Munis Make the Big Time

Muni-market readers don't have to look far in the mainstream press to find an article of interest this morning -- The New York Times placed its piece on the alleged disparities between the muni and corporate rating scales in the lead-story slot:  top right corner of page A1, beating out the latest on both the U.S. and Russian presidential elections.

The article is a pretty fair overview of a difficult topic, although in setting up its core conflict -- between issuers like California Treasurer Bill Lockyer who are arguing for a re-evaluation of municipal ratings and the muni-specific raters and investors who favor the current more graduated system -- it does leave out the shadowy role that bond-insurance short-sellers played in pushing this debate to the forefront.  In their analysis, if the vast majority of muni bonds are rated double-A or higher, there would be no role for municipal bond insurance -- and another black mark against the insurers' troubled stocks.

Personally, I still believe it would be disastrous for the average investor if the rating agencies adjusted their muni criteria solely in response to these complaints, although my fervor has dimmed a bit in the last couple of months, as issuers with bonds insured by FGIC or XL Capital suddenly found their variable-rate demand obligations becoming non-money-market eligible.  If there are going to be distinct rating scales, then the SEC's Rule 2a-7 should incorporate that -- if it doesn't, and VRDO remarketings continue to fail, the pressure for ratings relief will only intensify.

But at a moment in time when the raters' corporate scales (at least on structured-finance deals) are being criticized for being too loose, it boggles the mind that they'd be feeling pressure to relax their standards in a different market.

S&P's Colleen Woodell offers another response that's also pretty effective:  It boils down to a truism of finance -- You don't drive looking in the rear-view mirror, and the raters don't rate just on historic performance. With the challenges on the horizon for munis, from retiree health care costs to surging infrastructure replacement needs, other risks may be looming.

Stay tuned.

-- Mike Stanton (Michael dot Stanton at Sourcemedia dot com)

Buffett's Backing Bonds: Good for the Model, Bad for the Incumbents?

The Wall Street Journal this morning reports that Warren Buffett, who had been rumored as a potential investor in one of the existing bond insurers, today will launch his own municipal-bond insurer, Bershire-Hathaway Assurance Corp., domiciled in New York. 

The announcement raises at least as many questions as it answers, including:

• What does this say about the incumbents in the industry?
  
• Where will BHAC operate?
  
• What will they be rated and how soon? 
  
• How much will he really write? / How much more will he commit? 
  
• Will he reinsure? 

Read the jump for my gut-reaction answers to these questions.  As always, please voice your disagreements in comments!

-- Mike Stanton, Publisher (Michael dot Stanton at SourceMedia dot com)

Deputy Mayor, You're No Bob Moses

Crain's New York Business Editor Greg David reports that the debate is on over departing New York City Deputy Mayor Dan Doctoroff's legacy, and whether he will ultimately be remembered as more important to the city than Robert Moses.

Just reading the question had me breaking out my Lloyd Bentsen impersonation.

This is awkward, because I'd normally rise to praise Doctoroff, not to bury him (even though he's departing to join a competing financial news service). [subscription article]  Without endorsing all or any of his projects, you can observe that he holds a fascinating vision for the city that is genuinely driven out of a concern for maintaining and expanding its strengths -- particularly its infrastructure and economy.  The energy he's brought to that cause over the past six years has been remarkable, as has his doggedness.  In an increasingly toxic political environment, where policy debates quickly devolve into personal attacks, Doctoroff has been willing to take the heat.

But you're treading on sacred ground when you start to compare anyone to "The Master Builder."  It's a bit like comparing Carlos Beltran to Willie Mays.  Beltran might be the best center fielder of his generation, but Mays is, well, Willie Mays, the greatest of all time.  And this is coming from a Met fan!

Doctoroff and Moses truly played in different eras.  No one will match Moses' 50-year span as New York's pre-eminent power broker, and many would argue that no one should.  Doctoroff's six years in City Hall were productive, and the policies he put in place will likely play some role in shaping the city's landscape over the coming years, but his concrete accomplishments remain light. (pun intended!)

Doctoroff supporters know this.  His once and future boss, Mayor Mike Bloomberg kept the order right when he said yesterday that Doctoroff "has done more to change the face of this city than anyone since Robert Moses." [italics mine]  The NY Times raised the stakes in their front-page story on his departure, with a lead that put him on an equal footing with Moses.  Now, we're debating whether he should rise higher in the pantheon (although, my last review of the Crain's site found little support for that proposition).

It's a testament to the essential nature of Moses' projects that today we tend to think that landmarks like the Verrazano-Narrows Bridge were always there, and forget the force of personality and ingenuity required to get them done.  Doctoroff has strung together had a solid few seasons.  He earned his new contract.  But Moses shouldn't expect company in his wing of the Hall of Fame any time soon.

-- Mike Stanton, Publisher
Michael dot Stanton at SourceMedia dot com

"We Give Thanks for the Deep Pockets of Our Parent"

An unusual Thanksgiving-Day press release alerts us to the fact that:

CIFG ANNOUNCES PLAN TO DOUBLE CLAIMS-PAYING RESOURCES; FITCH AFFIRMS TRIPLE-A RATING;
Natixis Controlling Shareholders to Provide $1.5 Billion in Capital Support

It's a bit surprising they didn't wait until Monday to make the announcement, when many more people will be at their desks to receive it and appreciate the news.  But given the recent scarcity of "good-news" stories about the financial guarantors, this won't pass unnoticed when the market gets back to work next week. 

The Fitch affirmation is welcome news, of course, but the big payoff will be if this move -- along with the management reforms CIFG has adopted over the last six months -- is enough to convince Standard & Poor's to erase the "negative outlook" it slapped on the insurer's triple-A rating back in June.

Click below for the complete release

-- Mike Stanton, Publisher

UPDATE:  Maybe putting the news out on Thanksgiving wasn't as crazy as I thought -- thanks to the slow news day, CIFG landed a coveted slot above-the-fold in the Wall Street Journal's "What's News" summary.  [subscription required]  Meanwhile, the NY Times also picked up the story, on Page D2, with a different angle:  That the recapitalization actually represents a buyout of CIFG from Natixis by the venture's parent companies.  [free article]  That angle wasn't in the CIFG release, but appears to come from a joint statement by the parent banks first cited by Bloomberg.

And That's A Bad Thing?

Populist New York Daily News columnist Juan Gonzalez is up in arms over the cash waterfall in the deal to finance new parking garages at the new Yankee Stadium:

In other words, after the bondholders get theirs, after all the management fees for the garages and employee salaries and the maintenance and overhead is taken care of, then and only then will city taxpayers see a dime for all the land and financial support given to the new Yankee Stadium garages.

So the bondholders are putting up the money to build the garages, and they'd like to be repaid?  How greedy?

I have nothing but respect for social critics who want to engage in the battle over whether the United States devotes an absurd amount of public resources towards building sports facilities.  We do. 

But against that backdrop, the deals to build the new baseball stadiums in New York City are remarkably favorable to the public (one of the major reasons why they were awarded The Bond Buyer's Deal of the Year award last year).  Yes, the private sector gets paid, but that's because it's taking the risk.  On balance, not the worst tradeoff...

The Economist: No More Muni Nukes

In a generally favorable story about the prospects for nuclear power to make a comeback in the US as the nation looks to expand and replace its existing power plants while also trying to reduce greenhouse gas emissions, The Economist magazine offers this cautionary note:

One of the reasons why the public turned against nuclear power last time round is that it found itself bailing the industry out. It would be wrong, not just for taxpayers but also for the industry, to set up another lot of cosy deals with governments. The nuclear industry needs to persuade people that it is clean, cheap and safe enough to rely on without a government crutch. If it can't, it doesn't deserve a second chance.

Personally, I think public opposition to nuclear power began at Three Mile Island and ended wth Chrenobyl.  Activists try to scare small children with tales of physical meltdowns, not financial ones.  The Economist's all-powerful editors prefer a carbon tax that makes Nuclear's economics stand up to fossil fuels', which sounds like a more elegant option, but in the absence of that action, direct government support could be a useful lever to get these pojects off the ground...

Endangered Disclaimers?

In the corporate world, the following statement would be a kiss of death for a borrower:

In our opinion ... the financial statements referred to above do not present fairly in conformity with generally accepted accounting principles, the financial position of the County ...

But in today's municipal market, it can be immediately offset by an assertion like this:

However, in our opinion, the statutory basis financial statements referred to above present fairly, in all material respects, the financial position of the County of Essex ... in accordance with accounting principles and practices prescribed by the Division of  Local Government Services, State of New Jersey.

In other words, in a showdown between the Governmental Accounting Standards Board and the State of New Jersey, the Garden State wins -- even when the auditor acknowledges that "the Governmental Accounting Standards Board is the recognized standard setting body for establishing governmental accounting and financial reporting principles."

It's not entirely fair to single out Essex County here -- most, if not all New Jersey issuers follow the same accounting procedures.  This is not a case of an issuer looking to re-write the accounting rules to void disclosing expensive future liabilities:  The POS includes three pages outlining the differences between GAAP accounting and the NJ Division of Local Government Services' rules.  They're technical.  Very technical.  [Interested bidders can find the entire POS via this site, and the county's summary notice of sale is available from The Bond Buyer here] 

But the fact that these disclaimers exist -- and that issuers appear to pay no price for them -- provide great illustrations both of why SEC Chairman Christopher Cox's proposal that municipal issuers be required to abide by GAAP accounting makes so much sense on the face of it ... and why it's going to be difficult to get that change adopted and implemented.

As well-intentioned as New Jersey's own guidelines may be, the catchphrase from the "Highlander" movies comes to mind:  When it comes to setting standards for governmental accounting, "there can be only one."  Why should investors be forced to wade through those three dense pages on accounting rules in order to make sense of the numbers?  And standardization would be only more crucial if a centralized municipal disclosure database is created -- another key Cox proposal.

On the flip side, re-writing the financial statements for issuers who have abided by local laws for years is going to be expensive, and in the absence of evidence that the differing standards are aiding and abetting fraud, it's not unreasonable for local officials to ask whether the cost is justified.

Who'll blink first?

The Opposite of Exuberance

Stock investors continued to be -- how to say this politely? -- mercurial in their responses to the credit woes in the subprime marketplace yesterday, as illustrated by the early-morning action in Ambac Financial Group's stock, which gapped down more than five points before recovering almost as quickly.  It's the kind of chart that, if witnessed in municipal trading, would spark calls for SEC investigations and widespread investor-protection "reforms." 

Meanwhile, not to turn this into a charting site, but ACA seems to have turned a corner after its earnings call yesterday:

The Soft Bigotry of Low Investor Expections

One of the ongoing themes of news coverage of the subprime market is the concept that investors in high-rated CDOs backed by subprime mortgages "didn't know what they were getting."  Sunday's New York Times contains a particularly egregious example [subscription article]:

Investors bought into the myth of highly rated securities even though their generous yields should have alerted them to risks.

Er, no.  Quite the opposite, actually -- the highly-rated securities carried generous yields because investors did recognize the risks, and demanded they be compensated for them.  Last I checked, Wall Street wasn't in the charity business.

Luckily, you can turn to The Bond Buyer for a more sober assessment of exactly how long the subprime market's tentacles reach:  In the case of municipal housing bonds, the answer seems to be:  Not far. [free article]

UPDATE:  The "free article" from The Bond Buyer is now free.  Sorry for any inconvenience.

Friday Thread: Albany Nostalgia

Amidst the growing storm between Governor Eliot Spitzer and Senate Majority Leader Joseph Bruno, former state Sen. D. Clinton Dominick wistfully recalls: 

My good old State Senate days when the triumvirate of Gov. Nelson A. Rockefeller, a Republican; the Democratic Assembly speaker, Tony Travia; and the Republican majority leader, Earl Brydges, agreed amicably and disagreed with civility.

Things got done.

Well, yes.  They just didn't get paid for.

Thanks to all who participated in our inaugural "Blog Dialogue" this week.  Nominations for future guest commentators should be directed to bondblogger-AT-sourcemedia-DOT-com

Short Takes - How Much Is That Toll Road on the Balance Sheet?

This morning's Wall Street Journal delivers a double-dose of criticism to pacesetting infrastructure investor Macquarie Bank, reporting on proxy advisory firm ISS's complaints about the bank's executive compensation structure, and repeating a knock on Macquarie's accounting practices by short-seller James Chanos of Kynikos Associates. [subscription article]  For those who don't recognize the name, a quick trip to Google news shows that Chanos is fairly widely described as being "known on Wall Street for predicting the collapse of U.S. energy trader Enron Corp."  Chanos' criticism rests on Macquarie's practice of re-valuing its assets quarterly -- and booking the gains as revenues, exposing the firm to a barren period should those values begin to slide.

Elsewhere, business editors who faced short-staffing limitations on the Fourth of July yesterday gave thanks for Blackstone Group's acquisition of Hilton Hotels. [free article]  That story can be covered without any reporters at all:  Simply call up a 1968 piece from their papers' archives and run the following macro:

• Find: ITT; Replace with:  Blackstone
  
• Find: Sheraton; Replace with:  Hilton
  
• Find: Conglomerate; Replace with:  Private-equity firm

I'll stop short of predicting that Stephen Schwarzman is the second coming of Rand Araskog, but you have to wonder how this decade's private-equity boom will be judged in 40 years...

Finally, China is planning to ban a million cars from Beijing's streets next month, in a dry run of its smog-management plan for the 2008 Olympics.  [free article]  Suddenly, congestion pricing looks a lot more reasonable...

Where Every Child Is Above Average, and Every Issuer Is Rated Triple-A

The charge on the Bloomberg News wire this morning was explosive:  The credit rating agencies cost U.S. taxpayers $3.6 billion "on bonds sold in 2006" by maintaining separate rating scales for municipal and corporate credits, even though studies show municipals are far less likely to default. [free article]

I think it's also false.  Here are my arguments.  I'd love to hear yours -- pro and con.

• The vast majority of tax-exempt bond investors use ratings to help them choose among tax-exempt bonds -- the rating scales for municipals and corporate may be apples and oranges, but so are the underlying securities.  "A triple-A should be a triple-A" is a nice populist rallying cry, but it doesn't reflect actual investor behavior.
       Right now, "natural" triple-As, like Maryland and North Carolina receive a comparative pricing advantage over lower-rated states like Michigan or Connecticut.  If the corporate scale was applied and a significantly larger number of states, cities, and other issuers were awarded triple-As, the dynamics of that advantage would shift:  Michigan and Connecticut could see lower yields, and Maryland and North Carolina would suffer.  But taxpayers in the aggregate would not benefit.
  
  
• The municipal bond ratings system is more finely calibrated than the ratings scales for corporate debt, but that is something to be celebrated, not criticized.  Adapting corporate scales to municipals would mean eliminating many of the current rating distinctions among municipal issuers, and would actually be a boon to sophisticated investors (who can invest in their own research to identify the relatively stronger credits) at the expense of individuals (who would have less information available to help them distinguish among credits). 
  
  
• Default is not the only risk that can harm investors.  One argument for the higher corporate-equivalent ratings for U.S. municipals is because of the likelihood of a taxpayer bailout when trouble strikes.  But the political road to those bailouts can be rutted and perilous -- just ask holders of bonds from Nassau County or New York City who tried to sell their bonds on the open market during the depths of those issuers' fiscal crises, before their taxpayer bailouts were organized.  They suffered real economic losses.  Those unique risks deserve a unique credit scale that can at least hint at the risk of such disruptions over the life of a bond issue.
       And avoiding disruptions like those are exactly why many investors prefer to buy triple-A insured bonds -- the insurance policy guards not only against default, but also insures the bonds will have liquidity during any periods of fiscal stress at the issuer level.  There's real value in that -- it's not evidence that "insurers are insuring bonds that don't need it."
  
  
• Finally, from a public-policy standpoint, the more finely calibrated municipal ratings encourage marginal but important improvements in governance and fiscal policy by issuers -- an outcome that does benefit taxpayers.  Wider distribution of  triple-A ratings would create complacency, giving rise to a "moral hazard" that, ironically, would actually increase the incidence of fiscal stress among municipalities.

Far from being accused of some vaguely nefarious "double talk," Moody's should be celebrated for shedding light on the discrepancies and providing the tools for investors to make their own judgments.  The process is not finished -- as "non-traditional buyers" become a more important influence on U.S. munis (weighing them directly against taxable securities rated on other scales), the importance of my first argument could be eroded.  And there are a lot of arguments to be made about whether the municipal market is as efficient as it could be (or if there are better alternatives).  But there is no evidence that the current rating methodologies alone are costing taxpayers billions, and it's damaging to contend otherwise.

-- Mike Stanton, Publisher (Michael dot Stanton at sourcemedia dot com)

Elsewhere on the Web: Smart OPEB Coverage

I continue to be pleasantly surprised by the generally in-depth, and non-inflammatory coverage the general-circulation press has been bringing to the issue of municipal retiree health-care liabilities (commonly known by their accounting acronym, OPEBs, or Other Post-Employment Benefits).  The Marin Independent-Journal is the latest addition to this list, with a thoughtful piece that illustrates the problem (one sewer agency is facing a 200% jump in OPEB outlays by 2020), and a detailed analysis of the tradeoffs that municipal employees and employers made in assembling the current system.

The solutions to the problem (which may include bonds) are not simple, but cool-headed education like that provided in the article seems like a good first step towards solid policy decisions.

The State of Maine is also looking at its long-term liabilities, in this case seeking to dedicate new funding sources for highway construction as gas-tax revenues stagnate.

Elsewhere on the Web: Bond Inequality

With April 15th just around the corner, personal-finance columnists across the country have rediscovered the fact that municipal bonds are tax-exempt. Most of those pieces are too formulaic to merit a link, but an original take on that angle comes in this San Francisco Chronicle story, which has subsuquently been published in the Seattle Post-Intelligencer and in other cities, looking at potential impacts of a Federal tax-law change that requires payers to report tax-exempt interest to the IRS. 

Tomorrow's Bond Buyer Today:  At some point in the next 18 months, we're going to have a fascinating article on the gap between the amount of tax-exempt interest reported by payers on these new 1099-INT forms, and the amount reported by recipients on their 1040 forms.  Here's betting that the rates of "voluntary compliance" are found lacking...

Meanwhile, Crain's Cleveland Business looks at the foreclosure epidemic spreading across northern Ohio, and discusses efforts by Cuyahoga County and the state to combat it, including Ohio Housing Finance Authority's $100 million anti-foreclosure bond package.

And from overseas, The Japan Times reports on a study from Japan's Internal Affairs Ministry that measures per-capita debt sales by Japan's "1,844 city, ward, town and village governments nationwide as well as the 47 prefectural governments."  The study found a huge disparity in relative indebtedness, with poorer communities bearing higher debt loads, leading to talk of the central government possibly assuming debts or responsibility for services.  It would be fascinating to see a similar study domestically (hint, hint...)