Michigan Vote Against Rescue Hits Local Financings: Muni Credit
Investors in Michigan bonds are already feeling the effect of voters' rejection of a law permitting state takeovers of ailing municipalities.
The yield penalty on debt of Michigan issuers reached a five-week high yesterday after voters killed Public Act 4 on Nov. 6. The law gave state-appointed emergency managers powers, including firing elected officials and canceling union contracts, to balance budgets and avoid the fate of three California cities that sought bankruptcy protection this year.
Unions led opposition to the 2011 law. Yet Republican Governor Rick Snyder, who championed it, said repeal increases the chances of Chapter 9 filings, which can spark bondholder losses. While Detroit averted a takeover in April by agreeing to a state plan to erase its deficit, five cities and three school districts have emergency managers, including Flint and Pontiac.
“With this gone, all bets are off,” said Chris Mauro, head muni strategist at RBC Capital Markets LLC in New York. The act “seemed to be fairly successful in keeping these fiscally stressed local governments out of Chapter 9.”
From California to Rhode Island, 25 municipal issuers burdened by the longest recession since the 1930s filed for Chapter 9 bankruptcy since the start of 2011, according to James Spiotto, a partner at Chapman & Cutler LLP in Chicago.
Michigan cities such as Benton Harbor, Flint and Pontiac have avoided that path with the help of emergency managers. Detroit, the state’s most populous city, is still in danger of running out of cash by year-end. The state and city agreed yesterday to cost savings that will allow Detroit to access $30 million held in escrow from a bond sale in August.
“Public Act 4 had proved to be one of the most effective pieces of legislation in the country for dealing with credit stress for local governments,” said Bart Mosley, co-president of Trident Municipal Research, an analytical company in New York. Of all the bond ballots Nov. 6, the repeal “was the one that was a clear negative.”
The extra yield investors demand to own general obligations of Michigan and its localities rather than top-grade debt increased to 0.80 percentage point yesterday, the most since Oct. 8, data compiled by Bloomberg show.
Further clouding Michigan’s fiscal terrain is a lawsuit challenging the use of emergency managers after the repeal of Public Act 4.
Since August, when the issue was approved for the November ballot, cities and school systems with emergency managers have operated under a 1990 law giving leaders less authority to curb spending and restructure. Opponents argue that even that law is invalid. Snyder and Republican Attorney General Bill Schuette have declared it in effect.
Snyder said some provisions of the defeated measure should be enacted in a new law, such as “early warning” steps that allowed intervention in stressed cities before they reach a financial crisis.
Lawmakers are torn between wanting to re-enact the state’s ability to intervene and allowing some cities to file for bankruptcy, said Representative Al Pscholka, a Republican who helped write the rejected law.
“There’s a feeling that maybe we should let a couple of communities go bankrupt so they can appreciate what the process is like,” Pscholka said.
Detroit Mayor Dave Bing, who opposed an emergency manager for the city, said he’ll keep working under the fiscal agreement with the state.
“With or without the support of Public Act 4, our goal remains the reform of city government to better serve the citizens of Detroit,” he said in a statement after the election.
The city has a Moody’s Investors Service rating of B3, six steps below investment grade.
Detroit bonds maturing in 2028 traded Nov. 7 and Nov. 8 at average yields of 3.98 percent and 4 percent, respectively, data compiled by Bloomberg show. They’re the highest since September. Interest rates also rose on debt due in 2023 and 2024.
The securities are trailing a rally in the $3.7 trillion muni market. The interest rate on AAA munis maturing in 30 years is falling for a third-straight week. At 2.7 percent yesterday, it’s the lowest since at least January 2009, when the Bloomberg Valuation index began.
“I’ll certainly be requiring much wider spreads” to buy some of these municipalities, said Robert Miller, senior portfolio manager in Menomonee Falls, Wisconsin, for Wells Capital Management, which oversees $30 billion in munis. “A lot of the muni bond community held it up as an example of the right way to do things.”
Snyder and a Republican-dominated legislature pushed Public Act 4 as localities reeled from plunging property values that sapped revenue. The state sponsored two emergency-manager training sessions that drew about 400 participants, including municipal and school officials.
The new law ignited protests in Lansing, the state capital, by sympathizers who called it an attempt to bust unions and usurp voters’ rights. In Benton Harbor, emergency manager Joseph Harris stripped the council and mayor of all powers and began restructuring city government.
About 200 miles (322 kilometers) east in Pontiac, emergency managers have cut the workforce to 40 from about 700 five years ago, and whittled its general fund to $29 million from $55 million, Louis Schimmel, Pontiac’s emergency manager, said in a telephone interview.
Public-safety departments were abolished and their duties contracted to area communities, which hired the city’s police and firefighters.
Schimmel sold the city’s sewer capacity to surrounding Oakland County for $55 million and used the money to retire debt -- something he couldn’t do under the 1990 law. Pontiac citizens voted to repeal Public Act 4 by a 3-to-1 margin.
“The benefit of Act 4 was that it had the efficiency of a dictatorship,” said Spiotto, who leads the bankruptcy practice at Chapman & Cutler. “They have to make sure whatever is developed has the efficiency of a financial manager, not the inefficiency of a committee.”
Following are pending sales:
TEXAS MUNICIPAL GAS ACQUISITION & SUPPLY CORP. plans to sell $1 billion of gas supply revenue bonds as soon as next week, data compiled by Bloomberg show. Proceeds will finance the prepayment of a 20-year supply of natural gas, according to bond documents. (Added Nov. 15)
MIAMI-DADE COUNTY, FLORIDA, plans to sell about $808 million in bonds as soon as next week that will be backed in part by revenue from Miami International Airport, according to data compiled by Bloomberg. The proceeds will refinance debt. (Added Nov. 16)
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