Ratings competition is good for muniland
Morningstar Ratings began when it purchased the respected independent rater Realpoint in 2010. Realpoint was only registered to rate structured finance products, and Morningstar has leveraged that authority to begin rating muniland.
Morningstar Ratings, as a Nationally Recognized Statistical Rating Organization (NRSRO), has to do a lot to prove its chops against bigger competitors Fitch, Moody’s and Standard & Poor’s.
I’ve been pushing for more competition among raters since 2003, so I think the entrance of Morningstar and others is fantastic. Markets benefit from more opinions. Shaking up the ratings business is needed for more timely and accurate ratings.
Nowhere is this competition more evident than on the conference call Morningstar held about its research on Puerto Rico. Puerto Rico is the third-largest issuer in muniland, and the most broadly held. Morningstar estimates that 75 percent of U.S. municipal bond funds hold Puerto Rico bonds. The three major raters do a good job covering the commonwealth’s fiscal conditions, credit characteristics and the covenants of various types of municipal bonds. But Morningstar brings a different perspective to evaluating the credit quality, liquidity and priority of various types of Puerto Rico bonds. Here are a few examples.
This chart shows that PR credit spreads have been stressed since 2007. It’s often forgotten in muniland that Puerto Rico has long been considered risky by the market.
Morningstar estimates that Puerto Rico debt is $88 billion (higher than most current estimates) when accrued interest from zero coupon bonds are factored in. It also lays out the types of bonds that could be “subject to clawback” – translation: bonds that could be haircut in a bankruptcy (which should trade cheaper because of the additional risk).
Here is an analysis of the change in spread for various maturities of different types of bonds (general obligations, PREPA, Cofina etc):
This may not seem like a “credit analysis,” which tends to focus on the creditworthiness of the issuer. But analysis that helps an investor understand the value of purchasing a bond in a market seems very useful. Not everyone has access to the research of big dealer banks like J.P. Morgan. Morningstar can fill in a big gap in muniland.