MuniLand

Jefferson County’s bankruptcy confirmation hearing

A beautiful thing is happening on Twitter. Local and national reporters are tweeting Chapter 9 municipal bankruptcy hearings as they happen. This is a great service for muniland because there is usually no audio feed at these hearings. Municipal bankruptcies are rare, so each one potentially creates new precedents for those that follow. At the Jefferson County, Alabama hearing to confirm the city’s plan to exit bankruptcy, Kyle Whittemore of the Birmingham News, Katy Stech of the Dow Jones Newswire and Jonathan Hardison of FOX6 WBRC-TV report from the court a day after $1.8 billion of new debt was raised to repay old debt. Bloomberg lays out the back story:

Jefferson County, Alabama, may learn as soon as today whether a federal judge will end its two-year-old bankruptcy by approving $1.5 billion in creditor concessions, the first time since the Great Depression a U.S. municipality has imposed principal losses on bondholders.

“I understand it is somewhat unusual,” U.S. Bankruptcy Judge Thomas Bennett said today of his plan to give an oral ruling from the bench followed by a written order. The county could close on $1.84 billion in new financing by Dec. 3 should the plan win approval following testimony that started today in Birmingham, the county seat.

Today’s hearing was set to give the last two groups of opponents a chance to convince Bennett to reject the county’s so-called plan of adjustment.

The last major opposition to the plan comes from two sets of lawyers fighting to save the suits they filed on behalf of plaintiffs including sewer ratepayers. The lawyers asked Bennett to reject the plan so they can continue to sue JPMorgan Chase (JPM) & Co. and others behind the sewer debt.

Did Jefferson County ratings shop?

Jefferson County, Alabama is raising $1.7 billion of new debt to repay $3.1 billion while it is under the protection of the Federal Bankruptcy Court in a Chapter 9 proceeding. A lot of information that normally remains private to the issuer and underwriter has become public.

Barnett Wright, a reporter at the Birmingham News, published the list of fees that are being paid for raising the new debt, including to the credit raters:

Firms and the amounts to be paid on the deal include underwriters Citigroup Global Markets Inc., $4.9 million; Merchant Capital, $1.3 million; and Drexel Hamilton, $568,000, according to the county.

Can revenue bondholders relax now?

Bond markets generally focus on who has rights to specific cash flows and control over assets. That was what Alabama federal bankruptcy court Judge Thomas Bennett was addressing when he issued an opinion Friday afternoon covering the insolvent Jefferson County sewer system.

To recap the situation in Jefferson County, re-read what I wrote in November:

Last year, amid the county’s fiscal and political meltdown, the Russell County Circuit Court appointed a water system professional, John Young, to take over the management and operation of the sewer system. This action came at the request of the bond indenture trustee, the Bank of New York, which wanted the bond payments protected. Now the county is fighting with the receiver and creditors for control of the sewer system in bankruptcy court.

The crux of Judge Bennett’s ruling related to whether the sewer receiver, John Young, could keep control of Jefferson County’s most important asset, the sewer system, while the county was trying to consolidate its assets in the bankruptcy process. Bank of New York and other bondholders argued that the federal bankruptcy proceeding could not trump judicial actions taken at the local level. In other words BoNY, representing bondholders, wanted to keep the control of the sewer system and its cash flows. Although revenue bondholders have a lien, or right, to the cash flows of the sewer system, they also wanted control of the asset.

How Jefferson County trips up national reporters

The New York Times really needs to improve the quality of its reporting on the municipal bond market. Mary Williams Walsh makes such a terrible hash of the situation in Jefferson County, Alabama, that she is bound to set off another muniland hysteria in the mold of Meredith Whitney.

In the opening paragraphs, Walsh contends that general obligation bonds (GO) issued by state and local governments and with the pledge of their “full faith and credit” may not be as creditworthy as always assumed. About half of the $3.7 trillion municipal bond market is general obligation bonds. She dramatically states that investors who own GO bonds might be in for a “surprise:”

People who own what is considered the safest type of municipal bond may be in for a surprise.

The cost of kleptocracy

Gary White, a former official of Jefferson County, Alabama, had his conviction on conspiracy and bribery charges affirmed by the U.S. 11th Circuit Court of Appeals today. White, a former county commissioner, is already serving a ten-year term in a South Carolina federal prison for his involvement in the sewer scandal that ended in the largest municipal bankruptcy ever. He’s just another piece of detritus from one of the largest cases of municipal corruption in recent American history. The Birmingham News reported the courts decision:

The opinion issued by the court, however, begins with stinging criticism of a period of corruption that included White and other Jefferson County commissioners.

“‘Kleptocracy’ is a term used to describe “[a] government characterized by rampant greed and corruption,” the court’s opinion began, citing three dictionaries. ”To that definition dictionaries might add, as a helpful illustration: “See, for example, Alabama’s Jefferson County Commission in the period from 1998 to 2008.”

Make Jefferson County’s receiver its salesman

The story of Jefferson County, Alabama filing the largest municipal bankruptcy ever last week is well-known. The county went into hock for about $3 billion to build an EPA-mandated sewer system. On the way to completing the system, every local crook and corrupt politician piled onto the project to skim off some pork. Many of these players ended up in prison and left the taxpayers saddled with a sewer system they really can’t afford.

Last year, amid the county’s fiscal and political meltdown, the Russell County Circuit Court appointed a water system professional, John Young, to take over the management and operation of the sewer system. This action came at the request of the bond indenture trustee, the Bank of New York, which wanted the bond payments protected. Now the county is fighting with the receiver and creditors for control of the sewer system in bankruptcy court. My advice to Jefferson County Commissioners is to stop fighting John Young and change his role into a salesman for the system. The sewer system is an albatross, and it should be sold and creditors repaid with the sale proceeds.

The Russell County Circuit Court’s mandate covered raising sewer rates and lowering costs but did not grant Mr. Young a role in facilitating a settlement with sewer debt creditors. According to Young, he took on that responsibility “unofficially.” He claimed to have traveled many times to New York City to negotiate potential haircuts on the outstanding debt, meeting repeatedly with JP Morgan, the biggest creditor, and other Wall Street banks. Young had a lot of experience dealing with Wall Street as the former president of the publicly-held American Water Works Company.

Jefferson County goes kaboom

Crushed by sewer debt and stripped of 48 percent of its general fund revenues by a state court, Alabama’s Jefferson County filed the largest municipal bankruptcy in history yesterday. The filing brings three years of financial chaos to an end and represents the largest default of municipal bonds and derivatives ever.

It’s been a long road for the county. In 1996 a federal judge ordered it to upgrade its sewer and waste water systems. To comply with that mandate, Jefferson County has issued over $3 billion in sewer debt, some of which was done in a blatantly illegal manner. The former Birmingham mayor and county commission president are now serving prison terms for bribery. Twelve others were convicted of bribery and conspiracy, and over twenty people involved in construction of the project have served jail time. The lead underwriter of the sewer debt, JP Morgan, also made the largest derivatives-related settlement with the SEC for an illegal payments scheme, although the bank admitted no fraud.

Jefferson County has been the poster child for muniland corruption for years as its residents have born the cost of the illegalities. Sewer rates have been raised 329 percent in the past decade. 500 county employees have been terminated. The county’s reserve funds have been depleted. Because of the crushing cost of the fraud the county has nowhere to turn but to the protection of federal bankruptcy court. With this filing, the county brings all court cases it is facing to a standstill and can halt debt payments until its massive liabilities have been adjusted.

Crawling in the dark through the muni CDS market

I’m beginning to think that Europe’s sovereign debt crisis might kill more than municipal credit default swaps. As the financial system trembles alongside the deliberations of the Greek government, areas of the markets that have quietly lumbered along in the dark are getting more and more attention.

Bloomberg held an excellent state and local finance conference on Wednesday where there was a brilliant session with the state treasurers of North Carolina, Delaware and New Jersey. Bloomberg Editor-in-Chief Matt Winkler grilled the trio on the use of derivatives, mainly interest rate swaps, by public officials. In the most thought-provoking back-and-forth, Winkler asked what the difference was between Alabama’s Jeffereson County and Greece. Both Greece and Jefferson County have extensive ties to financial institutions through the bonds they issued and derivatives they have either entered into or that have been written on them. In the case of Jefferson County this exposure is mainly concentrated with JP Morgan Chase, the lead underwriter for most of the bonds and derivatives written on the county. In the case of Greece it’s fairly well-known who owns its bonds but it’s practically unknown how deep the interconnections are for derivatives. As Bloomberg wrote:

The European nations are linked in a network of debts, as Bill Marsh recently illustrated in the New York Times with a beautiful piece of graphic art. The image is like a complex wiring diagram for a ticking debt bomb. Yet what it shows may be less important than what it leaves out: a largely invisible network of ties among institutions around the world, which could ultimately cause global financial chaos.

Thumbs down on Obama’s muni tax

Thumbs down on Obama’s muni tax

Unsurprisingly, the Treasurer of California and Bloomberg’s editorial board are pushing back on the Obama administration’s proposals to reduce the municipal bond tax exemption for those earning more than $200,000 per year. I wrote previously how the Republicans are cool to the proposal. The California Treasurer says that the increased tax would raise municipal borrowing costs and estimates that over time the act could add $2.7 billion to $7.7 billion to statewide borrowing costs. Bloomberg’s editorial board goes further and suggests that any changes to municipal bond taxation should be done as part of a broader tax reform effort. From Bloomberg:

How disruptive would this new tax, which the administration estimates will bring in $30 billion a year, be for the muni market? A report from Morgan Stanley Research saw little impact, pointing out that the premiums investors demand to hold munis over Treasuries “have little direct relationship with tax rates historically.” A report from Citigroup Global Markets, by contrast, argued that curbing the exemption would “increase state and local borrowing costs significantly.”

On balance, we suspect the impact on interest rates will be relatively small initially. (Certainly the proposal has had little effect on the market since the announcement, according to Bloomberg pricing data.) Of course, that could change rapidly if historically low Treasury yields rise and munis start to look less attractive.

Municipal bonds are not just for rich people

This Bloomberg interview with John Miller, co-head of fixed-income at Nuveen Asset Management, is a good overview of the current state of muniland although I disagree with his comment that “many, if not most municipal bond holders are in the highest tax bracket”.

Actually IRS data tells us that about 75% of filers who claim exclusion for tax-exempt municipal interest earn less than $200,000 per year. As with all financial assets the richest own the most by quantity but municipal bonds are held pretty broadly. It’s not just a rich persons asset class.

Further: Citibank: US Municipal Strategy Special Focus

Big, big day for Jefferson County, Alabama

The Jefferson County Commission will hold a meeting today to determine whether to accept their creditors proposal for settlement of defaulted sewer bond debt or declare bankruptcy. My opinion is that they will settle and creditors will take a haircut of about 33 cents on the dollar. This will be a very important precedence for muniland workouts. Stay tuned. Here is some of the coverage:

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