay Area. He's a trustee with the National Recreation Foundation and Las Trampas, an organization that supports adults with developmental disabilities.
John Darsie: (01:36)
Hector Negroni is the co-founder and Co-Chief Executive Officer and a Chief Investment Officer of Fundamental Credit Opportunities or FCO. Hector has been a pioneer in proprietary trading in the municipal market for over 20 years, leading innovation and public private financing, military housing privatization, basis arbitrage, tender option bond securitization, municipal derivatives, and a host of other structured solutions. Prior to forming FCO, he was the head of municipal trading at Goldman Sachs overseeing all capital commitments, flow trading, money markets, collateralized lending, and issuer derivatives. Hector joined Goldman Sachs as a managing director in 2005 to build and lead the municipal proprietary trading and structured products businesses.
John Darsie: (02:24)
Just reminder, if you have a question for Gary or Hector during today's SALT Talk, you can enter them in the Q and A box at the bottom of your video screen on Zoom. And hosting today's talk is Anthony Scaramucci, the founder and managing partner of SkyBridge Capital, a global alternative investment firm. And with that, I'll turn it over to Anthony for the talk.
Anthony Scaramucci: (02:42)
Well, John, thank you. It's great to be on with you guys. I was looking forward to this. I've got so many different things I want to talk to you guys about. I wanted to be free form. So, Hector, Gary, I'm not going to, Hector, Gary. Let's take it around the horn. And then of course, John's going to come on at the end. He's going to try to big photo us with his Southern charm and try to impress people, but our job right now is to just block him from the conversation.
Gary Hall: (03:13)
Anthony, it takes Hector 45 minutes to say hello. So, I hope you have electric shock around him.
Anthony Scaramucci: (03:18)
Okay. All right. Well, Darsie turned that on high voltage. Okay, I want to see Hector's hair stand straight up. All right. So, now, listen, let's go to the municipal markets, credit market, investment grade, high yield, structured credit. What the hell is going on? And where do you see things over the next three to six months? Let's start with Hector. And I got the buzzer on Hector. Let's go.
Hector Negroni: (03:45)
Thanks for having us, Anthony. We really appreciate it. We look forward to highlighting this marketplace. Listen, one of the things that's the hardest thing to understand about municipals is how fragmented it is. The world, isn't one broad brush here. What happening in steady California or New York City is far different than what might be having in Indianapolis or Santa Fe. And that's why this foot market matters so much. This market is the core center piece of how we deliver essential services and public infrastructure across the United States. But we do it in a very and uniform fashion.
Hector Negroni: (04:16)
The decisions are all very local. They all reflect preferences and differences, geographic and cultural. And so, as a result, it's a really, really unique and layered marketplace that has extraordinary opportunities around it. And importantly, at this time, and this juncture, especially with COVID, the pandemics had very different effects and has created different needs and different opportunities. So, we think it's a very exciting, but really nuanced place. And it takes subject matter experts like myself and Gary to be able to address it. I'm sure you're going to want to dig into a lot of the questions, but let me leave you with this.
Hector Negroni: (04:52)
For the most part, the municipal marketplace is sound, not over levered and not struggling with a wave of prospective defaults, but it's certainly challenged. The needs of infrastructure and the needs to provide essential services, both previous to the pandemic. And as a result of the pandemic are accelerated and attention to this marketplace is worth all of our time.
Anthony Scaramucci: (05:17)
Gary.
Gary Hall: (05:17)
The only thing I typically like to start off with the little cherry pie and patriotism. The municipal market funded, the Erie Canal, it funded the Golden Gate Bridge during the depression, I would say, the Hudson Dam and a host of other major infrastructure projects around the country. And all of these projects were built with taxpayers at the time paying back that debt that we all benefit from today. So, from time to time, I know we have this sort of disparate view about government and its ability to operate and manage assets, but these are really important investments that we need to make in our country. The other thing I would add is that, we had a 119 corporate bankruptcies in 2019.
Gary Hall: (06:00)
There have been 700 municipal bankruptcies in a 100 years and 90% of the notional value of all bankruptcy are with four issuers, Jefferson County, Washington Power, Puerto Rico and Detroit. And so, it's extremely safe and riskless market. And it's one that has weathered the storm. In 2008, high yield corporate bonds lost 30% of its value, municipal bonds in that same marker held steady. So, it's one of those things that, as we go through economic cycles and you're looking for some steady risk-weighted returns, it's the place to go.
Anthony Scaramucci: (06:36)
So, why though? Why is it safe?
Hector Negroni: (06:40)
Well, I... Go ahead, Gary.
Anthony Scaramucci: (06:42)
No, you go ahead. Go ahead.
Hector Negroni: (06:43)
So, for me, it's a little... Gary, and this is a great place to draw a distinction between the way Gary and I might look at the marketplace. I largely serve investors who aren't the traditional investors in the space, large pensions, endowments and foundations, people who don't even pay taxes in the United States. When you think about municipals, you largely think about the exemption. The reason is all this unusual fragmentation creates really different return profiles that aren't just along only taxes and marketplace, meaning we think that there's a lot of ways of playing credits against each other betting on credits to have a particular upside or downside.
Hector Negroni: (07:22)
And so, we would focus on the absolute return profile of the marketplace. So, it's less about it being safe and more about it being a really rich pool of opportunities for absolute return. That's our focus. I do think it's largely got good upside relative to downside from a credit perspective, but we're much more focused on absolute return. Gary, your perspective, probably.
Gary Hall: (07:43)
We've got to remind folks that it's a 72% retail oriented market with most of it being buy and hold. And that means that folks have a long view. And so, what we're starting to see now, Anthony, is that investors are really being inquisitive, about the broader context and operating metrics of governments. So, as opposed to just looking at the objective financial metrics, they're asking themselves the tough questions who has the political will to make the tough decisions as we go through COVID and as expenses go up and revenues go down? What are their decision powers with respect to opening up government? And how does that impact the triggers of the economic centers?
Gary Hall: (08:24)
All of these sort of subjective factors that quite frankly, we have not really examined in the way that the corporate market has. We're now treating our municipal issues to be a little bit more savvy about making forward looking statements that talk about where the pack is going. So, from that standpoint, there is a little bit more credit differentiation going on post COVID.
Hector Negroni: (08:42)
Think about it, Anthony, from your perspective, when's the last time you sat around and talked to a bunch of people about the municipal marketplace? It's what's happening in the world right now that is changing the dynamics that make it interesting. Whether it be because of policy or changes in credit, that's the real difference now. This marketplace has now very interesting and very compelling and should be compared to global large scale market, but it's like corporate IG in high yield.
Gary Hall: (09:06)
That's right. And we've got 150 billion mark of taxable bonds in our market. This market has never seen this sort of volume of taxable issuance. And as we have tenure immunity to tenure treasuries hovering at 100%, 200% and 300%, on a relative value basis, folks are failing and freaking out that it's a cost-effective market to be in and you can get some upside.
Anthony Scaramucci: (09:30)
Are there any COVID-19 innovations? And what I mean by that is we have a lot of small businesses in the cities that are suffering, the restaurant industry in particular. Is it possible to have a war bond like strategy where you go out to the public and say, "We're going to raise it through the municipality and the municipality is going to feed the small businesses," or is this all infrastructure and bridges and roads tunnels and subways?
Gary Hall: (09:59)
No, no, you raise a very interesting point. I mean, one of the things we have to think about with these vaccines is going to take these really intricate refrigeration type of storage facilities in order to store this vaccines. And who's going to build these? Who's going to store these all over the country? Most of urban America 62%, are health deserts. And so, you're not going to have a pharmacy there where you can get your vaccine. You're going to have to build out infrastructure in order to get access to these vaccines. I think that's an opportunity, where a war bond type structure can really help some of these local state, local governments really get these vaccines out in the marketplace.
Hector Negroni: (10:41)
And in addition to our normal practices in municipal credit, both Gary and I have separate strategies focused on infrastructure alone. And when we think about that, we don't think about them in the traditional avenue of bridges and roads. So, he offered up an example around testing and vaccination, the logistics of that super interesting as a public safety matter. And frankly, as a confidence reinstatement matter to get people back to work and back to school. And on the point of getting back to school, think about it. I have two kids, teenagers, they school from home. I'm working from home on occasion. The infrastructure of broadband, the infrastructure of telecommunications access is now a new essential services that local government have to think about how they play a role in.
Hector Negroni: (11:23)
And that's a hard thing. Governments are good at a lot of things. They're really good at operations risk. They're not very comfortable with technology. And so, there's an excellent opportunity for the pandemic to have created new evolutions of how technology and governments can work together. And that kind of glue that brings together private capital and private expertise.
Gary Hall: (11:43)
I couldn't agree with you more Hector. And in fact, the cooperation between these pharmaceutical companies and government, it can set a predicate for how the private sector can work with governments to optimize, and bringing technology and innovation to some traditional services that we provide. Whether it's parking, whether it's airports, things of that sort. I mean, I think we are on the cutting edge, a real sort of gateway to a lot of innovation taking place in traditional public services.
Hector Negroni: (12:10)
And I wouldn't want to dismiss, I mean, Anthony, I know you're curious probably around the federal intersection, let's say roughly three quarters out of every dollar spent on some version of infrastructure is spent at the local level, procured by decisions made all locally, but the federal government will have a role here. Frankly, the new administration has already stood up a clear initiative with its co-chairs of infrastructure to think about how they're going to aid the development. It'll happen at the local level, but the federal government's likely add a nice tailwind. So, we're excited about that as another dimension of opportunity in our space.
Anthony Scaramucci: (12:43)
You mentioned the Biden administration, and we know that many states, particularly the ones that were hit hardest with COVID, and municipalities, states and cities are underfunded right now. And there are shortfalls in New York State, I think it's close to $30 billion. So, do you expect the Biden administration in a potential stimulus to help those states or if they don't help those states, what happens to those states strategically? What do you think the permutation of outcomes may be?
Gary Hall: (13:16)
I think it largely depends on what happens in Georgia. If the Senate is controlled by the Democrats, I think you see probably a larger probability of a heavy stimulus package that is going to aid the local governments. If not, I think you even see a fight on your hands, as to where those resources go. I think they are badly needed. Going back to the Biden administration, I know there are some high aims to have zero emissions by 2050 and total clean energy by 2035. And so, there's a huge ambition in that administration, in order to really fund infrastructure projects, especially smart cities and things of that sort, but the cooperation in a bicameral way from Congress is going to be extremely important.
Hector Negroni: (14:01)
I think, I'm unfortunately a little skeptical about the likelihood of a meaningful stimulus bill from the federal government, largely for a lot of the reasons Gary has pointed out. Divided government is probably going to be a bit of a headwind to that, but it doesn't mean it's not needed. I mean, the shortfall of revenues for next year is estimated to be about a trillion dollars, a little bit less than half that states. And then the other half of that is cities and counties, and that's not even going into the shortfall for the public agencies. So, there's a lot of revenue shortfalls that are going to happen.
Hector Negroni: (14:34)
Now, importantly, that doesn't mean the car is racing into the wall at 80 miles an hour, it's very different in all jurisdictions. In some large states, you identified New York, New Jersey and Florida and Texas and California, they're all hovering in a 15% to 20% revenue decline. Those are big shocks, there'll be meaningful, but big states have a lot of resources to be able to address it. They can do a lot of different things. They have more diversified economies who'll be able to absorb those shocks. I'm worried further downstream. My bigger concern is the more marginal and smaller communities that were weak going into the pandemic are going to probably be worse off if there's not a meaningful distribution of federal support here.
Hector Negroni: (15:13)
Unfortunately, the federal government likes to think of it like a circulatory system. They push blood out, they push money out the door and it goes down to this furthest capillary down the system. It doesn't really work like that in the real world. And so, we really going to need a really dedicated effort that probably goes beyond just block grants to states. I think you're going to have to see something really detailed. And I'm just skeptical, the government really can pull that off. And so, I do think the downside of it is while I think that there's some really great opportunities in our space, I do think there's going to be a great dispersion in credit and probably a downward migration. Like I said, if you entered the pandemic in pretty good shape, you might be slightly worse off, but you'll be okay. If you entered weak shape, I'm a little more pessimistic on credit.
Gary Hall: (15:55)
I couldn't agree with you more, Hector. And the other thing I'm concerned about is a bait and switch. So, those states that are suffering for some systemic budgetary issues, driven by pension liability and post retirement medical liability, you can't use your stimulus to fix that problem. Ironically, the state with the least funded pension fund is Kentucky. And so, it's not just a blue state issue, it's bipartisan with those sort of systemic issues. But this whole notion of realigning benefits with the economic realities of the tax base that currently exists is something that government needs to address. And this whole notion of giving out these very, very generous benefit packages to really, really tie future taxpayers hands is something that definitely has to be ameliorated and cannot be addressed in my view, with a stimulus package.
Anthony Scaramucci: (16:44)
If you could be the municipal bonds' czar or the infrastructure's czar and you're putting together a list of priorities, let's say that every mayor or every governor had to answer to both of you, what would the things that you would be thinking about?
Gary Hall: (17:05)
Number one, through the tax reform that Trump instituted, the elimination of advanced refundings for taxes and debt was taxes and debt was taken away. Say it differently, if you have a mortgage and you could not refinance, that's an extremely tool that's being taken away from you to stabilize your budgetary situation. So, I would get that back. Number two, the expansion of private activity bonds. So, allow innovation back into the marketplace like we've seen before that Hector was speaking up before we actually invite, ingenuity and innovation from private entities coming in and helping to optimize governments.
Gary Hall: (17:44)
Number three, which I think is really critically important, is this whole notion of making sure that we get some Build America Bond aspect back to it. In 2010 and 2011, we had about $180 billion of Build American Bonds, deepening investor base, making foreign sovereigns and others attracted to the municipal market, that allowed for a tremendous amount of efficiency at cost-effective bond during that time.
Hector Negroni: (18:08)
I'm pretty much really aligned with Gary on this, our specific list very simply kind of is organized around a common principle of creating scalable funding vehicles. One of the problems the federal government does, they practice a little bit of laboratory experimentation on the municipal marketplace occasionally. "Hey, let's come up with this random tax credit chatchki that can only be attracted as one little sliver of the world because I want to have some directed impact." And rather than create a uniformity, what they should do is create a single permanent taxable bond, direct dubs subsidy. Like Gary said, we call it the Build Back America Bonds, going back to Biden's notion.
Gary Hall: (18:48)
I love it.
Hector Negroni: (18:50)
Create a single universal tax credit. So, whether it be solar, wind or lower income, create the tax credit that's uniform and transferable. We need to create scalability for these funding tools that will draw the amounts of global capital that can make a big, meaningful difference. We keep resting our hopes on financing on the backs of a primary retail tax paying audience in the United States. It's incredibly limiting, the market's pretty under-capitalized relative to our needs. If we have a trillion dollar need or a multi-trillion dollar need, borrowing it all from the US taxpayer, probably isn't the deepest pool of capital, it's that the flexible pool of capital.
Hector Negroni: (19:25)
So, creating a uniform bond structure that can be broader, not necessarily to the detriment of tax exemption, but in competition with tax exemption to create efficiency, creating a single universal tax credit, streamlining the federal guarantee program. So, you also have at-risk capital and development capital. And so, with that, you have to have a spirit of encouraging participation with private capital. Somehow it'd be great if there was a central solutions desk at the federal government. I generally, never expected to happen, but that's aspirationally what you'd want to have.
Hector Negroni: (19:58)
You don't want to create a uniformity around how the subsidies of governments are delivered to local governments. They're going to make the decisions on where the projects are and how the project should be built and what the scope should be and the procurement. But the money could come in a uniform fashion from the federal government, if it followed those paths. The last thing I'd say is, I want to focus on encouraging the adoption of new technologies and new revenue streams. I go back to broadband, how are we going to create a comfort level for governments to get involved in the broadband business?
Hector Negroni: (20:31)
It's not straightforward, but it's important that they do. How do they get comfortable with embracing 5G technology and all the other issues that I'm not as fluent on so that they can partner with private capital to solve our problems?
Gary Hall: (20:44)
One thing that we did mention at the outset of Anthony is how heterogeneous the municipal market is. We've got 50,000 issuers, a million CUSIPs in the municipal market. I mean, that's extremely fragmented market. And you've got the issuers in a muni market of a hundred thousand dollars to multi-billions. And trying to serve an investor base, but that sort of fragmentation is very, very difficult. And so, being able to expand it, get access to foreign sovereigns and deepen that buyer base is going to be critical to be able to fund these infrastructure needs going forward.
Hector Negroni: (21:22)
It's funny, the municipal marketplace and infrastructure financing largely in United States, the way we do it, the market it's an accident. It's an accident born out of 150 years of history with 50 different jurisdictions and different projects and different tolerances for risk and different tolerances for credit quality. And so, we can't eliminate that with a wand. It's not like we're going to turn this into some national agency market with 50 infrastructure state banks. But the best thing we can do is when the dollars are going to come and when the support is going to come from the federal government have it as homogenized as possible, because as Gary said, it's a very heterogeneous universe you're applying it to. So, let them have as homogeneous a building block as possible. And that's how you really make the difference.
Hector Negroni: (22:05)
One of the things I left out is what I call leveling the playing field, which is, we always talk about wanting to have the best people operate assets. So, a common topic is an airport. Maybe it's good that we partner with private capital to do that, but private capital should be able to avail itself of the same tools that a municipal issuer has. For example, a pension fund should be able to acquire, a US pension fund should have an interest in facilitating the development of a local assets, but doesn't do so because they can't borrow against that asset as efficiently as a city or county can.
Gary Hall: (22:39)
That's right.
Hector Negroni: (22:39)
So, on tapping that, cracking that open so that US public pensions can be a bigger part of the engagement of public assets and stewardship of public assets is a really big focus of our fund.
Gary Hall: (22:52)
And not only that, I mean, one of the huge bottlenecks in projects getting done is the Byzantine procurement process that are involved in governments. So, first of all, in government contracting, they can go out and locked in the cost of construction, whether it be pricing of raw materials, unless they have dollars in hand, that limits them exponentially. Since 2010, the cost of construction on a PPI basis has gone up 20% to 30%. These projects are getting more and more expensive. And so, being able to escape the Byzantine process and taking the length of time to get these projects done from start to finish is going to be critically important in things getting done, not only cost-effectively, but actually be to serve the infrastructure needs of the country.
Anthony Scaramucci: (23:35)
You both know a lot about the SALT income tax deductions and the cap. You probably are going to be surprised by this, but I don't talk to President Trump that often anymore. I know you're both shocked by that. So, don't be overly alone, but one of the last times-
Gary Hall: (23:52)
Is it the language, Anthony?
Anthony Scaramucci: (23:55)
Well, listen, when I used to talk to him, he used to talk over me anyway. So, I'm not really sure. It doesn't matter. But when the SALT tax came up and he had a conversation with me and obviously I was already fired out of the government, I said, "Well, what do you think of it?" I said, "Well, listen, I'm not talking as a blue state. Or I think it's a mistake because what happens is these blue states, primarily these port cities in the Northeast, and obviously the West coast are the bridges for the immigrants and their bridges for great technological innovation." And these teaming cities, usually some of the best product ideas, the best economic innovations come out of these parts of the country.
Anthony Scaramucci: (24:38)
And it acts like an electrification or domino effect around the country. And if you're depleting their resources, of course, there's going to be poor people in those areas and they need a safety net. And so, if you're going to be depleting their resources, and we all know that New York is putting more into the federal government that is taking out as is California, and some of the other states you're going to harm the entire economic system. And so, he talked over me, I guess, he wasn't really paying attention. Am I right about that? Am I wrong about that? And what are your thoughts on SALT and will the Democrats, if they retake the Senate re-install SALT?
Gary Hall: (25:17)
I think they will. And I think it's a critical need. In 2020, just on income practice alone, we're going to see a reduction of about 32 billion in income taxes for state and local governments, in 2021 that rises up to about 41 billion, in 2022, 50 billion. So, somebody is going to have to, that funding gap has got to be thrown somewhere. And so, I think you're going to see a huge lobbying by these governors both blue and red states to get that reinstated.
Hector Negroni: (25:53)
I'm an old school states' rights guy. My view is, generally speaking, when the federal government forgets about how much is done at the local level and mandates downstream, whether it be through unfunded mandates or trying to take more of the tax dollars share by disallowing the SALT deductions, it's just federal tyranny. And really, I'm just generally against it as a policy matter. And so, I think it'd be nice if it came back. Truth be told, we have lots of problems, the SALT deduction isn't at the top of my list, but yeah, I don't think it's anything... It should be restored. It's a reasonable thing, if you're honest with yourself about how the trade-off of the equilibrium is between dollar flows and between the federal government and the local governments.
Anthony Scaramucci: (26:41)
Well, I've got to turn it over to Mr. Darsie, who unfortunately is younger than the three of us. Thinks he's better.
Hector Negroni: (26:51)
Barely.
Anthony Scaramucci: (26:52)
He thinks he's better looking than the three of us and I'm talking to you and Negroni, pay attention. And so, I'm turning it over to him. He's got a ton of questions coming in. We've got great audience participation today. So, with that ladies and gentlemen, John Darsie.
John Darsie: (27:09)
Thank you, Anthony, for the kind introduction. ESG investing is a trend that's sweeping the asset management universe. And I'm curious whether that's an exception for the municipal market or how ESG is invading your work in terms of trying to drive good outcomes that fit with ESG mandates.
Gary Hall: (27:29)
This is a big issue for Hector. So, I'm going to give him a majority of time on this one, but I just gave you a couple of stats. We're up from 2017 to 2019, 200% in ESG issuance in the bond market and municipal bond market. We're hovering close to 18 billion or so we expect there are 20 billion this year, which is sizable. And we're seeing this is an investor base that is growing. I will tell you that we can't quantify a pricing difference in the market today, but from time to time, when deals need an anchor investor that can get in and enrich the amount of orders that they will provide on a particular deal, if it's ESG eligible, you'll find they'll do so. One failure I'll admit, because Anthony mentioned about being the czar of the municipal industry. I actually was at one point I was the chair of the MSRB.
Gary Hall: (28:19)
And one failure that I did not do on my watch was having a centralized platform to make sure that, especially for secondary trading, that investors can go in and see if projects are still compliant. So, there's no way after the original issue, there's some vetting going on to verify that it's ESG eligible. Once that's done, there's no way to check to see if that project is continually to be compliant with that. And so, if you've got debt outstanding for 30 years, you traded in a year 15, and you originally had an ESG project. You don't know when you're 15, whether or not it's still ESG eligible. And so, there has to be a way of having some centralized way to make governments stay on top of that and making sure that they keep in these projects within that round. And so, we don't have a large secondary trading market at ESG space today. And that's something that we have to improve upon. Hector, what are your thoughts?
Hector Negroni: (29:11)
Listen, I like to call us the original ESG market. I mean, if you think about it, virtually all of our issuers are in the primary purpose of doing something for the community, doing some social good, developing some public purpose. And so, their very essence is to do something that contributes to E S or G. And so, as a result, it's an incredibly target rich area to find that. And so, from the issuer standpoint, it's what they do. Municipal issuers are in the operations risk business, whether it be curtailing the demographic shifts as a result of managing their business fully. If you don't have clean water, if you're not insulating people from the risks of climate change, if you're worrying about demographics from social inequity, all those issues are going to contribute to long-term downside effects to your jurisdiction.
Hector Negroni: (29:56)
As an investor, it's about resilient returns. If I'm going to invest in water projects, the ones that do their job the best, not just cost-effectively, but actually produce long-term results and are pro-cyclical to good outcomes are going to be the best long-term investments. So, when it comes to infrastructure investing, especially resilient infrastructure is profoundly dependent upon the ESG metrics of sorts. And so, we think it's really important. We think it's integral to our marketplace, and frankly, it's pretty familiar to us and all of us it's within our DNA. The problem is, it's a really fragmented marketplace. And so, the data set is weak. The issuers really scratch their head around it. They don't understand this language. It's mostly coming from another country.
Gary Hall: (30:37)
That's right.
Hector Negroni: (30:38)
And so, I go to no shortage of meetings where someone from some other country tells us how well they do it there and why can't we do it in the US? And I have to lie to them, "Well, we have 60,000 to 90,000 unique caps." I mean, there's so many different jurisdictions. And unlike, a European country where it's a very top-down jurisdiction, these are the government letter or a regulator, every school district in Texas thinks they're a separate country. They're not looking to be dictated to. In hurting those caps to be able to put forth good metrics, common metrics can be put together uniformly to create some measurements is definitely an aspirational goal that we try and advocate for. Gary and I both work in a variety of different advocacy groups trying to try to make that happen.
Hector Negroni: (31:21)
But the other reason it's terribly important is because there's just huge walls of money that care. And what Gary says, and it's really important, this analysis, we haven't noticed a distinction in the price, it's almost less about the price and about the depth, the depth of capital that becomes available once you're able to make this a scalable, independently verifiable, credible pool for ESG factors is extraordinary.
Hector Negroni: (31:50)
I mean, it starts with a T not a B, trillions of dollars of care. And that means you're now able to really draw from large pools of capital to attend to very specific problems. And sometimes maybe with capital that's very flexible. That's where we come in. The difference is a lot of our investors who are very sophisticated investors care deeply about this, but if I can't evidence to them, the specific scoring or the specific metric, it's hard for them to really look at this as an ESG qualifying investment that might have a lot of capital available to it.
Hector Negroni: (32:21)
And then the last thing I'd say about that is from the issuer side, I always have to remind issuers, it's not about getting paid more because you do your job, it's your job. Your job is to produce good societal results. It's in my way right now, I think the investors are going to start penalizing those who do it poorly, those who are not addressing the issues well, whether it be from simple disclosure or actually what they do functionally, that's going to start costing them over time.
Gary Hall: (32:49)
I think that's a great point. The other point I would raise, Hector, is that the S and ESG is starting to get a little bit more resonance. And so, you see the Ford Foundation, the Mellon Foundation, Rockefeller, Bush Foundation issuing huge large bond deals so that they can leverage their dollars to be able to have a multiplier effect of the good that they're doing. And so, to the extent that we can really open up this marketplace and deepen it as Hector said, to access these huge pockets of doe, is only going to not be a good thing for the marketplace, but also for society.
John Darsie: (33:22)
So, you talked earlier about the need to create a framework that attracts a larger demographic of investors. So, how was investor participation in the municipal market evolving i.e are there more foreign investors and other non US taxable investors that are growing more interested in this space? And is this just a new version of non traditional interlopers or a more seminal development in the space?
Gary Hall: (33:48)
My view right now, is that the foreign money that you see is basically using just their American money, as opposed to really get into deeper international dollars. And so, I think it's more interloping at this particular point. I think the Build America Bond program or something, Build Back America, it would allow for deep and access, but in candor there's more to do on the disclosure side or municipal issues. We still have a stale financial disclosure system whereby annual financial statements are sometimes years in delay. And so, there needs to be a little bit more transparency. There needs to be more investor-friendly websites to give folks real-time information about the financial metrics of these issuers. I am working very, very hard with my issuer clients to make sure they understand how to contextualize their credit hurdles and credit challenges and open themselves up to actively engage with investors.
Gary Hall: (34:48)
And this is important, not only when they're issuing deals, but when they're not in the market, because these bonds are being traded in PMC to know that they don't have any sort of risks, they wake up on in their portfolio and they see a huge pricing differential. So, I think there's more work to be done in the municipal market on disclosure. I know that the SEC chair is working hard to get that, the MSRB is trying to provide those repositories and portals to get investors information, but I think it's more of something to calm weather it is, today. What are your thoughts there, Hector?
Hector Negroni: (35:18)
I think a little bit of a different tact, although I generally agree a disclosure should, Gary is uniquely expertized given his experience at the MSRB on that matter. And what is the art of the possible, but what I think, I think we're starting to see a little more of a permanent residence in our marketplace. We're starting to see people come into our marketplace, now, there's a tailwind. There's a weak tail that makes it attractive from a hedging standpoint, but we've seen now a large amount of index eligible securities get into our marketplace. So, when Build America Bonds got into marketplace, one of the things they did is they fall into the Barclays agg. And so, now we have another universe of securities that are suddenly doing that, and it's cutting across more and more sectors of the space.
Hector Negroni: (36:04)
And so, I do think that it's starting to become attractive to the universal investors, but I also think that in a world where you're seeing investors who want more absolute return profiles, more asymmetric return profiles, more uncorrelated return profiles. As an alternative manager, we're starting to stick out. We're getting a lot more interesting calls from a large, large global investors who normally would have thought of discarded municipals. "It's too small. I don't pay taxes. The information's scratchy. Everything's going to... The Meredith Whitney, everything's going to default moment." And we've done a lot of education to really turn that around, to get people to realize it's a scalable opportunity set with a lot of a really rich uncorrelated and efficient opportunity set to capitalize on. And I think that we're starting to see a much broader participation.
Hector Negroni: (37:06)
My professional goal in life is to move the municipal marketplace from the children's table to the adult table of the capital markets. And I starting to see we're getting invited to the adult table. And I'm seeing... I saw the NASDAQ and life are setting up networks to be able to list their stuff also starting about listing bonds that are sustainable purposes, more and more people are trying to galvanize their thinking around how to create repeatable, successful, broader participation in this marketplace. I'm excited about that.
Gary Hall: (37:36)
We had an SFPUC bond, a San Francisco Public Utility Bond is actually listed on the London Stock Exchange. And so, you starting to get a little bit... Hector, I do have a question, how are you working with your investors to overcome some of the traditional sort of muni structuring issues to you in par calls, serial bonds, those sorts of things. How are you getting your folks comfortable?
Hector Negroni: (37:55)
Well, generally speaking, we see those as opportunities. They create an inefficiency of sorts. And so, generally speaking, if we see that negative convexity detracts people from a certain structure and attract people to something else, we capitalize on that relative cheapness. So, we'll buy the things that's a little off market because we figure we can manage that risk because we're not long only. And that's the big difference, the bias in most investors in this space... Gary, thank you for the commercial. The bias for most investors in the space is very simply that they are long only and collect tax exemption. And if you can be more than that, if you're unbiased with respect to the tax exemption, and if you can be focused on hedging and creating asymmetry and return profiles, we think it's a really, really attractive position to take advantage.
Hector Negroni: (38:39)
That said, Gary, it would be nice if issuers appealed more to the non-traditional audience, if they weren't so self interested in wanting just to call all the time and they're willing to be more open about different structures to drive broader participation. Again, beating the drum on that point, we need to be a little bit less parochial in our experience in the marketplace and kind of open ourselves up to what other markets and other asset classes are doing.
Gary Hall: (39:04)
So, if we're having a beer and we're talking about this, Hector, I would say to you, "My issuers are telling me, 'Yeah, that's great, but show me the pricing differential.'" And so, what's happening in our market now is price discovery is more art than science. And you don't know in today of where are you going to end up and whether or not pricing leverage is going to be swung your way. And so, it's very hard to move the needle in that way to do these new innovative ways of marketing yourself if we can't quantify it. And then, my issuer clients are not paid to take risks.
Hector Negroni: (39:32)
I grew up as a guy who's developed a lot of structure in our marketplace. And so, I've lived with that for a long time. You're right, it's difficult to create real transparency on that difference, but it's not helped by the legions of people who are uninterested in it. There's a lot of people-
Gary Hall: (39:52)
Factor nos.
Hector Negroni: (39:53)
I don't know, maybe some of the financial advisors who are really particularly uninterested in that being an outcome. They'd rather just lather, rinse, repeat.
Gary Hall: (40:05)
Yeah, I think that's absolutely the case.
Hector Negroni: (40:05)
But I want to play this a little balanced so it's also a little unfair to ask the issuers to take too much risk. I mean, municipal issuers aren't in the business of taking financial risks. That's not their job. Their job is to make sure the roads are paved and toilets flushed. They're an operations risk business, we don't hire and elect these people to kind of pick where rates are going and whether they should or shouldn't sell calls. So, I don't want to take away from the fact that it's a challenge for them, it's definitely hard. When I look at a room full of issuers, when I see me in a lot of your issuing clients, I listen, I'm pretty sympathetic. They have really hard jobs.
Gary Hall: (40:36)
But the pack is going in a different way and we're going to have more credit differentiation than we've had in our market. For the last five years, Hector, we had low supply, tremendous amount of demand and low interest rate environment. And so, getting my municipal issuers to understand that that is not the norm, is really difficult that you're not going to have 3% money forever. And that you're going to pay some pricing differential, when you have these sort of credit hiccups. I tell folks a story, State of Illinois had a big disclosure to that credit about having delays in their financials for some time. They did a competitive deal right after that and it was a tighter spread than years prior. And so, there's really no penalty for any sort of disclosure issues and credit differentiation has not been as penalized, as it's going to be in the future, I believe.
Hector Negroni: (41:21)
I think it's really important, Gary. We are at the precipice of a reversal in... Upgrades, downgrades have been two to one for the last couple of years. It's to be one to two, the ratio is going to go the other way. And then, we're going to have a downward migration in credit quality and this real increase diversion. For us, that's a tremendous opportunity. For the traditional, sleep well at night client, it's going to get a little bumpier. I'm not going to say it's a train wreck, it's just going to get a little less easy.
Gary Hall: (41:53)
And investors are not relying on credit ratings just to make binding pricing decisions. So, their key concerns are those into a lot of credit work themselves and it's not uniform. And that's going to require our issuer clients to be a little more nimble in marketing themselves.
John Darsie: (42:07)
I'll start with Hector on this, do you think the municipal lending facility could get extended past December 31st? And if so, do you think there's a possibility that President-elect Biden's administration may advocate for using that program as a financing source for municipalities in order to bypass a potentially Republican controlled Senate?
Hector Negroni: (42:28)
It's a thorny policy question. I mean, I think the fed did what they could do given some really big challenges. A, administering this really diverse universe means you can only do it to a number of people there. They just don't have, I mean, they brought over two experts that we both know John Bagley and then Ken [inaudible 00:42:46] over there. Guys with real experience, but it's a really hard thing to administer to this real diverse marketplace with a limited staff and frankly unlimited mandate. Two is, they're very uncomfortable about being at any credit risk. And so, they really, really just wanted to really narrow how they would focus on particular sectors in particular credit entities. But the other thing that was a challenge was they didn't want to be caught facilitating financing to bad political risks, and they didn't want to get in the middle of that political discussion.
Hector Negroni: (43:22)
So, the MLF was a reasonable... It was nice. It was nice to see them try to do something. I think there's been a little bit of misrepresentation about how impactful it was. The truth was low rates, staggering amounts of inflows and an enormous amount of issuance moved from the tax and marketplace to the taxable marketplace. Created an equilibrium, so that too much supply didn't overwhelm the increasing amount of cash that was coming in at the low rate environment. And that's why we sailed through okay.
Gary Hall: (43:51)
That's right.
Hector Negroni: (43:52)
But we're not done. I wish the government would acknowledge one problem is the real problem in the municipal marketplace is for that more run in the muni issuer or in times of crisis, the marketplace doesn't have a great liquidity profile to it. That's the bigger challenge, the challenge is most muni issuers don't need to borrow for a revenue shock overnight. It's not like they're going to sell a division tomorrow or issue some stock. They don't have the tools corporations have, they have to amortize losses. They have to grow their way from shocks. And so, there's generally a longer duration to the borrowing needs and in our marketplace, if there's not a bid and the long end as we saw in March, it can be very, very disruptive.
Hector Negroni: (44:30)
So, if the fed really, really wanted to cushion liquidity shocks to the marketplace and they really wanted to manage investor concern, they would be buying in the secondary, not unlike they did in the corporate marketplace. Of course, the corporate marketplace is a lot easier, they're familiar with it, they're ETFs. They could set up some index profile and it's all much shorter dated duration. In the municipal marketplace, they're just as familiar with it but the real solution for a federal government intervention profile is to deal with liquidity because our problem is much more acute around liquidity directions. It's like a herd of elephants, they all like they are all buying and, or they're all running a lot of times.
Hector Negroni: (45:11)
And so, that volatility and direction can be very, very noisy in our space. And so, I'd rather see them do that than pretend that they're going to be... a three-year loan to like a municipality. And by the way, if you're only lending the 250 of them, it's not filtering through the marketplace that effectively. Gary, your thoughts.
Gary Hall: (45:31)
I agree. I think, I mean, at the end of the day, Hector as you know municipal bonds trade the most frequently 90 days after the original issuance market. We hover around 12.5 billion dollars of trades, 35,000 trades a day. So, having some stability in our secondary market, as we saw with the exponential rise in bids and wants during the pandemic is where we need the most amount of help. The MMR program is primarily was the lender of last resort and what it afforded New York MTA, State of Illinois was more flexibility than actual true cost savings. And so, I think a little bit more have to end a secondary market and we do wonders for our market. Good point.
Hector Negroni: (46:14)
It's really important, also, you say this because it's happening at a time, here you've heard us talking about a couple of things. We've talked about the risks around credit dispersion. We're obviously in an era where the need for capital is only growing. The infrastructure shortfall is only yawning wider every day, and we're doing so in an environment where the secondary trading activity and the dealer capital is actually thinner than ever.
Gary Hall: (46:39)
Absolutely.
Hector Negroni: (46:41)
I've been doing this for a little over for about 30 years, the little over, I'm going to pretend it was less than so I'd look younger, but the truth is I've never seen the proportion of the market size relative to the liquidity providing capital more upside down. The liquidity capital that intervenes or intermediates risk in this marketplace has never been thinner relative to the size of the marketplace. And we're doing this when we're talking Gary and I both about the prospects of maybe a $100 billion or $200 billion of additional calendar next year. It's an issue still, we're not out of the woods around liquidity shocks and credit shocks.
Gary Hall: (47:14)
And [crosstalk 00:47:15], will be more comprised of new money issuance than in years past when we just doing traditional refundings. So, there is definitely a need for more capital positives.
Hector Negroni: (47:25)
I mean, we like it because of volatility creates opportunity for us, but if you want to deal with concerns around stability, like people should know, it's going to be more adult swim next year than it was in the last couple of years.
John Darsie: (47:38)
So, really quickly, how do you expect some of these major an unfunded liabilities like pensions and healthcare schemes in the places we're seeing in the headlines like Illinois, Chicago, the MTA? How do you expect those to play out?
Hector Negroni: (47:52)
I mean, listen, I think there's a much bigger salient political story around that topic than there is an imminent credit concern. The truth of it is while the balance sheets in many of these cases are off sides. And it's really concentrated on a handful of people, it's not imminent to fiscal matters next week. I mean, I can't say that uniformly, but you name the big three. There's 60,000 others that are perfectly fine. And so, I don't think that it is a uniform statement and you can make, but the ones that are big are out there are big and they're problems. And I'm not really sure what Chicago is going to do and what Illinois are going to do if they don't open themselves up to pension reform. I really don't know how they can just tax themselves out or worse yet this is one of the reasons we need to think about federal support is, if they have to reduce services, which means firing people and doing less, that's a headwind for growth.
Hector Negroni: (48:51)
There was a statistic the other day about the payroll numbers about how payroll numbers are over 50% return in the private, but from the lows of this year, they're only up 10% from the low. So, we're still down 90%. I mean, we're still down a staggering amount, it's still over payrolls. And we haven't even begun to incorporate the consequences of fiscal shortfalls. So, there's probably more negative job issues in that environment. So, we all that, there's certainly helps the needed, but there's a difference between deterioration in credit and some imminent, like shock born out of the balance sheets rolling over.
Hector Negroni: (49:25)
And I don't think that that's very likely broadly. I'm not going to ignore the Illinois and Chicago are more front and center around this. I feel bad for Mayor Lightfoot in a lot of ways. She's at really difficult position because she's so wedded to what the state does and the state didn't pass a progressive tax. They don't want to do a pension reform structure. And that leaves her with very few options and she's got a whole host of issues to contend with. So, listen, they have a particular set of issues. It's not my favorite credit to talk about because I think, I don't have a lot of the answers. And frankly, I think the answers would come out of some boundary restructuring, but I'm not interested in it effecting credit. It's really a balance sheet for their liability side.
Gary Hall: (50:07)
But to that point, you're absolutely right. I mean, but one of the things I do applaud Mayor Lightfoot and the administration is the transparency. They offer investors a tremendous amount of access to the information. And giving them forward thinking on what their plans are and whether it's a scoop and toss strategy on a deck or whether it is deferring some of the contributions they have to make into their pinch and liability. There is an open discussion with investors so they know where the pack is going and make an active decision when they're making buying and pricing determinations, which I appreciate.
Hector Negroni: (50:41)
You know what, that's a really good point, Gary, because as much as they're maligned for their conditions, Carol Brown and Jeannie who are the previous CFO and the current CFO have done a tremendous amount to be available, they put themselves front and center, they run into the fire and it's burning hot.
John Darsie: (50:59)
Well, we're going to leave it there. We need to give you guys a weekly municipal market show and just let you guys go because we can talk about stuff for days. And it's such an important market. People think about the municipal market is a boring market in a lot of ways, but there's so much good that could be done with pension reform, municipal market reform in a more energetic approach to municipal investing. So, thanks so much for joining us. I think Anthony hopped off, but thanks for beginning the conversation.
Hector Negroni: (51:28)
What is the price?
John Darsie: (51:29)
We'll have to have you guys back maybe once the President Biden is in office and we start to see some of the gears of reform taking place in terms of how we approach some of these problems related to both municipal investing and infrastructure as well. So, thank you, Gary and Hector so much for joining us.
Gary Hall: (51:44)
All right, John. Thanks so much.
Hector Negroni: (51:45)
Thank you for the time, appreciate it.
Gary Hall: (51:46)
All right, appreciate it.