Puerto Rico Debt Extends Slump Before Governor Vote: Muni Credit

Puerto Rico Governor Luis Fortuno
Puerto Rico Governor Luis Fortuno balanced the budget for the year through June 2013 with $333 million of borrowing and $600 million of debt restructuring that pushes principal and interest payments to future years. Photographer: Andrew Harrer/Bloomberg

Debt of Puerto Rico, with a credit rating lower than any U.S. state, is in its deepest slide in 20 months, less than four weeks before elections that may unseat a governor who championed cost cuts and trimmed budget deficits.

The commonwealth’s bonds, which are tax-exempt in all U.S. states, are on pace to lose money for a third straight month, the longest slump since January 2011, Standard & Poor’s indexes show. The declines threaten to end a three-year span in which the island beat the rest of the $3.7 trillion municipal-bond market. The extra yield investors demand on 10-year Puerto Rico revenue bonds over similarly rated general-obligation debt is the highest in three years, data compiled by Bloomberg show.

“This is a pretty weak credit that needs growth to get better and they’re not really experiencing it,” said Guy Davidson, who oversees $31 billion as director of muni investments at AllianceBernstein LP in New York.

Governor Luis Fortuno, a Republican who has cut the island’s payrolls by 17 percent since 2009 to help close spending gaps, was in a statistical tie with his main challenger, Alejandro Garcia Padilla of the Popular Democratic Party, in a poll released this week before the Nov. 6 election.

Trailing Market

Puerto Rico bonds have a Standard & Poor’s rating of BBB, two levels above speculative grade. They have earned 5.2 percent this year, less than 24 of 26 states in S&P’s index. The gain is also below the 6.8 percent earned by the total market, which Puerto Rico beat the past three years. The relatively high yields on its debt have lured investors as interest rates sank toward generational lows.

The island’s economy grew 0.9 percent in the year ending June 30, the first expansion since 2006, according to projections from the Puerto Rico Planning Board, which forecasts growth of 1.1 percent in the year through June 2013. Puerto Rico’s August jobless rate was 13.5 percent, the lowest since 2008, though still higher than any U.S. state, according to the U.S. Bureau of Labor Statistics.

Yields on 10-year Puerto Rico revenue bonds rated BBB were as much as 1.01 percentage point above 10-year general-obligations with a similar grade this week, data compiled by Bloomberg show. It’s the widest yield spread since June 2009. Against AAA munis the spread is even larger, at about 2.14 percentage points, close to the highest since February.

‘Weaker Metrics’

Individual buyers are avoiding Puerto Rico because of its “weaker metrics,” such as debt load and deficits, said Mark Paris, who helps manage high-yield muni funds totaling $7.4 billion at Invesco Ltd. in New York, including Puerto Rico debt.

The commonwealth had $51.9 billion of net tax-supported debt last year, or $14,004 per capita, about 10 times the U.S. average, according to Moody’s Investors Service.

Its pension assets were 6.8 percent of what it owes in retirement payments as of June 30, 2011, according to the commonwealth. In comparison, Illinois had a funding ratio of about 43 percent in 2011, the lowest among U.S. states, data compiled by Bloomberg show.

Juan Carlos Batlle, president of the Government Development Bank for Puerto Rico, the commonwealth’s fiscal agent, said strengthening the pension system will be the first priority for Fortuno, 51, should he win re-election. Batlle, a gubernatorial appointee, emphasized an improving economic trend, as shown by the island’s falling jobless rate.

Deficit Battle

Fortuno balanced the budget for the year through June 2013 with $333 million of borrowing and $600 million of debt restructuring that pushes principal and interest payments to future years. That deficit was as high as $3.3 billion in 2009, the year Fortuno took office.

In a poll released Oct. 9 by El Nuevo Dia, a Spanish-language daily, Garcia Padilla led Fortuno 41 percent to 39 percent, with a three-percentage point margin of error.

Garcia Padilla, 41, a member of the commonwealth’s Senate, has said he won’t raise income or business taxes, and he promises to add 50,000 private-sector jobs within 18 months through business-incentive programs.

“I really don’t think there’s really a lack of demand,” Batlle said regarding the bond losses. “You probably see people who may have invested a lot in the first six months of the year and maybe are paring down to make space for new issues before the end of the year.”

‘Just Waiting’

For institutional investors, there hasn’t been a large enough Puerto Rico sale to attract them, said Tom Spalding, who helps manage $10 billion of munis in Chicago at Nuveen Investments Inc. The last tax-exempt offer over $100 million was a $589 million revenue-bond issued by Puerto Rico Public Buildings Authority in June, Bloomberg data show.

“Usually for institutions, they need a large new issue in order to really get the size they need and a price they need,” Spalding said. “So they’re just waiting for the next large issue.”

Paris, Davidson and Spalding said they plan to buy more Puerto Rico debt if yield spreads widen further.

“Pretty soon it should get cheap enough so that we’ll use it for our national funds,” Spalding said.

Investors are asking for more additional yield on a 30-year Puerto Rico Electric Power Authority bond than when the security priced in April, Bloomberg data show. The average yield in trading yesterday was 4.89 percent, or about 2 percentage points more than benchmark 30-year general obligations, up from about 1.6 percentage point April 12.

In trading yesterday, yields on 10-year benchmark munis rated AAA were little changed at 1.66 percent, data compiled by Bloomberg show. The index touched 1.63 percent July 27, the lowest since at least January 2009, when data collection began.

Following are pending sales:

New York’s METROPOLITAN TRANSPORTATION AUTHORITY is set to issue as soon as this month $950 million of dedicated-tax revenue bonds to refund debt sold in 2002, according to offering documents. (Added Oct. 12)

DISTRICT OF COLUMBIA is set to borrow $675 million of general-obligation tax-revenue anticipation notes as soon as next week, according to Moody’s Investors Service. (Added Oct. 11)