Your history does not define your destiny, unless you’re a bond

How a city’s past bond sales can affect its financial future, and other bond realities.

You know the old adage “Never judge a city by (just) its bond”? Or “Forgive and forget: bonds have histories, too”? No? How about that bumper sticker: “Reductive is as reductive does”?

OK, none of those are real.

While there may be a few “Bond, Municipal Bond” jokes floating around in finance circles (thank you, Parks and Recreation), bonds don’t often merit a lot of chatter. But issuing or selling bonds is one of the primary tools municipal governments have to raise money for capital projects, such as refurbishing bridges or building parks. And a bond’s — or a city’s — past may unduly influence its future, says Justin Marlowe, a professor at the University of Washington’s School of Public Policy and Governance.

“The bond market has a very long memory.”

Let’s say Moody’s or Standard & Poor’s or another ratings agency downgrades a city’s credit rating or credit outlook. For example, Moody’s just downgraded Philadelphia’s credit outlook from stable to negative. That change translates to, “Warning: community now slightly more likely to default on debt obligations.” So when a city sells bonds, investors will likely pay less or demand higher interest rates.

If, five years later, a ratings agency upgrades a city’s credit, the market basically goes, “Nah. Don’t believe you.”

This is for a couple of reasons, says Marlowe.

One is that bond ratings aren’t particularly good at capturing all the complex information that demonstrates how a city is really doing. “Certainly there’s some correlation between bond ratings and the overall trajectory of a community, but that correlation is sometimes pretty weak. We want to be careful about reading too much into bond ratings.”

The other is that communication between governments and investors can be tough: there are some 50,000 governments with bonds on the markets. So it’s tough for a particular government to get noticed for its good work.

Government finance is like opera, says Marlowe.

“They’re both these very complex, elaborate productions. A typical person who goes to the opera … can appreciate opera for what it is, but they don’t necessarily understand all the nuance. It’s in a foreign language, they might not understand all of the customs and all of the subtle details that go into making a really great opera production.”

City of Pittsburgh’s finance director, Paul Leger, is an opera fan. No, really. “I know all about opera and I don’t think it’s very complicated,” he laughed. “But the fact that [opera’s] in a different language is important, that applies to bonds, too. Everything in finance has a mystical language and that’s partially to obfuscate what’s going on and make it sound more important than it is,” he said. “It would be much better if we did all of this in very plain language, because it is pretty plain: you’re borrowing money.”

Leger isn’t so concerned with the past: Pittsburgh is on schedule to cut its debt in half by 2019, and municipal bonds continue to be attractive to investors.