Muni-Bond Issuers May Face Default `Crunch' as Stimulus Ebbs, Lehmann Says
Municipal-bond issuers, whose default rate slowed this year, may face more failures in 2011 as federal economic-stimulus aid declines and budget pressures jeopardize debt payments, said Richard Lehmann, publisher of Distressed Debt Securities Newsletter.
Many state and municipal governments still haven’t addressed underlying budget stresses and some borrowed to patch deficits, meaning issuers may decide not to make promised debt- service payments, said Lehmann, 68, who follows defaults.
“Next year may well be the crunch year,” Lehmann said Nov. 19 by telephone from Miami Lakes, Florida. “You may see a new wave of defaults.”
This year through October, defaulted securities, including those stemming from missed payments and the “technical” variety, fell to $2.48 billion, compared with $7.28 billion in 2009 and a record $8.15 billion in 2008, according to Lehmann’s data. Technical defaults occur when bond terms are violated, such as by servicing debt with reserve funds.
Missed payments by Jefferson County, Alabama, on some of its $3.8 billion of sewer securities and Main Street Natural Gas Inc. on $709 million of debt for pre-paid supplies drove the default rate higher in 2008, Lehmann’s data show. Jefferson County is home to Birmingham, Alabama’s biggest city. Municipal Gas Authority of Georgia, based in Kennesaw, about 27 miles (43 kilometers) northwest of Atlanta, set up Main Street as a financing vehicle.
The average default rate for investment-grade municipal debt evaluated by Moody’s Investors Service from 1970 through 2009 was 0.03 percent, compared with 0.97 percent for corporate issues, the New York-based company said in February. General- obligation bonds and debt for essential services such as water and sewers are safer than unrated bonds and not-for-profit hospitals, it said.
Last year, the number of defaults rose, while their dollar value declined as more involved smaller issues, such as community development district bonds sold for housing infrastructure projects in Florida, according to Lehmann’s data.
The longest recession since the Great Depression cut U.S. cities’ general-fund revenue for the fiscal year through June by the most since at least 1986, according to the National League of Cities. U.S. state and local governments balanced their budgets in recent years partly with funds from federal economic- stimulus programs, which Congress passed in early 2009, and by cutting spending, raising taxes and borrowing. The temporary $814 billion stimulus spending will wind down next year.
Now, states and municipalities are coping with financial stress at “a level that has not been seen for decades,” said Fitch Ratings in a Nov. 16 report. The pressures may lead defaults to “increase from exceedingly low historical levels,” Fitch said.
Besides the end of stimulus payments, state and local governments face swelling pension obligations, political pressure to hold down taxes and rising costs for everything from health care to education, Lehmann said.
“Their basic problems haven’t been solved,” he said. “They haven’t addressed the underlying issues.”
Spending cuts during a recession help protect debt service, said Standard & Poor’s in a Nov. 8 report. Debt service “generally holds a priority status relative to other obligations,” S&P said. Revenue declines “that we think would likely cause default in many instances would need to be double what they were during the Great Depression,” S&P said.
Cities including Pennsylvania’s capital of Harrisburg and Detroit have contemplated seeking bankruptcy protection as a way to cope with pending debt payments, sagging tax revenue and rising costs. Vallejo, California, a city of about 120,000 on the north shore of San Francisco Bay, sought U.S. Bankruptcy Court protection from creditors in 2008, the state’s biggest municipal bankruptcy since Orange County in 1994.
“There is clearly going to be credit deterioration,” Howard Cure, director of municipal research for Evercore Wealth Management LLC in New York, said in a Nov. 19 Bloomberg Television interview. “There aren’t going to be massive defaults.”
Most monetary defaults have been tied to specific public- works such as real-estate transactions and economic-development projects, said J.R. Rieger, vice president of fixed-income indexes for S&P in New York, who follows monetary defaults on his S&P’s/Investortools Municipal Bond Index.
This year, 96 issues totaling $2.56 billion have missed a debt-service payment, compared with 153 worth $3.2 billion in 2009, Rieger said in an interview. More than a third of the defaults this year were for bonds issued to support property- backed transactions, while another third were for conduit securities for economic-development projects, health-care facilities and multifamily housing developments, Rieger said.
“Munis are still showing evidence of stress,” Rieger said, even as defaults by state and local governments “are very few and rare.”
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