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Muni Week Review / Preview 7/27/2015

Monday, Jul 27, 2015

PREPA OFFERS BONDHOLDERS MORE CLARITY…STATE OF MICHIGAN UPGRADED…CHICAGO RISKS…

Some Clarity From PREPA… With five weeks left to reach consensus on $8 billion PREPA debt by Sept 15, both sides agree that debt payments will be delayed or reduced.  What that will mean to bondhold-ers is still a matter of speculation, however it seems a worst case scenario of 65% to 70% of par has been established.  PREPA offers two options to non-forbearing bond-holders: (i) bondholders could tender unin-sured bonds for National Public Finance Guaranty or Assured Guaranty insured bonds at 65% to 70% of par carrying possi-bly a 6% interest rate. PREPA’s tender offer sets to rest unfounded speculation and signals a value for the bonds.  (ii) Unin-sured PREPA bondholders would have the option to join forbearing bondholders in an exchange at par into a series of new turbo bonds with scheduled principal payments and a portion of interest delayed five years subject to prepayment from excess cash flows.  The turbo bonds would pay 1% cash interest deferring the remainder contract interest up to five years.  No changes for currently insured bonds.  Still too early to decide best recovery prospects as negotia-tions continue.

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Forbearing Creditors Ask For More… Major creditors suggest the following reso-lution:  two Tranches of “AAA” rated bonds with $5.7 billion Tranche A paying 4% interest only for the first three years and $2.4 billion Tranche B being a zero-coupon type bond maturing in 2043 are sought by for-bearing bondholders in exchange for legacy $8.1 billion power revenue bonds. Alternatively, a 2-year moratorium on legacy debt service during which the legacy bonds accrue a 3% premium is also acceptable to forbearing bondholders. This plan could eventually result in full recovery based on face.  More to come.

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Where Do Both Sides Stand… Forbearing creditors’ proposal tacks on higher electric rates unpopular on the island although cred-itors believe they have a “win-win compro-mise” that provides debt relief sought by the island. Assured Guaranty believes that a properly structured securitization transac-tion could help the recovery plan as creditors work toward a consensus.  Bond insurers, Assured, National and Syncora insure $2.6 billion of PREPA’s $8.1 billion bonds. A pivotal role in the negotiations is in the hands of bond insurers. The forbearance agreement ends September 15 and without an extension PREPA must form a pact to avoid a court appointed receiver.

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PREPA Bond Market… With more clarity at hand, lowest recovery rate estimates 65% to 70%, the market reacted favorably. PREPA bond prices elevated to high 50’s from high 40’s in the prior week.  As the market reckons the progress of the talks, spreads on PREPA bonds narrowed. PREPA bonds remain speculative as many risks remain while consensus is sought.

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Moody’s On Puerto Rico... Prior to the release of financial terms related to PREPA’s recovery, Moody’s published a report assessing the probability of default approaching 100%. Moody’s assumes the island will seek to restructure debt in a consolidated fashion affecting all bond-holders to varying degrees.  The Common-wealth had clarified on a July 13 investor call that issuing entity finances would determine the need for restructuring. Moody’s said that default bondholder recoveries “will be lowest on securities lacking explicit contractual or other legal protections.” Moody’s also speculated the least secure issuers with no legal access to ded-icated revenues could see settle-ment offers as low as 35%.

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Puerto Rico Water Utility Plans Bond Sale... Aiming for $700 million new water bonds by August 31, Puerto Rico’s water utility expects to fuel its capital improve-ment plan and repay short term bank lines of credit also due August 31. A 60% rate increase in 2013 has created a cushion for PRASA. PRASA bonds rated Moody’s “Caa3”, S&P “CCC-”, Fitch “CC” which rallied after the island’s advisor told bondholders “We think PRASA should be able to meet its existing financial commit-ments without modifications.

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Chapter 9 Not The Answer… “Since Chapter 9 is unlikely to be a viable way to achieve a consoli-dated restructuring of all the com-monwealth's debt, bankruptcy authorization would not be suffi-cient, by itself, to manage Puerto Rico's current pressures” stated Moody’s who thinks Congress could take action to support Puerto Rico besides giving it the ability to use the U.S. Bankruptcy Code, like a federal financial control board or amendments to the Jones Act, which mandates Puerto Rico use expensive U.S. ships for ship-ping activities.  Companion bills allowing Puerto Rico to file for bankruptcy face steep odds of becoming law as stand-alone bills. The measures may gain support if other options such as placing the island under a financial control board, are combined. Most U.S. Congressmen oppose retroactively changing rules on bondholders.

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Michigan Upgraded… Michigan’s credit rating was raised by Moody’s Investors Service by one step to “Aa1”, just below the highest ranking, because of the state’s improving finances reflecting “growth in the state’s rainy day fund, bolstered by a strong tax revenue trend,” and “moderate debt and pension burdens.”  

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State Help Welcome Credit Pos-itive For Wayne County… Michigan Governor Rick Snyder declared a financial emergency on July 21 in Wayne County bringing state oversight to Wayne County. Now the county has more room in labor negotiations to cut costs. Entering into a consent agreement with the state, as sought by the county executive, empowers cutting employee wages and retire-ment benefits without the express consent of labor groups not cur-rently under active contract. The single largest piece of Wayne County’s financial recovery plan released in May is annual pension costs. Pension cost adjustments, along with a proposal to increase employee contributions to defined benefit plans could bring signifi-cant savings to the county. Although the county has worked to reach a deal for these changes in new labor contracts, a consent agreement would obviate the need for employee bargaining units to agree to the new terms.  A consent agreement opens new possibilities for the unfinished Wayne County jail as the Governor’s staff is in talks with Dan Gilbert of Quicken Loans to sell the unfinished jail along with the legacy Guardian building for $150 million.  The jail would be moved to repurpose prime urban land for commercial use. Possible state intervention was recognized “credit positive” by Moody’s on July 16.

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Chicago Carries Downgrade Risks Not Payment Risks… Chicago will appeal to the state supreme court after an Illinois judge ruled that a plan easing the city's $20 billion public-worker pension deficit is illegal.  Standard & Poor’s said it would probably lower the city’s rating again if a solution isn’t found.  Wells Capital is increasing its exposure to the junk-rated metropolis, while PIMCO said this week it sees long-term value in the city's debt. “Our big point is not that the city and its finances are necessarily on a very short-term upward trajectory, but that investors are being paid to be there,” said a portfolio manager at Wells Capital who manages half a billion dollars of Chicago munis. “Despite its pension overhang, Chicago remains a dynamic city with sufficient revenue capacity to meet its steep fiscal challenges in the coming years,” said a PIMCO analyst.  It's hard to believe that Chicago won't find a solution, whether it's cutting spending or  raising taxes or fees to “rehabilitate their credit profile,” echoed institu-tional investor Van Eck.

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Information obtained from sources deemed reliable; GMS does not purport Review/Preview contains all available information.

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