Like federal and state governments, cities and towns need to borrow money. Some projects they want or need to complete, like new roads, bridges, or sewer systems, cost more than they can raise through tax revenue. 

So, they go to the municipal bond market. There, they hope to find investors who appreciate certain tax advantages of holding muni bonds, their relatively low-risk nature, and their ability to provide a predictable stream of interest income.

But as more municipalities have gone to the bond market recently, they’ve faced a somewhat costlier borrowing environment.

On a recent Tuesday morning, Michael Gaughan sat in a conference room at the Vermont Bond Bank, watching as the names of financial institutions flashed across a large screen. 

Each name represented an order for municipal bonds offered by the Bond Bank, where Gaughan is the executive director. 

“It seems to be a little bit more interest in the longer bonds, at least in the first half an hour here of our order period,” he said.

Longer bonds, meaning those that mature in 25 or 30 years, were receiving more orders than shorter term bonds. But, there was still another hour and a half to go in the sale. Total bonds on offer: About $126 million.

The Bond Bank is an entity backed by the state of Vermont that hits up the bond market on behalf of small local governments. Basically, it pools together bonds for lots of capital projects, sells them to investors, and then loans the proceeds back to those small communities. Typically, they do two of these sales per year.

“There are library renovations, there are recycling centers, there are school improvements that are all going to be financed with the proceeds of this bond sale,” Gaughan explained.

The bonds mature anywhere from one to thirty years from now with rates Gaughan hopes investors will find attractive. Though, he acknowledged there’s some tension between what the Bond Bank and its borrowers want, “obviously, we want lower rates, we want a really good deal for our borrowers at the bond bank,” and what investors want: “higher rates, better yield.”

The number of orders that each bond sale attracts helps determine exactly where those yields land, and therefore, how much interest the Bond Bank charges municipalities to finance their renovations, school improvements, and new recycling centers.

A few miles from the Bond Bank office, cans and bottles drop onto a conveyor belt at the Chittenden Solid Waste District’s 32-year-old recycling facility. Workers sort nearly everything by hand, grabbing aluminum cans or plastic containers off the belt and tossing them into different chutes.

Sarah Reeves, the Waste District’s executive director, says in newer recycling centers, most of this work is done by machines “that can read the type of plastic, that can read the material that's flowing onto the conveyor belt, and can individually sort for that specific bit of material.”

Reeves wants that for her recycling facility too. 

So, a few years ago, local voters approved a $22 million bond to replace this aging facility with a brand new recycling center with automated equipment.

The Waste District received the first $10 million through a Bond Bank sale in 2023, which it used to buy those machines. They got a 3.9% interest rate. Through the latest Bond Bank sale, they’re set to get the other $12 million to help fund the new center’s construction.  

“What's at stake for us is getting the best interest rate that we can to keep that interest payment as low as possible,” Reeves said.

But, she’s bracing for her borrowing costs to go up. According to Abby Urtz, executive vice president at FHN Financial, that’s a realistic concern.

“In general, we have seen an uptick in yields over the past couple of years,” Urtz said. 

Municipal bond yields, and therefore borrowing costs, have risen, because a lot of local governments are going to the bond market, Urtz said.

Many municipalities put off big projects a few years ago as inflation and interest rates set by the Federal Reserve rose. But now, Urtz said, those governments can’t wait any longer. So, there’s more supply of muni bonds.

“When you have this giant uptick in supply, that can be difficult for those investors to absorb,” Urtz said. “So when there's more supply than you may have demand, that tends to kind of increase yields in that market.”

Michael Gaughan at the Vermont Bond Bank watched those dynamics play out as the bank’s two hour sale neared its end. Certain maturities, between 10 and 25 years, weren’t selling as well as he’d like.

“Listen, there's some days when the wind is at your back and you're really knocking it out of the park,” he said. “That's not this day. This day is relatively calm.”

So, the Bond Bank extended the sale period by another half hour or so. And, to Gaughan’s relief, orders started to pick up. 

“As this order period gets closer and closer to ending, we look better and better,” he said. “It'll be nice to communicate to our borrowers where they landed on rates.”

For the new recycling facility, that rate landed at 4.76%, nearly a full percentage point higher than what they got two years ago. Construction is scheduled to start in the fall.