Spreads remained stable for AA bonds, more volatile for A-rated bonds and below. As shown in the chart below, spreads for healthcare bond issues responded to the COVID crisis very differently at the top and bottom ends of the rating spectrum. For AA-rated bonds, 10-year spreads ticked up slightly but, on an absolute level, stayed within the bounds of the last couple years. For A-rated bonds, 10-year spreads moved up more aggressively, as investors grew concerned about the financial impact of the pandemic on hospitals’ revenue.
For BBB-rated bonds, 10-year spreads jumped significantly. Generally, the hospitals hit hardest by the Center for Medicare and Medicaid Services (CMS) prohibition on elective procedures during the months of March, April and May were those with weaker balance sheets. In conversations with colleagues around the industry, there were many stories of sleepless nights last spring as CFOs wondered when CMS’ ban on elective procedures would end.
The spreads for BBB-rated bonds have since come down but remain highly elevated on a relative basis. My general impression now is that CFOs are generally not concerned that CMS will reinstate its prohibition on elective procedures, but concerns remain in the industry (and among investors) about how the revenue picture will shake out.
With the exception of BBB-rated bonds, interest rates for higher rated healthcare bonds have increased only slightly from earlier in the year and do not appear to be a significant factor in the decision by most CFOs regarding whether to access the credit markets now or hold off to the extent they have flexibility in timing.
CARES Act funding guidance will significantly impact full-year financials. One significant topic at the moment is the reporting requirements and compliance surrounding CARES Act funding. I’ve had a number of conversations with auditors recently, and this is a common theme throughout the industry. While PPP loans—which smaller hospitals were allowed to access—have fairly well-understood requirements for treatment as a forgivable loan, there doesn’t seem to be the same clarity around the CARES Act funding. For many hospitals, Provider Relief Funds through the CARES Act filled—or partially filled—the huge hole in revenues for March, April and May. However, the tracking and reporting of eligible healthcare expenses and lost revenue has proven challenging and is creating a level of uncertainty regarding how full-year financials will ultimately be impacted.
Market outlook remains positive to issuers regardless of timing to market. Recently, we have worked on healthcare bond issues with a specific aim to bring them to market before November 3 in an effort to avoid any market turbulence that might be created following the election given the high level of general uncertainty. That said, there’s a case to be made for the municipal bond market strengthening—perhaps after a market shock, regardless of how the political landscape shapes up.
Depending on that landscape, we might see the return of tax-exempt advance refundings (which were eliminated by the 2017 tax reform), perhaps arriving as part of a large infrastructure bill. We might also see direct-pay bond structures similar to the Build America bonds of 2009 and 2010. And, of course, increases in income taxes could drive additional investor interest in the municipal bond space overall. All of these could create or support attractive options for issuers in the ensuing months.
It’s too soon to know how things will shake out legislatively, but given this extended period of low interest rates, unless there’s an urgent need for funding, there doesn’t appear to be a pressing reason to rush to market.
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