Fitch: Public Finance Rating Changes Turn Positive in 2nd Quarter 2004.

NEW YORK -- Fitch's expectations for municipal credit are less pessimistic than they have been over the past four quarters, given sustained economic improvements and a positive shift in rating migration over the past three months. During the second quarter of 2004, Fitch upgraded 15 issuers, or $2.7 billion in par, and downgraded 11 issuers, or $3.7 billion, for an upgrade to downgrade ratio of 1.36:1 on an issuer basis and 0.73:1 on a par basis. The par amount downgraded was dominated by the City and County of San Francisco, which accounted for over $1.7 billion, or nearly 44% of the total par downgraded. Excluding the San Francisco downgrade, the upgrade to downgrade ratio would have been 1.3:1 on a par basis.

There were 18 credits on Rating Watch Negative as of June 30, 2004, which is unchanged from March 31, 2004. During this period, two credits were taken off Rating Watch Negative in conjunction with a rating affirmation, one was taken off in conjunction with the redemption of debt by another entity, and three credits were added. The one credit on Rating Watch Positive as of March 31, 2004 was upgraded, and one new credit was added. However, running counter to the positive trend on rating changes, the ratio of the number of credits with a Negative Rating Outlook to those with a Positive Rating Outlook increased to 2.47:1 as of June 30, 2004, from 2.1:1 as of March 31, 2004.

The tax-backed sector had nine upgrades and four downgrades in the second quarter of 2004, for an upgrade to downgrade ratio of 2.25:1, compared with seven upgrades and eight downgrades in the first quarter. However, the number of tax-backed issuers with a Negative Rating Outlook increased to 40 from 33 as of March 31, 2003, and only 12 as of Dec. 31, 2002. In health care, there were three upgrades and two downgrades in the second quarter of 2004, a significant change from the first quarter, when there were nine downgrades and two upgrades. In other revenue sectors, there was one downgrade in transportation, one downgrade in water and sewer, two downgrades in other revenue categories, and one upgrade in higher education.

The negative credit trend at both the state and local levels seen over the past year seems to be easing somewhat as the recent economic upturn begins to take hold, and employment gains have continued for six straight months, although June's employment gains were weaker than expected and the gains reported in April and May were adjusted downwards. Some concerns remain due to expected softness in the housing markets, which had been responsible for strength in local revenues over the past few years, the emergence of pent-up spending pressures, both capital and operating, following several years of fiscal austerity, and continuing cost growth in education, health care, and transportation.

The expectation for state credits over the near term is one of relative stability as improvements in the labor market and revenue gains are beginning to ease budget pressures. However, the rate of growth is not consistent across the country and may not be sufficient to correct accumulated structural imbalances and diminished fund reserves in many states. For local credits, less robust growth in the housing market due to higher interest rates, as well as low reserves following several years of weak financial operations, are likely to slow improvements in credit strength, and in some cases, additional credit deterioration will occur.

Fitch will be publishing a comprehensive report on credit trends in public finance in mid July.