Bonds

Triple-A ratings unaffected by reduced Texas Permanent School Fund reserves

The reduction in reserves for the Texas Permanent School Fund’s bond guarantee program does not impact the program’s triple-A ratings, according to rating analysts.

The PSF disclosed Monday the Texas Board of Education took action earlier this month to lower the program’s reserves to 0.25% from 5% to help increase the availability of the guarantee by $7 billion to $9 billion.

The projected available capacity of the program, which bestows triple-A ratings on public school bonds, shrank to only $26.65 million at the end of December from almost $4 billion at the end of August amid a slew of school debt approved by Texas voters last year.

“We don’t take that reserve into account in our analysis because our rating is based on the value of the fund itself,” said Major Parkhurst, a Fitch Ratings analyst, noting the PSF was valued at about $50 billion in the fourth quarter of 2022. 

Citing a November S&P Global Ratings report,  John Kennedy, an analyst at the rating agency, said “PSF assets would be sufficient to support modest increases in the size of the guarantee program at the current triple-A rating based on our loss coverage analysis.” 

Moody’s Investors Service runs scenarios in which the amount of guaranteed bonds equals the program’s Internal Revenue Service limit of $117.3 billion without any set aside for the reserve, according to analyst Heather Guss. 

“So this is something that has always been incorporated into our analysis and the Aaa rating,” she said in a statement.

On Friday, Moody’s affirmed its top rating for the bond guarantee program, citing in part the PSF’s “substantial available assets relative to current and permissible levels of guarantee commitments, the strong credit quality and security features of Texas school district debt guaranteed by the fund, current and anticipated growth in exposure to charter schools that tend to have weaker credit quality, and state constitutional limits on distributions from the fund for non-guarantee purposes.” 

With extremely limited capacity in the bond guarantee program, the Texas Education Agency has been giving priority to schools with the lowest property wealth per average daily attendance, leaving many districts to sell bonds based on their own underlying credit ratings. Some have purchased insurance for their bonds.

Noe Hinojosa, president and CEO of Estrada Hinojosa & Company, said spreads between AA-rated school bonds and AAA-rated, PSF-guaranteed school debt are currently 15 to 20 basis points. With the application process for the guarantee taking one or two months, he warned the cost of waiting to sell bonds “could be higher in this volatile market.”

“We encourage (school districts) to try to get PSF, but with or without PSF, deals are getting done at attractive rates today,” he said in an email.

About $12.5 billion of school bonds received voter approval Nov. 8, according to election results posted on the Texas Bond Review Board’s website. In the May 7 elections, $10.4 billion of school debt passed, S&P Global Ratings reported in August.

Public school enrollment increased 8.6% in the decade ending in the 2021-22 school year, according to the Texas Education Agency, topping 5.4 million.

More school bond proposals will be on ballots this May to fund plans to serve growing student populations or to replace or rehab aging facilities. The Northwest Independent School District in the Dallas-Fort Worth area decided this week to seek voter approval for a $2 billion, three-part referendum largely aimed at addressing enrollment growth.

The guarantee program last reached capacity in 2009, forcing the Texas Education Agency to stop accepting applications. It reopened in early 2010 after the IRS increased the limit in December 2009.

After legislation to permanently remove the IRS limit stalled in Congress last fall, U.S. Rep. Lloyd Doggett, D-Texas, in January introduced the Keeping Texas School Construction Costs Down Act of 2023.

PSF-wrapped bonds are popular with investors due to their liquidity. In the event of a default, which has not yet happened in the history of the program, bondholders are paid by the PSF and that money is then taken out of a district’s next state aid payment. 

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