topinvestors's posterous http://topinvestors.posterous.com Most recent posts at topinvestors's posterous posterous.com Sun, 12 Dec 2010 11:24:00 -0800 Fiction an easy sell in U.S. muni market | Analysis & Opinion | http://topinvestors.posterous.com/fiction-an-easy-sell-in-us-muni-market-analys http://topinvestors.posterous.com/fiction-an-easy-sell-in-us-muni-market-analys

The author is a Reuters Breakingviews columnist. The opinions expressed are her own.

Armageddon makes for a sexy story. Volatility in the $2.8 trillion U.S. municipal bond market is real, but the scary tale being spun out of budget-busting states like California involves a lot of literary license.

The rockiness of the market lately is shown by the surge in the perceived riskiness of muni bonds. The highest-rated issuers’ paper is trading at yields that are 0.5 to 0.8 percentage point higher than at the beginning of November. Meanwhile, investors in mutual funds that specialize in the sector pulled out $5.6 billion of their money in the five weeks to Dec. 1, the biggest withdrawal since the financial crisis two years ago.

The volatility seems to have been kicked off by technical factors rather than rising worries about state and municipal defaults. Surging Treasury yields, which underpin munis and other bonds, rattled the famously illiquid market; a flash-flood of new supply didn’t help; the future of the popular but temporary Build America Bond program is bound up in the Washington tax debate; and the related uncertainty over personal tax rates hardly fills investors in the tax-driven muni asset class with much confidence, either.

Moreover, munis have few natural buyers once any kind of exodus gets going. Their tax-exempt status makes them best suited for wealthy American investors who buy them to tuck away in portfolios. Retail investors hold more than two-thirds of outstanding muni debt, according to Federal Reserve data. That compares with U.S. Treasuries, where retail holders account for roughly 20 percent of the total, and equities where they account for less than 60 percent.

That arguably leaves the muni market especially vulnerable to perceptions. It’s true that higher yields make it more expensive for small issuers like cities, sewage authorities or school districts to raise funds. That could make a municipal default more likely — but only at the margin.

Meantime, the alarming-sounding deficits of some big states have attracted predictions of defaults from high-profile figures like bank analyst Meredith Whitney. Yet while a state default isn’t impossible, comparisons with, say, Greece or Italy are misleading. California’s debt-to-gross state product ratio is just 5 percent — minuscule compared with the Greek debt-to-GDP level of 133 percent, as estimated for the year-end by JPMorgan, or the U.S. federal government’s 88 percent.

The danger is that retail muni investors, in particular, read too much into the headlines and turn the perception of default risk into reality. They might be better off worrying about their “risk-free” holdings of Treasuries.

Permalink | Leave a comment  »

]]>
http://files.posterous.com/user_profile_pics/901008/rittereiser_cover.jpg http://posterous.com/users/1kLmE6z9UwQp Top Investors top investors Top Investors
Sun, 12 Dec 2010 10:48:00 -0800 Illinois Seeks Wall Street Cash http://topinvestors.posterous.com/illinois-seeks-wall-street-cash http://topinvestors.posterous.com/illinois-seeks-wall-street-cash

By MIKE SPECTOR And MICHAEL CORKERY

Times have gotten so tough for the Illinois state government that it has begun turning to Wall Street trading houses and hedge funds to help pay its bills.

The state owes more than $4.5 billion to vendors large and small, ranging from prison-cleaning crews to schools for the disabled. Tax shortfalls and pension obligations continue to leave the state light on cash.

Pinched in Illinois

Clayton Hauck for The Wall Street Journal

A sink used for washing up after art projects at the Youth Service Project shows years of heavy use.

Quietly, the state has begun reaching out to Wall Street and other investors with a novel plan to plug this shortfall. Instead of further tapping the public debt markets, Illinois is trying to tap private sources for short-term cash to repay vendors.

Such efforts reflect the pressure many U.S. states face and raise questions about the lengths some governments should go to in funding their operations. And they put Illinois, which has endured budget strains for a decade, in the uncomfortable position of pitching its fiscal problems as someone else's profit opportunity.

The Illinois approach works like this: Investors take over the delinquent bills owed by the state to its vendors. Those vendors are due a 1% penalty each month after the state falls behind by 60 days. The financial investors make the vendors whole and are entitled to 1% monthly penalties until the state pays the investors back.

With Illinois currently five months behind on its bills, investors who participate in the program today could collect 3%, which state officials say works out to an about 12% annualized return. The rate is double that of many long-term Illinois state bonds, which pay roughly 6% annually.

State officials said they expect to pay back investors in less than six months, but won't guarantee that.

Illinois's Funding Plan

Illinois is courting hedge funds and other investors to help finance about $2.5 billion it owes its vendors. Here is how one scenario in a recent pilot program would work, involving a vendor owed $100 million.

Illinois plans to roll out the program to thousands of vendors in the next several weeks, which could help pay off as much as $2.5 billion.

Illinois has run deficits every year since the 2001 recession, and it routinely covers those gaps with short-term measures, putting off bills and paying less than is recommended into the state's pension fund. Now the state is running out of options to pay vendors, many of whom are dependent on state contracts. The state was able to borrow $1.5 billion to pay vendor bills for its fiscal year 2010. But the state still owes more than $4.5 billion in fiscal-year 2011, and debt analysts say additional borrowing to cover those bills could be more costly and politically infeasible.

"The state thought this was the most efficient way to help vendors immediately," said Kelly Kraft, a spokeswoman for Gov. Pat Quinn's Office.

It is unclear how many large investors have signed up for the program. Total investments haven't been finalized, Ms. Kraft said. The state said a pilot program launched in October made $100 million available to vendors. The program doesn't cost the state any more money than if it paid vendors directly, Ms. Kraft said.

"If vendors who sign up for the program need $100 million or $500 million or $1 billion, we are confident we will have that money," Ms. Kraft added.

Illinois started pitching Wall Street on the program as early as October, noting that many vendors owed money are small and can't afford to wait. A small delegation, including a governor's aide and a Chicago banker, went to New York in October to pitch the program, according to people familiar with the matter. Small Illinois banks, and even an airplane leasing company, also have been briefed on the idea.

The state took its proposal to Goldman Sachs Group Inc., Fortress Investment Group LLC, Deutsche Bank AG, Citigroup Inc. and BlackRock Inc., according to people familiar with the matter. Representatives for the firms either declined to comment or didn't respond to requests for comment.

"This investment is a good risk/reward, and there is some altruism here," said Lowell Kraff, a founding partner at Trivergance LLC, a Chicago merchant bank that is an early investor in the program. In October, the pilot program paid out $310,000 that ultimately went to vendors. Trivergance said it hasn't been paid back yet but expects to be repaid by year end.

At least one prominent New York hedge fund passed on the opportunity, fearing that profiting from a cash-strapped state's taxpayers and small vendors would appear unseemly. Another of its worries: The state mightn't ultimately make good on its promises.

Click on Graphic to View

vulture

vulture

That isn't what the state says. Among the program's main selling points: "Illinois cannot declare bankruptcy and constitutionally must pay its obligations," according to investor materials.

Ms. Kraft said the program was largely inspired by complaints from vendors, who were being solicited to sell their debts at significantly less than face value. Some were being offered as little as 20 cents on the dollar, a person familiar with the matter said.

Youth Service Project, which helps 2,000 children on Chicago's West Side, had to lay off as many as five of its roughly two dozen employees earlier this year because of the state's delay in paying its bills. Kenny Martin-Ocasio, executive director of the group, is concerned about having to disrupt its services to children because of the $100,000 that the state owes it.

Mr. Martin-Ocasio said he welcomes the vendor-assistance program, even if it means investors are profiting on the state's financial woes. "It's the lesser of two evils," he said. "Any remedy to this fiscal illness is welcome."

—Amy Merrick contributed to this article.

Write to Mike Spector at mike.spector@wsj.com and Michael Corkery at michael.corkery@wsj.com

Permalink | Leave a comment  »

]]>
http://files.posterous.com/user_profile_pics/901008/rittereiser_cover.jpg http://posterous.com/users/1kLmE6z9UwQp Top Investors top investors Top Investors
Fri, 10 Dec 2010 21:20:00 -0800 Build America Bonds' End Poised to Batter Muni Market - Bloomberg http://topinvestors.posterous.com/build-america-bonds-end-poised-to-batter-muni http://topinvestors.posterous.com/build-america-bonds-end-poised-to-batter-muni

Build America Bonds' End Poised to Batter Muni Market

Build America Bonds’ End Poised to Batter Muni Market

The western span of the San Francisco-Oakland Bay Bridge. Photographer: Chip Chipman/Bloomberg

Dec. 10 (Bloomberg) -- California Treasurer Bill Lockyer discusses how the expiration of the Build America Bonds program would affect the state. The federal program subsidizing state and local government borrowing costs is set to expire at year-end unless Congress extends it. Lockyer talks with Margaret Brennan and Scarlet Fu on Bloomberg Television's "InBusiness." (Source: Bloomberg)

Dec. 10 (Bloomberg) -- Arkansas Governor Mike Beebe discusses the state's budget. Beebe speaks from Little Rock, Arkansas, with Margaret Brennan on Bloomberg Television's "InBusiness." (Source: Bloomberg)

The looming end of the federally subsidized Build America Bonds program may push up yields in the $2.8 trillion municipal securities market and put more financial pressure on cash-strapped states and cities, investors said.

Senate Democrats backing the subsidy, which has helped finance bridges, roads and other public works, fell short in a bid to get the program added to a bill extending the 2001 and 2003 income-tax cuts. That failure was the latest in efforts to keep the Build America program alive beyond its scheduled end on Dec. 31.

The securities, which carry taxable interest rates similar to corporate debt, have allowed state and local governments to access investors abroad and others who don’t buy traditional tax-exempt bonds. That has eased the supply of tax-exempt bonds and buoyed prices, which move inversely to yields, a trend that may reverse next year if the program is killed.

“It could get pretty ugly,” said Rob Novembre, managing director at Arbor Research & Trading Inc. in New York, who runs the company’s municipal-trading operation. “Whoever owns munis could potentially experience some pain.”

Build Americas were created under President Barack Obama’s stimulus legislation as a means of driving down borrowing costs for localities and funneling money to job-stoking construction projects. More than $179 billion of the securities have been sold since April 2009, funding clean-water projects in Ohio, highways in Kansas, dormitories at Rutgers University in New Jersey and a new bridge spanning the San Francisco Bay.

‘Great Success Story’

“The BABs program has been a great success story,” California Treasurer Bill Lockyer said in a statement today. “If Congress lets it expire, it will damage our economic recovery and inflict a multibillion-dollar injury on taxpayers, not just in California but in every state in the nation.”

California and local issuers in the state have sold about $36 billion of the taxable debt, he said. In an interview today on Bloomberg Television’s “InBusiness With Margaret Brennan,” Lockyer said the Build America program has helped create “tens of thousands of jobs.”

While Obama and Democrats have supported prolonging the program, they have run into opposition from Republicans critical of the stimulus package. Extensions have twice passed the Democratic-controlled House only to stall in the Senate, where the Republican minority has sufficient power to block legislation. The U.S. government pays 35 of the interest costs on Build America bonds.

Republicans Taking Control

With Republicans poised to take control of the House next month, local governments, banks and other advocates have pressed to extend the Build America program during the current so-called lame-duck session of Congress. Analysts including those at JPMorgan Chase & Co. had anticipated that a measure to prolong Bush-era rates would be the vehicle for Congress to extend it.

State and local governments, the U.S. Chamber of Commerce and representatives of the construction industry are among the program’s advocates.

The prospect of its end has weighed on the municipal bond market as public officials have rushed to borrow money at subsidized rates. The San Francisco Utility Commission, which plans to issue $350 million in Build America Bonds next week, put the securities to market months ahead of schedule to ensure it would capture the subsidy, said Charles Perl, deputy chief financial officer of the commission.

“We were trying to beat the clock, so we fast-tracked the financing to take advantage,” he said today.

Investor Concerns

Investors have expressed concern that traditional tax- exempt debt issuance might surge next year. That may push up the interest-rates investors demand to hold tax-exempt bonds. It would most heavily hurt long-dated bonds, where issuance of Build America securities was concentrated, investors said.

California’s Lockyer estimates the end of the program may push up tax-exempt yields by as much as a full percentage point, which he said could cost taxpayers nationwide as much as $30 billion in higher borrowing costs.

“This can’t be positive for the long end of the curve,” said Ed Reinoso, who manages $300 million as chief executive officer of Castleton Partners in New York. “It’s going to be a lot more expensive for issuers.”

The tax-exempt market is dominated by individual investors seeking income-tax breaks. Households own more than $1 trillion in municipal bonds directly, while almost $1 trillion more are held in mutual funds where individuals invest, according to the Federal Reserve Board.

Worst Month

Last month, tax-exempt bonds had their worst monthly returns of 2010 as rising U.S. Treasury yields and record state and local debt sales sparked withdrawals from mutual funds.

Tax-free securities lost 2.29 percent in November, the third consecutive monthly drop and the longest slide since 2004, according to the Bank of America Merrill Lynch Municipal Master Index, which accounts for price changes and interest income.

The failure by Congress to extend the Build America program may hurt taxpayers by pushing up the cost of financing local projects at a time when public officials are already wrestling with budget deficits, said Novembre.

“They could be putting their own voters in harm’s way,” he said.

To contact the reporters on this story: William Selway in Washington at wselway@bloomberg.net; Brendan A. McGrail at bmcgrail@bloomberg.net.

To contact the editor responsible for this story: Mark Tannenbaum at mtannen@bloomberg.net

Permalink | Leave a comment  »

]]>
http://files.posterous.com/user_profile_pics/901008/rittereiser_cover.jpg http://posterous.com/users/1kLmE6z9UwQp Top Investors top investors Top Investors
Fri, 10 Dec 2010 20:26:00 -0800 Mounting Debts by States Stoke Fears of Crisis http://topinvestors.posterous.com/mounting-debts-by-states-stoke-fears-of-crisi http://topinvestors.posterous.com/mounting-debts-by-states-stoke-fears-of-crisi

While next year could be even worse, there are bigger, longer-term risks, financial analysts say. Their fear is that even when the economy recovers, the shortfalls will not disappear, because many state and local governments have so much debt — several trillion dollars’ worth, with much of it off the books and largely hidden from view — that it could overwhelm them in the next few years.

“It seems to me that crying wolf is probably a good thing to do at this point,” said Felix Rohatyn, the financier who helped save New York City from bankruptcy in the 1970s.

Some of the same people who warned of the looming subprime crisis two years ago are ringing alarm bells again. Their message: Not just small towns or dying Rust Belt cities, but also large states like Illinois and California are increasingly at risk.

Municipal bankruptcies or defaults have been extremely rare — no state has defaulted since the Great Depression, and only a handful of cities have declared bankruptcy or are considering doing so.

But the finances of some state and local governments are so distressed that some analysts say they are reminded of the run-up to the subprime mortgage meltdown or of the debt crisis hitting nations in Europe.

Analysts fear that at some point — no one knows when — investors could balk at lending to the weakest states, setting off a crisis that could spread to the stronger ones, much as the turmoil in Europe has spread from country to country.

Mr. Rohatyn warned that while municipal bankruptcies were rare, they appeared increasingly possible. And the imbalances are so large in some places that the federal government will probably have to step in at some point, he said, even if that seems unlikely in the current political climate.

“I don’t like to play the scared rabbit, but I just don’t see where the end of this is,” he added.

Resorting to Fiscal Tricks

As the downturn has ground on, some of the worst-hit cities and states have resorted to fiscal sleight of hand to stay afloat, helping them close yawning budget gaps each year, but often at great future cost.

Few workers with neglected 401(k) retirement accounts would risk taking out second mortgages to invest in stocks, gambling that the investment gains would be enough to build bigger nest eggs and repay the loans.

But that is just what Illinois, which has been failing to make the required annual payments to its pension funds for years, is doing. It borrowed $10 billion in 2003 and used the money to invest in its pension funds. The recession sent their investment returns below their target, but the state must repay the bonds, with interest. The solution? Illinois sold an additional $3.5 billion worth of pension bonds this year and is planning to borrow $3.7 billion more for its pension funds.

It is the long-term problems of a handful of states, including California, Illinois, New Jersey and New York, that financial analysts worry about most, fearing that their problems might precipitate a crisis that could hurt other states by driving up their borrowing costs.

But it is the short-term budget woes that nearly all states are facing that are preoccupying elected officials.

Illinois is not the only state behind on its bills. Many states, including New York, have delayed payments to vendors and local governments because they had too little cash on hand to make them. California paid vendors with i.o.u.’s last year. A handful of other states, worried about their cash flow, delayed paying tax refunds last spring.

Now, just as the downturn has driven up demand for state assistance, many states are cutting back.

The demand for food stamps has been rising significantly in Idaho, but tight budgets led the state to close nearly a third of the field offices of the state’s Department of Health and Welfare, which take applications for them. As states have cut aid to cities, many have resorted to previously unthinkable cuts, laying off police officers and closing firehouses.

Those cuts in aid to cities and counties, which are expected to continue, are one reason some analysts say cities are at greater risk of bankruptcy or are being placed under outside oversight.

Next year is unlikely to bring better news. States and cities typically face their biggest deficits after recessions officially end, as rainy-day funds are depleted and easy measures are exhausted.

This time is expected to be no different. The federal stimulus money increased the federal share of state budgets to over a third last year, from just over a quarter in 2008, according to a report issued last week by the National Governors Association and the National Association of State Budget Officers. That money is set to run out next summer. Tax collections, meanwhile, are not expected to return to their pre-recession levels for another year or two, given that the housing market and broader economy remain weak and that unemployment remains high.

Scott D. Pattison, the budget association’s director, said that for states, next year could be “the worst year of this four- or five-year downturn period.”

Permalink | Leave a comment  »

]]>
http://files.posterous.com/user_profile_pics/901008/rittereiser_cover.jpg http://posterous.com/users/1kLmE6z9UwQp Top Investors top investors Top Investors
Fri, 10 Dec 2010 20:24:00 -0800 The Fear Factor in the Muni Bond Market http://topinvestors.posterous.com/the-fear-factor-in-the-muni-bond-market http://topinvestors.posterous.com/the-fear-factor-in-the-muni-bond-market

Is the great municipal bond apocalypse finally upon us?

The panicky-looking dip in municipal bond demand this week makes it look imminent. According to Reuters data, cities and states canceled $3 billion in planned bond sales, or more than 10 percent of the $24.4 billion of issues in the pipeline.

At the same time, prices have been falling rapidly, with investors demanding roughly half a percentage point more in yield than they did earlier this month because they perceive that risk has risen significantly in the past two weeks.

Add to this that municipal bond funds have shown themselves averse to pouring more money into the bonds, and it is no wonder at all that many traders are wondering whether the bottom is finally falling out from the municipal  market. Municipal bonds, after all, represent the relative health of America’s cities and states, and in these recessionary times there are fair concerns about whether all can meet their obligations — particularly strapped California.

And add to all of this that Chris Whalen, the founder of Institutional Risk Analytics, predicted that California would default on its debt, as would many other cities and states — and no bailouts would be forthcoming.

It may not be the end, however — yet. According to Chris Mauro, director of municipal research for RBC Capital Markets, municipal bonds are not crashing right now.

What municipal bonds always had going for them were low default rates and solid credits. A study by Fitch Ratings once pegged the long-term default rate for the bonds as 0.25 percent. Because cities and states rarely defaulted on their debt, municipal bonds won a reputation as a safe haven for investors even in recessions. That much has not changed — somewhat incredibly, considering that the financial crisis has struck so deep and that the municipal bond market is so large (Roubini Global Economics estimates its size at $2.7 trillion).

Mr. Mauro argues instead that municipal bonds are being buffeted by what analysts call technical issues: a big imbalance between supply (and lots of it) and demand (currently not so hot).

“I don’t deny there are some significant issues relating to the health of state and local governments,” Mr. Mauro said. But right now, he said, “the fiscal problems at the state and local level won’t be apparent to everyone until we see what next year’s budget proposals have in store.”

Mr. Mauro argued that no news had emerged to make investors rethink municipal bonds. Cities and states are no worse off, financially, than they were Nov. 8 before municipal bonds started to take a hit.

In fact, Mr. Mauro does not expect any big reckoning in municipal bonds until at least February, when many cities and states start quarreling about their planned 2012 budgets.

So what’s hitting the municipal market now? Look to a last-minute stampede in a rival form of bonds that cities and states just simply like better right now.

There is a huge investor rush toward popular Build America Bonds, the year-old program to help municipalities sell taxable bonds. The Build America Bonds program encourages cities and states to issue debt by refunding them 35 percent of the cost of selling bonds. In only a year, Build America Bonds have come to represent 20 percent of all new bond issues by cities and states. The Build America Bonds program is set to expire in just a few weeks unless Congress intervenes. That is creating a rush of supply by cities and states, which want to rush to issue them, and investors, who want to hurry to buy them.

Some estimates put the rush of Build America Bonds at $40 billion — a daunting amount of supply to come to market in only six weeks.

Of course, even if the municipal bond market as a whole does not collapse, that still does not help beleaguered California. The state is trying to sell $14 billion of municipal bonds to market but has been stymied by lawsuits. Meanwhile, its budget deficit is growing every day. For problems like that, the municipal bond market has no easy answers.

Permalink | Leave a comment  »

]]>
http://files.posterous.com/user_profile_pics/901008/rittereiser_cover.jpg http://posterous.com/users/1kLmE6z9UwQp Top Investors top investors Top Investors