The municipal bond market had an unexpectedly strong issuance year in 2005, spurred on by lower than expected long term interest rates and California’s red ink status. Over $400 billion in municipal bond issues were sold last year, breaking 2003’s record of $383 billion.

Foreign investment in the U.S. Treasury played a role in the strong year as well. Investors expected long-term yields to rise as the Federal Reserve has steadily increased rates since mid-2004. However, foreign investors crowded the market for long term bond issues and kept long-term yields low. Municipalities took advantage of the low rates by refinancing old debt.

Given its large deficit, the situation was particularly helpful for California, the state from which half of all muni bonds issued in 2005. Juan Fernandez, the state’s director of public finance reports that the state saved over $250 million by refinancing existing debt.

Many experts are expecting another strong year for state and local municipal bond issuance in 2006 due in part to tremendous infrastructure financing needs for public utilities, transportation and capital facilities needs, especially in light of rebuilding efforts needed in the Gulf States. The American Society of Civil Engineers gave America’s infrastructure condition a grade of “D” in its 2005 annual infrastructure report card. The lowest grades were related to water and wastewater facilities. The ASCE report estimated that the amount needed to be invested over the next five years for infrastructure amounted to over $1.6 trillion. The 2006 annual report card is expected to be released in the first quarter of the year.