Municipal bond default or massive tax hike wave looming.

[RandomGuy]

We have bailed out the banks.

We will probably bail out the auto industry.

The cities and states are next.

Due to the mechanism under wich most city and state bonds have been issued, rates are rising rapidly, and repayment periods are shrinking, making total cash requirements for city and state issued debt skyrocketing.

Imagine you take out, say, a $10,000 car loan on similar terms as cities and states get on their bonds, 20 year re-payment schedule, and 4% annual interest.

Your payments are $60.60 per month.

Now imagine there is a clause in your contract that says that if the bank gets in trouble, they can accelerate the repayment and jack up the interest rate.

This happens on the first month of the fourth year of your loan. You still have $8958.91 of principal left in the loan, but the new terms are:

7 years to repay and a 7% rate.

Your payments have now more than doubled from $60.60 per month to $135.21 per month.

If you are on a tight budget, as many cities and states are, your cash requirements of your bonds will crush you, unless you either raise taxes, default, or get a bailout from the federal government.

Ooops.

Read more here:
Municipalities Squeezed In Bond Market (http://www.npr.org/templates/story/story.php?storyId=96743141)

WHEEEEE!!!

And by "whee" I mean "aw crap."

[2centsworth]

Article failed to mention what percentage of municipals are variable rates. I would venture to bet a small percentage. Additionally, Municipal Insurance has always been viewed as somewhat of a scam because as the article stated less than 1% have defaulted. Think about it, it's hard to default when you have taxing authority. Of the 1% of defaults I would also say that a large percentage were revenue bonds.

Anyways, munibond rates are relatively low and I don't see that much risk in them. I don't believe we'll see massive defaults or tax increases for the reasons mentioned above.

[RandomGuy]

Article failed to mention what percentage of municipals are variable rates. I would venture to bet a small percentage. Additionally, Municipal Insurance has always been viewed as somewhat of a scam because as the article stated less than 1% have defaulted. Think about it, it's hard to default when you have taxing authority. Of the 1% of defaults I would also say that a large percentage were revenue bonds.

Anyways, munibond rates are relatively low and I don't see that much risk in them. I don't believe we'll see massive defaults or tax increases for the reasons mentioned above.

It is generally hard to default when you have taxing authority, but if new taxes have to be passed by public votes, it is just as hard to raise taxes.

I think the percentage of recently issued municipal bonds that have such variable rates is fairly high.

Philidelphia is a fairly major city, and I don't imagine that they are alone in their predicament.

There is also the fact that a lot of cities rely on short term "tax revenue anticpation" loans to smooth out spending, in which they borrow an amount of money in say, December, to smooth out spending for the next month, when tax revenues come in at the end of January.

The short term market debt market has seized up as well.

[RandomGuy]

http://www.latimes.com/business/printedition/la-fi-muni22-2008nov22,0,388822.story


The government agencies at risk issued a hybrid municipal bond known as a variable-rate demand note. The payouts on many of these issues have been driven sky-high by the credit crisis.

The situation prompted California Treasurer Bill Lockyer and 19 municipal treasurers to ask Friday for an emergency Federal Reserve program to restore liquidity to the malfunctioning market and force rates back down.

There is California, and at least 19 other municipalities that have issued such debts...


The Los Angeles Metropolitan Transportation Authority, for example, says the rate it is paying on $132 million in variable-rate notes has soared to as much as 12%, from as little as 1%. That's a difference of as much as $1.2 million in interest a month. The MTA says it may also have to pay $50 million to retire interest-rate swaps it purchased to hedge against interest-rate changes on the original notes.

When variable-rate notes were first developed in the 1980s, they looked like a good deal for issuers as short-term interest rates in the municipal market consistently undercut long-term rates by as much as 3 percentage points. On a $5-billion bond issue, that difference would mean savings for taxpayers of $150 million a year.

Between 1999 and 2007, states and municipalities across the country issued $420 billion in variable-rate notes, Lockyer's office said. California municipalities and the state itself have more than $60 billion of such bonds outstanding.

"Over the years, they saved us a lot of money," Deputy California Treasurer Paul Rosenstiel said in an interview. "It was a prudent thing to have a certain amount of our debt at a variable rate."


If you read the rest of the linked article it spells out a few more specific government entities in California (the article is from the LA times) that are exposed to this.

[RandomGuy]

From a St. Louis newspaper article about an local investment firm that still believed in this kind of debt as late as September, but is probably re-thinking that strategy in December... (http://www.stltoday.com/stltoday/business/stories.nsf/developmenteconomy/story/D057E30802222825862574BB00093AD4?OpenDocument)


Marquette General Hospital, based in Marquette on Michigan's Upper Peninsula, had a $37 million auction-rate bond issue used to finance improvements to the hospital building in 2006. Because the bonds couldn't be repriced, the hospital suddenly had to pay a much higher interest rate, adding up to $100,000 in extra interest every week

[RandomGuy]

http://www.nashvillecitypaper.com/news.php?viewStory=64155

Nashville:
Metro forced to remedy $59M in bonds


A potential loan agreement between Metro and the Clarksville Public Building Authority came after a German bank had its rating downgraded, leaving Metro looking at a ballooning repayment rate on $59 million in variable-rate bonds.

When the German bank DePfa had its rating downgraded during the global financial crisis in September, the bonds were converted to bank bonds and the repayment schedule went from 18 years down to seven.

[RandomGuy]

http://www.sec.gov/news/testimony/2008/ts031208ers.htm

SEC testimony before congress in March about the problem. Lot's of good figures there.

I wonder what San Antonio's exposure is?

[RandomGuy]

The week's biggest sale, by Municipal Gas, is the second since December that will raise money for the agency to prepay for natural gas deliveries. JPMorgan's commodities department is also selling the gas. The $1.9 billion of bonds will pay a variable interest rate. Bob Murphy, executive director of Municipal Gas, said the debt will be priced tomorrow.

The agency plans an interest-rate swap agreement with JPMorgan. Municipal Gas will pay JPMorgan a fixed rate of interest on the bonds, while the issue's purchasers will receive a variable rate from JPMorgan tied to a weekly index of municipal borrowing rates and the London interbank offered rate, Murphy said.

San Antonio, California's Sacramento Municipal Utility District and Nebraska's Central Plains Energy Project are among those that have sold municipal bonds and used the proceeds to buy natural gas under prepaid contracts. The sales have been spurred in part by favorable rulings by the Internal Revenue Service affirming the tax-exempt status of the sales, as well as the discounts buyers can wrest from suppliers by paying in advance, said Standard & Poor's analyst Chinelo Chidozie.

Doesn't say if the bonds sold were variable, or even if SA used bond money to pre-pay. Hmm.
http://www.bloomberg.com/apps/news?pid=20601009&sid=azQs2H.uEmGQ&refer=bond

[RandomGuy]

http://texas.bondbuyer.com/article.html?id=20071119LRCCUW4A&from=home

(Page does not seem to allow copy/paste, so here is my transcribed summary)

Nov 2007

SA issues about $550 million in bonds, and they are all 20 year fixed rate bonds.

Looks like SA dodged a bullet with this one. YAY!!

[2centsworth]

Between 1999 and 2007, states and municipalities across the country issued $420 billion in variable-rate notes, Lockyer's office said. California municipalities and the state itself have more than $60 billion of such bonds outstanding.

Muni Bond Market is up in the several trillion dollar range. I can see California having the problem, because they were willing to try anything to finance operations.

anyways, I don't disagree that tougher times are ahead. nevertheless, 2cents likes muni bonds.

[RandomGuy]

Muni Bond Market is up in the several trillion dollar range. I can see California having the problem, because they were willing to try anything to finance operations.

anyways, I don't disagree that tougher times are ahead. nevertheless, 2cents likes muni bonds.

Confirmation bias at its worst.

"I don't like California because they are liberal, so I will convince myself, despite being given evidence to the contrary, that this problem is confined primarily to California."

:rolleyes

Keep up with that kind of logic and see where it gets you. It is your money after all, but let us know how it works out.

[2centsworth]

Confirmation bias at its worst.

"I don't like California because they are liberal, so I will convince myself, despite being given evidence to the contrary, that this problem is confined primarily to California."

touchy. the evidence you gave was approximately $400bil in this debt. That's less than 10% of all outstanding munibond debt. Then you go on to say California represents 15% of the variable rate issuers. The fact they are in financial trouble doesn't surprise me they would go with such a short-sighted strategy.

now if my responses don't fit your political agenda, sobeit, but I'm going to call it like I see it. Especially since I know a tinsy winsy bit about municipal bonds.


Read your SEC link and their figures are a little different. they have total oustanding a 2.4trillion and auction rate/variable rate at 325-350bil. So, 15% and not 10% may be a better figure. However, now it shows California as having 1/5 of the total outstanding auction rates/variable rate munis.

just more conservative bias I guess.:rolleyes






Keep up with that kind of logic and see where it gets you. It is your money after all, but let us know how it works out. you can't read beyond your own bias. I'm just trying to have a conversation.

[Anti.Hero]

All the people who played by the books and looked out for themselves, i.e. discipline-sacrifice-etc, should get a free state out of this where they can continue a happy moron-free life.

Morons elect morons who take care of morons. That system sucks.