Puerto Rico Flight Produces Biggest Guam Win Streak: Muni Credit
Municipal investors looking for an escape from Puerto Rico, whose debt has lost the most since at least 2000, may find one almost halfway around the world in Guam.
Amid declines this year in the $3.7 trillion municipal market, Guam bonds have lost 12 percentage points less than Puerto Rico’s, the best relative performance in at least 13 years, Barclays Plc data show. Last year, the Pacific island’s debt also outpaced Puerto Rico’s. The territories are among five that issue bonds with interest that’s tax-free nationwide.
Guam is 9,372 miles (15,080 kilometers) from Puerto Rico. Yet the gap between the territories’ ratings is narrowing. Standard & Poor’s raised Guam one step to BB- last month, the highest since 2003 and three steps below investment grade. It cut Puerto Rico in March to one step above junk. The company cited Guam Governor Eddie Calvo’s steps to curb expenses while boosting transparency for investors.
“Guam hit bottom and had to put a structure in place to move forward,” said John Loffredo, co-head of Princeton, New Jersey-based MacKay Municipal Managers, which oversees $7.5 billion of local debt. “We like when an entity follows through on what they want to do. Guam has done that. They’re on the right path and they’re being rewarded.”
Interest on territory bonds is exempt from federal, state and local taxes nationwide, helping explain why more than 75 percent of U.S. municipal-debt mutual funds hold Puerto Rico bonds. Guam isn’t as widely owned, with just $2.3 billion of securities outstanding from island issuers, compared with more than $70 billion from Puerto Rico, data compiled by Bloomberg show.
Guam’s improved credit grade serves as a backdrop for a $174 million deal that begins today from its waterworks authority. The agency had its rating raised this month by Moody’s Investors Service to Ba1, one step below investment grade. S&P has the bonds at A-, four steps above junk.
Some investors have been buying Guam bonds instead of Puerto Rico’s. MacKay didn’t own any Puerto Rico debt from April 2012 to September, Loffredo said. The company’s New York fund has 8.8 percent of its holdings in Guam, and Loffredo said he’d consider purchasing some of the new waterworks securities.
Guam officials say they don’t try to compare their finances with those of Puerto Rico, which has a negative outlook from the three major rating companies.
“We feel badly for the economic conditions that have been persistent in Puerto Rico, and we don’t do anything overtly to compare ourselves to them,” said Lester Carlson, public finance manager for the Guam Economic Development Authority, which oversees debt issuance.
“The difference is night and day,” he said in an interview last week from Boston, where he was presenting the water deal to investors. “We have upside potential.”
Puerto Rico vowed seven years ago to fix its finances after posting a $740 million budget deficit. Yet the commonwealth and its agencies doubled borrowing since 2004. Fitch Ratings last week said it would cut the island’s general obligations to junk by June if its access to markets is limited.
After Fitch’s announcement, Jose Pagan, interim president of the commonwealth’s development bank, said in a statement the administration “continues its focus on creating sustainable economic growth through job creation, making ongoing progress towards our goal of a structural budget balance by fiscal 2016, and strengthening our credit profile, market access and liquidity.”
Guam in fiscal 2013 achieved a $13 million general-fund operating surplus, its first in five years, according to S&P. Upon taking office in January 2011, Calvo, a 52-year-old Republican and former PepsiCo Inc. (PEP) executive, quashed raises for government workers and limited expenditures to 98 percent of revenue until the territory erases its deficit.
Calvo leads an island of about 160,000 people, while Puerto Rico has 3.7 million residents, Census Bureau data show. The smaller population base has helped the Guam governor turn actions into quicker economic gains, said Jamie Iselin, head of munis at New York-based Neuberger Berman, which oversees about $9 billion in local debt.
Both territories have jobless rates above 13 percent, higher than any U.S. state.
The increased ratings on Guam issuers mean investors are less willing to part with their bonds, Iselin said. Neuberger Berman owns some Guam waterworks debt and may buy some of this week’s deal, he said.
“Some investors are motivated to trade in and out of Puerto Rico,” Iselin said. “Guam investors have generally been pleased with the directionality of the credit, and as a result they’re much more apt to hold their bonds.”
Guam sold 30-year general obligations in June 2009 with a 7.18 percent yield, Bloomberg data show. Puerto Rico issued similar-maturity securities that year at a yield of 6.2 percent, the data show.
The Guam bonds traded last week at an average yield of 5.89 percent, compared with 8.95 percent on the Puerto Rico obligations, Bloomberg data show. Top-rated munis due in 26 years yield 4.1 percent.
Guam bonds have declined 3.7 percent this year, Barclays data show. Puerto Rico securities have plunged 16 percent. Both have trailed the broad market’s 2.5 percent drop as investors have pulled $7.9 billion from high-yield muni mutual funds, according to Lipper US Fund Flows data.
Guam would have a BBB grade if not for reasons such as the lesser support the U.S. government provides to territories relative to states, S&P said. The island also lacks economic diversity, relying on tourism and the military, the report said.
To get a BBB grade, the island would need characteristics of a single-A rated state or locality, Paul Dyson, an S&P analyst, said in an interview.
“Guam, despite those inherent risks it always has, is moving in the right direction,” Iselin said. “From a financial performance standpoint, you have a positive trend in Guam, and Puerto Rico has been moving in the other direction.”
Proceeds from this week’s Guam sale will finance infrastructure such as wastewater treatment plants to comply with federal regulations. A 2011 court order mandated about $350 million of investment, offering documents say.
Elsewhere in the municipal market, issuers nationwide are joining the authority in offering about $7.9 billion in long-term debt this week, the most since July, Bloomberg data show.
The ratio of the yields, a gauge of relative value, is about 106 percent, close to a three-week high. It compares with an average of 94 percent since 2001. The smaller the number, the more expensive munis are compared with federal securities.
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