If you own bonds issued by the Commonwealth of Puerto Rico or one of its public entities, you need to read the latest report from Alan Schankel of Janney Montgomery Scott. An old-line broker in Philadelphia, Schankel has published the best overview of Puerto Rico debt that I have seen. And the future for most of this debt does not look too bright as Puerto Rico’s economy is barely crawling along.
There is nothing shocking in Schankel’s broad overview:
With outstanding debt in the range of $60 billion, Puerto Rico is one of the more prolific issuers of tax exempt municipal bonds. The fact that interest on island debt is exempt from all state and local income taxes generates particularly strong investor demand for bonds of the Commonwealth’s various issuers.
About half of the debt is general obligation or otherwise tax backed, while most of the remainder is secured by revenues, including electricity sales, water and sewer utility charges and highway tolls, with all bonds to varying degrees dependent on the fortunes and stability of the island’s economy. Puerto Rico’s status as a territory adds unique considerations to credit evaluation.
Here are Schankel’s money quotes:
Current general obligation credit spreads, with yields about 200 basis points above AAA benchmarks, do not reflect bondholder risk.
Translation: An investor is not getting paid enough interest to cover the risk of owning these bonds. Prices need to come down, and yields need to go up.