Blog   Tagged ‘interest rates’

UMB: Insights – Public Finance

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UMB Industry Insights

UMB has a long and successful history with underwriting municipal bonds for cities, counties, public hospitals and universities. One of the keys is to foster relationships with attorneys, bond counsels, underwriters and the customers. Learn more in this continuation of our UMB: Insights series.

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UMB Financial Corporation (Nasdaq: UMBF) is a diversified financial holding company headquartered in Kansas City, Mo., offering complete banking services, payment solutions, asset servicing and institutional investment management to customers. UMB operates banking and wealth management centers throughout Missouri, Illinois, Colorado, Kansas, Oklahoma, Nebraska, Arizona and Texas, as well as two national specialty-lending businesses. Subsidiaries of the holding company include companies that offer services to mutual funds and alternative-investment entities and registered investment advisors that offer equity and fixed income strategies to institutions and individual investors.

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Opportunities for Municipal Borrowers

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Interest rates are historically low. The anticipated date for the eventual rise in rates has not been formally set by the Fed, and seems to be regularly postponed.  Low interest rates present a challenging investment climate for municipalities, hospitals, school districts and colleges or universities. But it’s not all gloom and doom. There are options in which these entities may meet the challenges and seize the opportunities that come from low interest rates when they issue municipal bonds.
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The Challenges and Opportunities in the Current Marketplace
Let’s say you are a university finance officer and you need to underwrite $10 million in order to build a new library. You raise the $10 million via a new bond issue but the project calls for the cash outflow for the new building construction to happen throughout the next 24 months.  This means you have to invest the currently unspent balances in the meantime. Given the current low interest rate environment, the rate you receive on the invested balances will likely be lower than the rate you paid to raise the debt.

This situation, called negative cost of carry, occurs when an entity issues debt and then invests all or a part of the proceeds at a rate lower than the rate being paid on the debt issued.  Examples of this would include: project construction funds, escrow funds to redeem refunded bonds and debt service reserve funds where not all of the proceeds are immediately used. The interest rate on the bonds, or the borrowing rate, may be substantially higher than the rate which may be earned on proceeds, resulting in a negative cost of carry. Like our library example, if you do an underwriting for $10 million and pay an average of 3 percent interest on those bonds, in many cases, all of your proceeds aren’t put to use immediately for a building or project. Therefore, you would have $10 million in cash for a period of time. Rather than sitting on that cash and earning nothing, you’d probably invest the $10 million. However, since interest rates are so low, you wind up investing the cash you are paying 3 percent interest on into something yielding far less.

While the low return on invested proceeds can create a drag on the financing of the project as the current market provides a substantial tail wind with the low interest rate on the issued bonds. This opportunity is most apparent with refunding bonds. Unlike the corporate bond market, the municipal bond market typically allows issuers to embed the right to prepay without penalty on their long-term fixed rate bonds. Issuers can see substantial savings in interest costs by issuing new debt and using the proceeds to redeem, or prepay, the old, higher rate debt on the call date. In 2014, refunding bonds represented nearly 41 percent of all long term municipal issues, up from 33 percent in 2013. We believe this trend will continue in 2015.

Gain Better Timing and Rates through Private Placement
Private placements can be another great alternative to traditional public issues, which might result in negative cost of carry.

Let’s go back to our example of the new university library. Instead of the debt being sold in the public markets, it could be privately placed with one or a small accredited group of investors to allow for additional flexibility as it relates to the structure of the debt. Instead of the university having to deal with negative cost of carry for two years as indicated above, it could instead structure the debt so that it drew the cash in accordance with the construction timeline, potentially lessening the impact of negative cost of carry in a low interest rate environment.

A growing number of issuers have captured the low borrowing rates and then addressed the interest rate gap between the cost of issuance and rate they are able to invest at by structuring issues in the private placement market which offer more flexibility. As private placement purchasers appetite for debt has increased, the spread between publicly issued debt and privately placed debt has decreased, making it an attractive proposition. Here are other possible advantages to private placements:

  • Private placement purchasers, frequently commercial banks, are currently offering attractive borrowing rates not far removed from rates bid for publicly-offered issues.
  • Private sales avoid the time-consuming and costly work of preparing the disclosure documents required to publicly offer the bonds.
  • Issuers will not be required to observe the continuing disclosure rules of 15(c)(2)12 of the Securities Act.
  • Private placements are not registered with the SEC, so registration and disclosure requirements like the Municipalities Continuing Disclosure Cooperation Initiative are not required.
  • Credit ratings, bond insurance and printing costs can all be eliminated with private placements.

Another Advantage: The Draw Feature
In addition to the ease of issuance, only private placements can offer a valuable alternative called the draw feature. At settlement, the initial draw is used to pay cost of issuance, the remaining bond proceeds are paid to the issuer when needed rather than at settlement. Interest will not accrue on the bond until, and only to the extent that, proceeds are drawn. Construction project financings greatly benefit from the draw bond structure. For instance, a $10 million construction project that is financed at 4.00% over 20 years and takes two years to complete, would generate an estimated savings of $380,000 when financed with a draw bond.  Interest would accrue on approximately $5 million on average over the two year construction period, or $400,000 of interest, instead of $800,000 of interest accruing on the full $10 million over the same period with a public sale. The public sale would permit approximately $20,000 of interest earnings on the project pending disbursement.

Draw bonds provide similar efficiencies for refunding bonds. For example, assume an outstanding $10 million bond yielding 4 percent which may be called in one year. The delayed draw refunding bond paying 2.50 percent will reduce the size of the escrow requirements and avoid the negative investment earnings in the escrow. These efficiencies result in over $300,000 or 2 percent of the bond size in additional estimated savings compared to a publicly-issued bond in which proceeds are held in escrow and invested during the one year escrow period.

However, what if the issuer has an outstanding bond which may not be called for several months, and has already been advance refunded? The delayed draw structure can be used effectively to lock in today’s low rates on the refunding bonds and still comply with the restrictions on no more than one advance refunding. The privately placed, delayed draw bond simplifies what might be addressed in a public issuance with complicated and expensive swaps and derivatives.

Final Note
It is important to consider that while the new developments in the private placement of municipal bonds may provide the issuer with more flexible and efficient alternative financing options, current interest rates and uncertainties can be tough for institutions when managing these strategies.

Keep in mind, there are a number of sensible and intelligent ways to take advantage of any economic situation.

The information and opinions expressed in this message are solely those of the author and do not necessarily state or reflect the opinion of UMB or UMB Financial Corporation. 


When you click links marked with the “‡” symbol, you will leave UMB’s website and go to websites that are not controlled by or affiliated with UMB. We have provided these links for your convenience. However, we do not endorse or guarantee any products or services you may view on other sites. Other websites may not follow the same privacy policies and security procedures that UMB does, so please review their policies and procedures carefully.

Mr. Philip Richter is a Senior Vice President for UMB Bank. He is the Manager of the Public Finance Department in the Investment Banking Division. Phil joined UMB in 1997 and has over thirty years of experience in the municipal bond and financial services industry.

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Watching the Forecast: Ag interest rates may soon rise

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If you are an agribusiness leader, you have many variables to consider in today’s market. Weather patterns spanning across the too wet/too dry continuum continue to baffle producers. Grain and commodity prices have started to gain strength, and both are up from recent levels but are still below the highs of the past several years. And land prices continue to hold (for now) at historically high levels in many areas of the country.

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These factors are all important, but there is one other variable that may be the most important when planning for your financial future: interest rates. With historically low rates currently being offered for operating lines of credit, as well as some floating rate term debt financing that has been put in place during the last four to five years, it’s important to remember that interest rates can change as fast and dramatically as corn prices.

As the American economy improves and the Federal Reserve Bank looks at beginning to ease its securities purchasing, the stage is set for a return to “normal” interest scenarios during the next couple of years. As that happens, producers with large floating rate exposure can expect to see their interest expense double or even triple during that same time frame. The range between fixedand floating rates will also expand, returning to levels similar to those before the financial crisis. When that happens, borrowers with only floating rates will be at the mercy of the financial markets in terms of controlling their interest expense.

Reviewing your balance sheets and future cash flows now – with an eye toward the next several years – can both produce large potential interest expense savings and protect against possible loan repayment challenges. As you look ahead, here are four steps to better financial planning:

  1. Review your current debt and forecast projected debt levels for the next four years. Include your amounts, repayments required, current rates, and most importantly, whether your rates are fixed or floating.
  2. Optimize how you use your fixed assets (land or equipment) for securing the minimum level of total debt anticipated each year. This should be done regardless of whether it is presently for revolving/working capital lines or fixed assets.
  3. Determine your available cash flow for debt service during the next four years.
  4. Structure new fixed-rate debt now by using a conservative debt service coverage ratio (1.3 to 1 or greater).

By fixing rates now, with proper use of fixed assets as collateral, and carefully forecasting future operational cash flows, you can effectively lock in today’s historically low rates, save tens of thousands of dollars or more in interest expense, and be far better prepared to manage other variables that may come into play.


When you click links marked with the “‡” symbol, you will leave UMB’s website and go to websites that are not controlled by or affiliated with UMB. We have provided these links for your convenience. However, we do not endorse or guarantee any products or services you may view on other sites. Other websites may not follow the same privacy policies and security procedures that UMB does, so please review their policies and procedures carefully.

Mr. Watson serves as president of the UMB Agribusiness Division. He joined UMB in August of 2005 and has also served as the president of the UMB Kansas region. Watson is a graduate of Wabash College in Crawfordsville, Indiana with a major in Psychology. He has also attended The Colorado School of Banking, The National Commercial Lending School (where he has also been an instructor), and the Stonier Graduate School of Banking.

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Simplifying your credit

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When was the last time you downloaded your credit score? If you can’t remember or you have never checked it, you should consider taking a look at it soon. But you’re not alone. Two thirds of the population have not downloaded their credit report in the past year, despite the fact that the average American owes $118,000 in debt. This includes mortgage, student loans, credit card debt, etc.

Pie Chart Downloaded Credit Report in Last 12 Months

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Why do you need to know your credit score? High debt combined with little to no information about your credit score could put you in a risky financial situation. If you have so much debt that you can’t keep up with it and your regular monthly bills, you might end up paying a bill late or forget to pay it at all. This will lead to a lower credit score. Then when you go to apply for a home or car loan, you could be either denied or receive a higher than normal interest rate based on your lowered score.

Unfortunately, this has become a very common scenario. Many people are living month-to-month and often carry over their credit card debt each month just like their regular bills. One third of working adults don’t pay bills on time in part due to the number of accounts they have. Many have trouble keeping up with monthly expenses, requiring them to dip into savings to cover regular expenses.

Pie Chart Pay Bills on Time

Did you know that there are ways to reduce your loan interest rates and monthly payments? You can also reduce the number of payments you owe and even earn money with rewards points from certain credit cards.

To simplify your credit, consider the following options:

  • Use the bill pay option with your bank

    This saves time and you can go to one place to manage all of your bills and schedule them to pay once per month.

  • Consolidate your debt

    Consolidating your debt allows you to have one payment for all your debt and you can usually obtain a lower interest rate. This can allow you to pay your debt in less time for less money.

  • Reduce the number of credit cards you use

    This is another way to help you keep track of your spending and bills. Consider using a credit card that allows you to earn rewards. When you use the card you can earn points toward purchases, helping you save money.

  • Take advantage of low interest rates

    If you refinance your current mortgage to the low rates available now, you can save on your monthly payment. This is also true of auto loan rates.

If you feel overwhelmed by debt and monthly bills, take advantage of these ways to simplify your credit to help you work on becoming debt-free. Even if you don’t have much personal debt, it’s still a good idea to consider these tips to organize your finances, save money, and monitor your credit.


When you click links marked with the “‡” symbol, you will leave UMB’s website and go to websites that are not controlled by or affiliated with UMB. We have provided these links for your convenience. However, we do not endorse or guarantee any products or services you may view on other sites. Other websites may not follow the same privacy policies and security procedures that UMB does, so please review their policies and procedures carefully.

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