MuniLand

Who’s the master of Puerto Rico? Governor Garcia-Padilla or the credit rating agencies?

via Jorge Banilla. Press closed captions for an English translation.

My Twitter thread was abuzz today with tweets about the comments made by Puerto Rico Governor, Alejandro García Padilla about the credit rating agencies (all of whom give PR the lowest investment grade rating of BBB- or Baa3):

From the Puerto Rico paper Vocero, via a not-quite-perfect Google Translate translation, here’s an account of what Garcia Padilla said:

Time for Stockton to wrestle with CalPERS

Muniland turned a very big corner today when U.S. Bankruptcy Court Judge Christopher Klein determined that the insolvent city of Stockton, California had met the criteria for municipal bankruptcy. Stockton became the largest city ever to enter Chapter 9 bankruptcy. The admittance of Stockton to the protection of the court does nothing to address the central question of Stockton’s solvency: what can be done with the massive unfunded pension liability owed to CalPERS, the statewide pension system? Stockton itself has done nothing to address the problem. Judge Klein did have one very important thing to say:

With this statement he mirrored the ruling of the Vallejo, California bankruptcy judge, Michael S. McManus, Jr., who specifically said in his 2009 ruling (page 73, clause 3102.1):

Another tax-giveaway goes to a local developer

I write about cities and states doing all kinds of unsound things with their money, but I am shocked as I watch my own very small community get bamboozled by a local developer. Here is the story from our exceptional local paper The Observer:

The developer of a three-story addition to Northern Dutchess Hospital in Rhinebeck is seeking to make the expansion tax-exempt for its first seven years.

Developer Jeff Kane of Kirchhoff Medical Properties explained during a public workshop with village officials Feb. 13 that his company will lease part of the hospital campus from HealthQuest, which owns the hospital, while building the 75,000-square-foot, $30 million addition.

Do dealers have a chokehold on CDS markets?

European competition regulators are examining the coordinated activities of the big dealer banks in the credit derivatives space – a pretty dark part of financial markets. Supposedly, the dealer banks are thwarting competition for these products by using groups like Markit and ISDA (a trade association) to block access for other venues to conduct trading in credit default swaps. Markit’s board of directors includes employees of Bank of America, BNP Paribas, Commerzbank AG, Goldman Sachs, HSBC, JP Morgan and Morgan Stanley, and it has been under investigation by the U.S. Department of Justice since 2009. Bloomberg reports:

Regulators found ‘indications that ISDA may have been involved in a coordinated effort of investment banks to delay or prevent exchanges from entering the credit derivatives business,’ the European Commission said in a statement today. The EU started a probe in April 2011 into whether 16 lenders, including Citigroup Inc. and Deutsche Bank AG, colluded by giving pricing information to data provider Markit Group Ltd.

The EU’s probes add to separate antitrust investigations into whether banks colluded to manipulate benchmark lending rates, including the London interbank offered rate. The U.S. Justice Department is also probing the credit derivatives clearing, trading and information services industries.

This is why Stockton is broke

Stockton, California is in federal bankruptcy court trying to make the case that it is insolvent and should be taken into the protection of the court to sort out its debts and obligations. Meanwhile, bond holders and bond insurers say it hasn’t tried hard enough to meet the requirements of Chapter 9 bankruptcy. They say the city overpays its employees and has not negotiated with CalPERS, the statewide pension system for public employees. Over 75 percent of Stockton’s general fund expenses go to pay police and fire salaries and pensions, much higher than in most communities.

On the question of overpaying its employees, Stockton’s city manager, Bob Deis, wrote in an OpEd for the Wall Street Journal last year:

Also painful is our public safety situation. We are the 10th-most violent city in America. Rates of violence are increasing by double digits, with our murder rate on track to surpass last year’s record of 58 murders. We have the second-lowest police staffing levels in the country for a large city, and often Stockton Police can respond only to “in-progress” crimes. Oakland, a nearby city with similar crime challenges, has 44 percent more police officers per capita. With high poverty rates and gang activity, we cannot turn our back on public safety due to creditor pressure.

As Sacramento drowns, it finds money for a new stadium

I keep reading stories about cities doing convoluted tax deals and giving away hundreds of millions of dollars to keep sports teams from moving away. This strikes me as odd – communities giving away precious resources to millionaire sports team owners while they can’t balance their budgets. Sacramento might win the award for fiscal battiness this year. Here is a description of the state’s current effort to raise money for a sports stadium from the Sacramento Bee:

The city says it can raise $212 million by setting up a nonprofit corporation to borrow against future revenue generated by its downtown garages. That would represent the bulk of the city’s $258 million contribution to the new $447.7 million arena proposed by billionaire Ron Burkle and two other investors trying to keep the Kings from moving to Seattle.

Most of the rest of the city’s share would come from giving the Burkle group parcels of city land worth an estimated $38 million. Burkle could sell the property or develop it himself.

Two massive pension reform struggles

After similar challenges fought in 42 other states, Muniland’s two weakest credits – Illinois and Puerto Rico – are fighting difficult battles over pension reform. The pension struggles will have enormous effects on their creditworthiness.

Puerto Rico’s pension fund, which is dangerously close to insolvency, figured prominently in credit rater Moody’s analysis when it downgraded the commonwealth last December to Baa3, its lowest investment grade rating:

- Economic growth prospects remain weak after six years of recession and could be further dampened by the commonwealth’s efforts to control spending and reform its retirement system, both of which are needed to stabilize the commonwealth’s financial results. The lack of significant economic growth drivers and the commonwealth’s declining population have also reduced prospects for a strong economic recovery.

Credit raters unveil default data

It’s the season for credit rating default data. Credit rating agencies issue this data about bonds that defaulted, along with the ratings those bonds had been given. Investors can use this data to see how much default risk they assume when they purchase bonds rated AAA or A or B. It’s a quantitative risk road map for bonds.

The SEC wrote a series of rules that require that raters make this data available to the public. 90 days after the end of the year the data must be placed on the rater’s website. The rating agencies rarely used to publish these statistics for the municipal market (although corporate bond default data was published every year).

Fitch Ratings is the first out of the gate with its ‘quantitative’ measures of default risk. You can see the basic data in the chart above (or page 12, requires registration, which is free). The SEC requires that the rater track how often variously rated bonds default over a 1, 3 and 10-year period. You can see in the table that there were no defaults for Fitch-rated muni bonds until all the way down the scale to A- bonds that had been issued 2-years earlier. Defaults are rare in the Fitch-rated universe. Here is the proof.

Detroit is remaking itself from the ground up

You have seen the headlines from Detroit; how Michigan Governor Rick Snyder appointed an emergency manager, Kevin Orr, to take over the functional management of the city, how the water and sewer system is moving to a regional rather than municipal system and how 6,700 abandoned homes have been demolished. Big things are happening in the Motor City.

My attention was recently caught by a small story in the Detroit News that talked about efforts by the city’s emergency medical services to examine how their services are being used. Aside from education, EMS is one of the most expensive services that municipalities provide to citizens. In the case of Detroit, some citizens were under the impression that the EMS was some sort of a concierge service. From the Detroit News:

“A lot of times they’ll call the 911 system because they don’t know who else to call,” Detroit EMS Lt. Anthony Wade said. “They’ll say, ‘I’m sick, and I can’t see my doctor this week, so I’ll just call 911 to take me to the hospital.’”

The two schools of thought on pensions

Public pension funds are essentially big piles of assets that are managed to provide the best investment returns at the lowest risk. The assets are what public employees have to retire on. If they are well managed and employees and governments make their required contributions, the assets grow as they earn investment returns (accounting for over 60 percent of the annual increase in pension assets). The most important part of the pension fund equation is how well the fund managers do earning investment returns.

Even with a rough economy, public pension fund managers have had an 8.9 percent median annualized investment return over the last 25 years, according to Callan Associates. The investment returns have done a lot to keep the funds growing at a steady pace. This is all separate from debates about whether public employees have been promised overly generous benefits, which is a political discussion that must be had. Also, there is very wide divergence in how pension plans perform.

Even though historic rates of return for pension funds have been strong, there is a debate over whether pension funds should use an 8 percent investment return on forward-looking assumptions. In fact, over the last several years there have been disagreements over which investment return to use when projecting the size of future assets. One side is led by Keith Brainard, research director at the National Association of State Retirement Administrators. Brainard argues that actual historical returns are the best foundation for forward-looking projections.

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