BABs - Going Down the Road to Nowhere?

Bloomberg:

The Republican landslide in U.S. House elections may derail efforts to extend the Build America Bond program, a part of President Barack Obama’s stimulus that has helped pump $158 billion into local public-works projects.

With the federally subsidized bond program set to expire at year-end, supporters are pressing for an extension in the lame-duck session of the Democratic-controlled Congress, which begins Nov. 15. Prospects will grow dimmer in January, when Republicans, who have called Obama’s $787 billion stimulus too costly, take control of the House and reduce the Democratic majority in the Senate.

he U.S. pays 35 percent of the interest on taxable Build America Bonds, which have been a boon for local officials seeking to finance construction projects. The securities have also provided fees for Wall Street underwriters and helped hold down borrowing costs in the tax-exempt municipal bond market, where supply has diminished because of the federal subsidies for sellers of the taxable debt.

An end to Build Americas would increase tax-exempt bond supply by about 35 percent, just as money is starting to migrate back toward stocks, said Alan Schankel, the director of fixed- income research for Janney Montgomery Scott LLC, the Philadelphia-based brokerage. That may put pressure on muni-bond prices, which move in the opposite direction of yields. “The forces are conspiring to increase supply and reduce demand, and that’s going to push yields higher,” he said.

 There is still some value in select BABs (relative to other spread product), but headwinds are gathering as states continue to realize what they agreed to when they took advantage of the program and municipalities continue to come under pressure.  Watch the wording in the deal doc (the same with any investment, but...) as revenues that "appeared" to be supporting bonds can be diverted and tax supported issues have been finding out some municipalities would rather "mail the keys" than dramatically increase taxes.  Be wary of small municipalities that are infrequent issuers and have tapped the market for special projects.  Keep your eye on Harrisburg, PA.  There is money to be made, but homework is more than looking at the ratings.