COLUMBUS, Ohio – Ohios debt is headed for its worst annual return since 2008 because of a slump in the value of the states tobacco bonds.
Municipal bonds issued in Ohio have lost 5.7 percent since Dec. 31, compared with a 10 percent gain in 2012, a Standard & Poors Municipal Bond Index shows. The Buckeye States debt is on track to lose the most value in five years even though an improving economy boosted state cash reserves to a record.
Tobacco bonds are burdening the second-biggest economy among Midwestern states after Illinois. Debt backed by payments from cigarette makers is the worst-performing segment of the $3.7 trillion muni market with a 9.3 percent loss this year, after gaining 25 percent in 2012, S&P data show.
A decline in smoking has reduced revenue from the companies.
Ohios Buckeye Tobacco Settlement Financing Authoritys bonds, sold in 2007 and rated B- by S&P, make up almost 12 percent of S&Ps Ohio index.
I dont think theres anything necessarily inherent in the state of Ohio or its issuing entities thats a drag on the index – its all really about the Buckeye tobacco performance, said Peter Hayes, head of munis at BlackRock Inc., a company in New York that manages $114 billion of local debt.
Buyers are seeking higher-rated securities as investors have pulled cash from muni-focused mutual funds on concern that the Federal Reserve may cut back bond purchases. The Fed has been buying debt to keep short-term interest rates near zero to spur the economy.
Withdrawals totaled $13.8 billion in the eight weeks through Aug. 14, the most since February 2011, Lipper US Fund Flows data show. That pushed yields on benchmark 30-year munis to about 4.7 percent, the highest since April 2011, data compiled by Bloomberg show.
About $94 billion of municipal securities are backed by tobacco-company payments as part of a 1998 settlement with states, generating revenue based partly on annual cigarette shipments. The bonds have lost more than twice as much this year as the broader S&P muni index, which declined about 4.4 percent through Aug. 15.
Tobacco bonds are the worst performer compared with debt tied to segments such as hospitals, water and sewer systems and transportation networks.
Ohios in reasonably good shape, but the tobacco-bond arena, not so much, said Alan Schankel, head of fixed-income research at Janney Montgomery Scott LLC in Philadelphia.
Buckeye tobacco bonds maturing in June 2034, rated B3 by Moodys Investors Service, or six steps below investment grade, had a yield of about 8.5 percent Aug. 15, according to Bloomberg Valuation data. Thats about 4.5 percentage points above top- rated munis and compares with a yield of 6.6 percent and a 4.1 percentage-point spread to the benchmark index in January.