Fitch U.S. Public Finance Second Quarter Activity and Outlook.

NEW YORK -- Fitch U.S. Public Finance expects credit conditions to remain stable for the balance of the year. Growing employment and strong consumer sentiment continue to offset the effects of extended monetary tightening, negative saving rates, relatively high oil prices, and an expected leveling off in the housing market, leading to an expectation of a moderated slow down. The most recent growth rates for gross domestic product, non-farm employment, and personal income were 3.67% (first quarter-over-first quarter 2006), 1.42% (May-over-May), and 5.43% (May-over-May) respectively per annum. The gap between per capita personal income and expenditure keeps widening as personal consumption grew by 6.67% during the same period. May-over-May non-farm employment continued to grow in all of the regions in 2006, as it did in 2005 and for most regions in 2004, with the fastest growth taking place in the Far West (2.21%), Rocky Mountains (3.17%), and Southwest (2.89%) region, buffeting the state and local revenue base.

Housing starts rose for three consecutive months ending in May, yet the number of permits, a bellwether of future housing activity according to Global Insight, an economic forecasting firm, fell by 2.1% in the month. Fitch U.S. Public Finance continues to closely monitor housing market activity particularly for credits with a large dependency on housing related revenues (e.g. property or mortgage recording taxes) or a concentration of labor force in construction or other housing related sectors. Other areas of concern potentially impacting public finance credits include weakness in the auto manufacturing industry, health care and other post-retirements benefits, and cost of insurance for natural disasters.

In the second quarter 2006, Fitch US Public Finance upgraded over four times as many credits as it downgraded; 38 credits were upgraded and nine were downgraded for an upgrade-to-downgrade ratio of 4.22:1 versus last quarter's nearly even 0.93:1. On a par basis, the ratio of upgrades to downgrades was much more skewed; $79.3 billion of debt upgraded vs. $466 million downgraded. Notable upgrades included the State of California's general obligation (to 'A+' from 'A') and lease and special tax (to 'A' from 'A-') debt, which accounted for 73.6% of the total par upgraded during the quarter. Other notable upgrades included the City of Austin (TX) utility systems ('AA-' from 'A+'), Partner Health System (MA) (to 'AA' from 'A+'), Kaiser Permanente (CA) (to 'A+' from 'A'), and Port Authority of New York and New Jersey special project bonds (to 'BBB-' from 'BB+'). The largest obligor downgraded was Louisiana Transportation Authority (LTA) due to increasing project construction cost and on-going implementation pressures related to the construction of the LA 1 Phase I project.

As of June 30, 35 credits were on Rating Watch Negative (RWN) and two were on Rating Watch Positive (RWP), vs. 45 on RWN and two on RWP at the end of the 1st quarter. Nine credits in the Louisiana Katrina-stricken regions were affirmed and taken off RWN; they were assigned Negative Rating Outlooks, however, to denote longer-term concerns. Additionally, two LTA credits were removed from RWN in conjunction with downgrades. Three healthcare issuers (Nyack Hospital (NY), Saint Barnabas Health Care System (NJ), and Valley View Regional Hospital (OK)) and one airport credit (the Commonwealth of Northern Mariana Islands (CNMI)) were added to the RWN list. CNMI was subsequently downgraded from 'BBB-' to 'B+' and removed from RWN on July 7; however, it was assigned a Negative Rating Outlook.

The second quarter of 2006 ended with a Positive Rating Outlook-to-Negative Rating Outlook ratio of 0.78:1, with 119 credits on Negative Rating Outlook and 93 credits on Positive Rating Outlook, This was a slight decline from the end-of-the-first-quarter's ratio of 0.81:1, and marked the first time the ratio had declined since the second quarter 2004. The decline was predominantly due to the nine Louisiana-area credits taken off RWN and simultaneously assigned Negative Rating Outlooks; actions which recognized the diminished urgency of the region's credit concerns. Additionally, three states (Louisiana, Michigan and Illinois) were assigned Negative Rating Outlooks and only one state (California) was assigned a Positive Rating Outlook in conjunction with Fitch's first-time formal assignments of rating outlooks for state general obligation credits in April. Because the negative rating outlooks on the three states were indicative of long-standing economic and financial concerns and California's outlook was revised to stable from positive in conjunction with the state's upgrade in June, the drop in the Positive-to-Negative Rating Outlook ratio did not represent deterioration in overall credit quality during the second quarter. Additionally, several tax-backed debt issuers were assigned Positive Rating Outlooks within the second quarter, including Cranston, RI and the San Diego County.

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