Half way through 2018, HFA research shows that the number of bond issues sold by hospitals in the public markets went up from 21% to 39%. Measured by par amount, 15% of 2018 issues were single-rated, compared to 6% in 2017. Issues carrying ratings from all three agencies also went down from 19% to 14% of total.
The average number of ratings per bond issue declined from 1.8 in 2017 to 1.5.
Spotting market trends over short time periods can be tricky, particularly when issuance is down as is the case since the late 2017 glut. Hospitals sold only $5 billion of fixed rate revenue bonds in the public markets since the beginning of 2018, compared to $14 billion sold in the same period last year. However, a similar trend is affecting the overall municipal sector. According to a recent study by Municipal Market Analytics, a research firm, 25% of overall municipal issuance par was single-rated so far this year, compared to 21% in 2017 and an average of 20% over the past few years.
Hospital issues with three ratings are also down from last year.
The emergence of single-rated issuance appears to affect all healthcare rating categories, although it is most evident in the "BBB" space which tends to draw more sophisticated investors.
There are several likely explanations for why hospitals would want to sell bonds with fewer ratings.
Cost is often cited as a major factor. Each rating agency charges fees that add to costs of issuance. As an example, S&P charges around $100,000 for issues from $100 to $200 million size, and annual surveillance fees around $20,000. These fees add up over the life of the bonds, but they are still minor relative to the average hospital bond issue size, which is more than $100 million.
Although more difficult to quantify than rating fees, the administrative burden of dealing with multiple rating agencies is also a concern for hospital management. If reviews are conducted at different times of year, the financial and operating information provided by the hospital will need to be updated. Each agency uses its own questionnaire and wants its own surveillance call, which further takes away from day to day business.
Another possible explanation is that over the last several years, hospitals have moved away from public bonds towards bank placements, which are typically unrated. With less public debt outstanding, borrowers aren’t as dependent on rating agencies and are better positioned to pare down on ratings.
Other hospitals worry that the more ratings, the more likely one agency could change its approach to rating the healthcare sector, as was recently the case with S&P and Fitch. While this can result in an upgrade, the impact of a downgrade is greater since investors base pricing on the lower of all available ratings. The same applies to bank placements whose pricing uses a matrix based on the lowest rating.
Whatever the rationale is for hospitals to cut back on ratings, it is clear that municipal bond funds, who make up the bulk of buyers, have stepped up their analytical capabilities and are less reliant on rating agencies. As a result, the pricing penalty from carrying fewer ratings isn’t as significant for borrowers as it used to be. Funds still prefer more than one rating (why not), but they are increasingly contented with single ratings, particularly when dealing with borrowers who go to market frequently or who provide above-average disclosure.
As the municipal bond markets become more transparent and investors become more sophisticated, we expect hospitals and other municipal borrowers will continue to look for ways to sell bonds with fewer ratings.
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