Muni sweeps: Lockyer rides again
CA Treasurer launches another derivatives investigation
We often see Wall Street selling sophisticated products to state and local governments which are not appropriate for them — think interest rate swaps and Jefferson County. So it’s always refreshing to find a government official who actually tries to keep Wall Street in line.
Sharp-eyed California State Treasurer Bill Lockyer has been monitoring the spread (price) levels for the state’s credit-default swaps. He noticed a very significant one-day drop in CMA Datavision (one of two muni CDS price aggregators) and wants to understand what caused this. Katy Burne at Dow Jones has done an excellent job reporting the story:
California’s state treasurer is looking into what he believes were erroneous prices reported last month for credit-default swaps tied to the state’s debt.
The annual cost of protecting $10 million of California debt against default over the next five years fell by $45,000 from one day to the next last month, an extraordinarily big overnight move. Tom Dresslar, a spokesman for Treasurer Bill Lockyer, said that CMA DataVision provided the prices to Bloomberg’s fixed-income data service.
Lockyer suspects the cost of credit-default swaps, which are expressed as a percentage of the amount of debt covered, was artificially high before the adjustment.
“To the extent our prices are wrong, particularly if they are on the high side, that presents an inaccurate picture of our creditworthiness, at least in some corners,” said Dresslar in an interview Tuesday.
The chart above is from the other muni CDS price aggregator, Markit, and they did not report an inverted yield curve.
This is not the first time that Treasurer Lockyer has made a point of investigating the swaps on his state’s debt. In an April 28 Muniland post I wrote about how Lockyer queried Wall Street firms on the amount of their California CDS:
Here are the amounts per bank of credit fault swaps reported to California Treasurer Lockyer:
- Goldman Sachs – $4.3 billion
- Morgan Stanley – $2.5 billion
- Barclays – $2.5 billion
- Citigroup – $1.9 billion
- JP Morgan – $1.5 billion
- Bank of America Merrill Lynch – $1.9 billion
All banks are reporting amounts in gross notional outstanding. And no other banks reported writing credit default swaps on California debt that were underwriters of CA debt.
The Bond Buyer reported on the banks’ customers for California CDS:
The banks listed commercial banks, broker-dealers, hedge funds and insurers, including monoline bond insurers, as participants in the California CDS market.
Goldman Sachs chief executive officer Lloyd Blankfein said 63% of his firm’s California CDS trade volume came from banks or broker-dealers and 31% from hedge funds. Money managers and insurers together accounted for just 5% of the volume.
The statement of the chairman of Goldman Sachs regarding ownership of California CDS suggests that only 5% of these swaps are real hedges against default and the rest are just speculative plays. Unfortunately, CDS betting can affect the cost of California’s borrowing. Pity that “hot money” players have such an outsize influence. I’m looking forward to more states monitoring their CDS spreads. Perhaps Treasurer Lockyer can share “best practices” on the topic.
Muniland’s contractionary economic effect
From Common Dreams:
The Great Recession officially ended two years ago this month. By the same point during previous recoveries, state and local governments were engines of growth: In the two years after the 1990-91 recession ended, for example, they’d added 430,000 jobs. At the same point after the 2001 recession ended, they had added 249,000.
This time is different. More than 467,000 state and local government jobs have vanished since the recession officially ended in June 2009, including 188,000 in schools.
The Great Recession of 2007-2009, the longest and deepest downturn since the 1930s, dried up state and local tax revenue. It also escalated demands for social programs like Medicaid and unemployment benefits and “ate through their rainy-day funds,” notes Michael Gapen, senior U.S. economist at Barclays Capital.
New Whitney argument
She [Meredith Whitney] also said she has no stake in the muni market and is basically doing this as a public service — though she so far hasn’t released her research to the public, and she’s turned down invitations to speak to Congress about the issue.
“I can’t believe I’m the only person talking about it,” she said. “We published a 1500-page report on Monday. It doesn’t make any sense to me that we’re shedding light on this. ”
“People want to attack me, OK,” she went on. ”State governors agree with me – it’s the municipal bond market that doesn’t.”
Previously Ms. Whitney claimed that insurance companies would be dumping municipal bonds. Now she contends that state governors agree with her. Hmmm.
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