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Michael Ross
May 22, 2023

Smith's Research & Gradings

What Can Artificial Intelligence Do for You?

What Can Artificial Intelligence Do for You?

Can Artificial intelligence deliver for municipal bond analysts? The answer is a resounding yes! But, the first challenge for the municipal bond analyst is to maximize the beneficial aspects of AI rather than view it as a competitor, or as a longer-term replacement. AI is no substitute for the talents and insights of a skilled, well-equipped municipal analyst who is well-attuned to the goals and objectives of the portfolio strategy being implemented by an asset manager or trader pursuing an active management strategy. But, AI can be useful as part of passive/indexing portfolio strategies.

For active managers, surveillance is paramount. Ticker systems can trigger periodic reviews, but may not be linked to timely EMMA filings, local media coverage, or relevant social media commentary released by the issuer or municipality. Most municipal governments boast Twitter or Facebook handles. The analyst will still be required to scrutinize and assess the validity and accuracy of the information and determine if credit risk assessments may be impacted. New information could result in the widening or narrowing of the spread relative to its peers or the MMD curve.

AI can complement the surveillance review process by producing written narratives of recent events by reviewing periodic financials. For many moderate-to-low risk municipal credits, the CAFR is about as good as it gets. But for high-yield municipal project finance startups, investors may demand quarterly, or semi-annual updates. With AI it will be an easier process to verify whether the issuer can adhere to the periodic update requirements. AI supplements the analysts' skills and allows for greater coverage of the multiple bond issues that populate a portfolio. And when there are hundreds of line items, streamlining the process via surveillance can be beneficial to both the analyst and asset manager.

Special purpose municipal agencies that have limited purposes such as Tax Increment Financing Districts, Redevelopment Agencies, Transportation Development Districts and Flood Irrigation Districts have always been disclosure challenges for municipal bond analysts and are often unrated municipal securities. Categorically, these kinds of issuers are low-profile with extraordinarily little institutional coverage, yet their bonds are priced by multiple pricing services.

Given the recent levels of precipitation in Florida, for this article we wanted to gain information about a few of the Florida flood irrigation districts. Such information would be useful in identifying portfolio holdings. According to the AI inquiry web search, flood irrigation districts are regions that have a water management system to protect residents and businesses from floods and droughts. In Florida, five water management districts are responsible for the administration of water resources at the regional level. They are:

• Northwest Florida Water Management District

• Suwannee River Water Management District

• St. Johns River Water Management District

• Southwest Florida Water Management District

• South Florida Water Management District

The municipal analyst now has a starting point to investigate the impact of the recent rains on the five water management districts. AI also provided a link to the Florida Department of Environmental Protection Water Management Districts. This link provides information that requires the analyst to exercise judgment about the usefulness of the supporting data. The initial AI search provided valuable links to information that will require analytical insight. Such information would not be available on EMMA.

The municipal credit analyst community now has an additional tool in its arsenal to combat the historically slow to non-existent disclosure history of issuers to provide timely information.

When a new issue is coming to market, there is a wealth of information to assist in the decision-making process. However, the ability to use AI to scan a broader base of source data, when combined with the skills of a seasoned municipal credit analyst of small single-purpose entities, could be a game changer for the surveillance process.

With the proliferation of AI-powered search engines, there are many choices. We are not recommending a preference toward any of the multiple AI platforms. One search engine we found was Andi (https://andisearch.com). It is described as a "smart search assistant." The key operative word is "assistant," meaning its purpose is to complement the skills of the user. We think a pairing of an analyst's skills with the power of an AI search partner is the best tool, providing the analyst with access to information requiring only some additional keystrokes — It is only a matter of increasing analytical proficiency.

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