Brown Lifts Agency Default Risk in Budget Balancing: Muni Credit
California Governor Jerry Brown’s decision to wipe out 400 blight-fighting redevelopment agencies has increased municipal-bond defaults in the state and pushed the yield penalty on the authorities’ debt to a six-month high.
Scrapping the agencies freed about $1 billion for schools and helped close a budget gap. Brown’s plan, which took effect Feb. 1, called for local governments to handle payments on the bonds using reserves and property taxes from redevelopment zones. Payments were disrupted in the case of cities including Monrovia in Los Angeles County and Hercules near San Francisco.
The debt, issued to rehabilitate buildings and land, traded in June at yields averaging 3.3 percentage points above similar- maturity Treasuries, the most this year, according to BondDesk Group LLC. Invesco Ltd. (IVZ) is among investors concluding disruptions will be temporary, enhancing the appeal of the extra yield on the nearly $30 billion of redevelopment securities as municipal interest rates remain near four-decade lows.
“What we’ve been looking at are deals where it’s a good redevelopment bond with debt service coverage that is fairly solid,” said Bill Black, a portfolio manager for the Invesco Van Kampen High Yield Municipal Fund (ACTDX), which has outpaced 92 percent of its peers this year, data compiled by Bloomberg show.
California accounts for about 15 percent of 108 issuers added to the Municipal Market Advisors default database this year, close to double the historical rate. The agencies’ debt was involved in about a half-dozen defaults, said Matt Fabian at Concord, Massachusetts-based MMA.
Debt from California, with a 4.8 percent return this year, is still beating the 4.1 percent earned by the $3.7 trillion municipal market, Standard & Poor’s data show.
Some of the securities “are very solid but may have cash- flow timing issues,” he said.
He said he favors debt from former agencies in regions such as metropolitan Los Angeles over inland areas more susceptible to boom-and-bust cycles.
Brown, 74, and his fellow Democrats in the state Legislature moved in June 2011 to eliminate the agencies and redirect their assets to help close a $10 billion deficit. The entities had $29.8 billion in debt as of June 30, 2010, according to the state controller’s office.
Moody’s Investors Service cut $11.6 billion in California redevelopment debt to junk last month, saying legal and political disputes may disrupt payments to bondholders.
Monrovia, a city of 37,000, missed an $11.75 million payment due on June 1 for tax-allocation notes issued in 2007, according to a disclosure statement.
Mark Alvarado, Monrovia’s administrative services director, said the city routinely refinanced tax-allocation notes to extend payments. The city defaulted this time because its lawyers couldn’t ascertain that refinancing was legal under the current law.
In June, state lawmakers passed a bill that allows the former agencies to refinance debt as long as the change doesn’t increase costs. The bill awaits Brown’s signature.
Brown’s spokesman, Gil Duran, didn’t respond to an e-mail seeking comment.
If Brown signs the bill, Alvarado said he plans to refinance the Monrovia debt and end the default.
Investors are demanding the most extra yield in four months on a taxable San Jose redevelopment bond maturing in 2035.
It traded at a yield spread about 3.30 percentage points higher than similar-maturity Treasuries last month, the widest difference since February, data compiled by Bloomberg show.
The agencies’ yields still aren’t attractive enough for some investors.
“We are absolutely not looking for that kind of debt,” said Michael E. Johnson, a managing director at Gurtin Fixed Income Management LLC in Solana Beach, California, which manages $4 billion in munis. “There’s way too much short-term uncertainty.”
Redevelopment debt has always been riskier than local- government bonds and the changes in California have only marginally increased the prospect of defaults, said Joseph Krist, a municipal credit analyst for UBS Wealth Management in New York. The firm manages $620 billion.
“In this interest-rate environment, the argument can be made that you’re getting good yields relative to risk,” Krist said. “The same fundamentals apply before and after the legislation.”
Following is a pending sale:
COLUMBUS, Ohio, plans to sell about $447 million of general-obligation bonds through a competitive sale as soon as July 10, according to data compiled by Bloomberg. Proceeds will be used for capital projects, according to a Fitch Ratings report. (Added July 2)
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