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As Tim Oswald recently wrapped up a municipal bond deal originated this summer for the city of Altoona, he felt lucky to secure an interest rate of just over 6 percent for the 30-year debt issue.

“By comparison, that bond today would sell for not less than 8 percent, and here we sit just six months later,” said Oswald, managing director of the Des Moines office of Piper Jaffray & Co. “Altoona probably couldn’t have afforded that project at the rate now. It would have been cost-prohibitive.”

Those tax increment finance (TIF) revenue bonds, which will generate $56.47 million for the city to develop a Bass Pro Shop building and surrounding infrastructure, represent the largest bond issue the city has ever made, said Jeff Mark, Altoona’s city administrator. The bonds will be repaid with revenues from the city’s oldest TIF district, which includes the Bass Pro Shop site.

“We feel very fortunate that we were ready to go at a time when the market was very favorable to the city of Altoona,” Mark said.

The municipal bond market, normally considered stable, if not boring, has been turned on its head since the financial markets swooned in September. Among the reasons has been the forced sell-off of municipal bonds by cash-strapped financial institutions seeking liquidity. Also, panicked investors fleeing from the stock market have largely bypassed municipal bonds in favor of ultra-safe U.S. Treasury securities, resulting in municipalities having to pay higher rates to attract more risk-averse investors.

At the same time, local governments’ budgets and tax revenues are shrinking due to the economy, which increases the perceived risk of lending to them, which has generally made specialized issues such as TIF bonds more difficult to issue.

“Cities may find they’re paying a lot more, or simply not able to find buyers for these types of bonds,” Oswald said.

Nationwide, local governments, schools and other nonprofit organizations have nearly $2.7 trillion in municipal bonds outstanding, up from $1.7 trillion in 1998, according to the Securities Industry and Financial Markets Association. Issuance of municipal bonds reached a record $429 billion in 2007, an 11 percent increase from 2006.

Oswald said the overall volume of municipal bond sales has decreased significantly over the past year, but Piper Jaffray’s Iowa business hasn’t gone down materially.

“I don’t expect it to go down much next year,” he said. “The driver of a local government’s decision is not as much influenced by federal activity or interest rates, as long as the rates are reasonable.”

Municipal bond transactions overall are down because larger municipalities and states are tending to put issues aside if the rates aren’t favorable, and have been doing so since late summer, Oswald said.

Conservative issuers

Most Iowa municipalities are still able to borrow by issuing general obligation bonds, said Chip Schultz, director of public finance for Ruan Securities Corp. in Des Moines. Ruan Securities works primarily in the “bank-qualified” niche of bonds for Iowa municipalities that issue less than $10 million per year in bonds. The Tax Reform Act of 1986 eliminated the tax-exempt status of municipal bonds for banks, with the exception of so-called bank-qualified bonds.

“Iowa local governments and schools have largely been conservative with their spending and budgetary practices,” Schultz said. “This has allowed them, at the present time, to remain somewhat insulated from more cyclical trends seen nationally.”

The city of Johnston, for instance, which closed on a $3.2 million issue of general obligation bonds last week, was able to secure a “pretty favorable interest rate” of 4.46 percent, said Teresa Rotschafer, Johnston’s finance director. However, “we didn’t necessarily have as many bidders as we would have wanted,” she said. The proceeds will be used to fund a couple of sewer projects, fire equipment, street reconstruction and a portion of a fiber-optic project with the city’s school system.

One factor that helped Johnston obtain a favorable rate was an increase in its credit rating from A1 by Moody’s to AA+ by Standard & Poor’s earlier this year. “We believe that helps by about 10 basis points,” Rotschafer said. “We usually have a pretty aggressive repayment schedule for our debts.”

In another recent deal, Broadlawns Medical Center beat the clock to secure $10 million in bond financing before the end of the year. The public hospital secured a 7 percent rate on the revenue bonds, which will be used to finance a first phase of renovation of its facilities.

Finding buyers for Broadlawns’ bonds was “a challenge,” said Tim Joyce, a vice president with Wells Fargo Brokerage Services LLC in Minneapolis who handled the transaction.

“It’s a very challenging market,” Joyce said. “Six months ago, if we had brought a similar structure to the market, we could have sold it in a couple of hours. This took us a couple of days to find investors, and we had to change the structure. We normally have a 20-year term; we had to shorten it to 15.”

The biggest hurdle in the municipals market is a scarcity of active buyers. “Many of the potential (institutional) buyers have told us, ‘We’re closing our books through the end of the year,'” Joyce said. “So that means a lot of borrowers are holding off.”

Wells Fargo anticipates a possible wave of municipal bond deals that may flood the market in early 2009. “We’re not sure if it’s going to be a trickle after the first of the year, or a wave,” Joyce said. “Borrowers are holding off until it’s more of a normal market. We feel very fortunate to get this deal done.”

A buyers’ market

The same conditions that are making things harder for bond issuers are working in investors’ favor.

For instance, for many years, large hedge funds and mutual funds snapped up some of the best-quality bonds issued by private Iowa colleges before Ruan Securities could buy them, said Greg Tucker, a Ruan vice president who deals with buyers. “Now, the tide has turned and it’s actually creating a market that’s giving back to the communities at a better rate,” he said.

Tucker said the market for purchasing Iowa municipal bonds is the best he has seen in his 37 years with Ruan Securities. “Four or five months ago, before this whole (financial crisis) hit, we were paying par for (municipal bonds),” he said. “I just bought some of this same stuff for 75 cents on the dollar, a 25 percent discount. That’s phenomenal. Certainly it’s a buyers’ market.”

Many of the buyers are Iowa community banks, which purchase bank-qualified bonds for their investment portfolios. And they tend to invest in bonds tied to projects they’re familiar with, Tucker said.

“Unlike some of the huge banks, the local banks are very astute investors and they support the community and they know the credits that they buy,” he said. “They’re well-invested in Iowa communities because that’s where their funds come from to support the bank.”

Suku Radia, president of Bankers Trust Co., said his bank focuses on buying quality municipal bond issues for its investment portfolio, which now approaches a half-billion dollars in value.

“We have an appetite for tax-exempt income,” he said. “We are always willing to concede some yield, based on the strength of the municipality. The market is a little bit upside down right now. Consequently, you get into some situations where there are opportunities. … Our total investment portfolio has an unrealized gain, which tells you how well we are doing in this environment.”

Iowa institutional investors, including some banks, made up the majority of the Broadlawns bond purchasers, Joyce said. Selling to local institutions rather than out of state often means less perceived risk and more favorable rates for the issuers.

“We worked very hard to find investors that are familiar with Broadlawns and its story,” he said.

Tucker said the municipal bond issues his company brokers are getting larger.

“There’s just more need for Iowa growth as the populations increase,” he said, listing Huxley, Stuart, Adel and Winterset as some of the active Central Iowa issuers. “All of these places are seeing more people living there, and so they need more infrastructure.”