Puerto Rico Woes Lift Tax-Free Guam to Best Returns: Muni CreditBrian Chappatta
The biggest returns in the municipal market are coming from Guam, the Pacific island that gives U.S. investors tax-free interest without the default speculation enveloping securities from beleaguered Puerto Rico.
Bonds of Guam have surged 10 percent in 2014, Barclays Plc data show. That’s better than all states and fellow U.S. territories Puerto Rico and the Virgin Islands, whose debt carries the same nationwide tax exemption. The island 1,600 miles (2,600 kilometers) south of Tokyo is on pace to outperform Puerto Rico for an unprecedented third straight year.
Guam is quenching investors’ thirst for yield while boasting an economy that grew 24 percent in the five years through 2012. The territory had a $2.3 million general-fund surplus for the year through September 2013, Governor Eddie Calvo said this month. It marked the first time the island of 160,000 ended consecutive years with a surplus in more than two decades. Puerto Rico’s fiscal 2014 revenue fell $488 million short of estimates.
“In Guam, you have a growth story, whereas in Puerto Rico, you don’t,” said John Loffredo, co-head of Princeton, New Jersey-based MacKay Municipal Managers, which oversees $11 billion of munis. The company and Nuveen Asset Management are among those increasing Guam holdings in the past year.
“It’s a very different trajectory,” he said.
Puerto Rico and its agencies have racked up $73 billion in debt as they stayed afloat by borrowing for operations. As credit downgrades choke off market access and fuel default speculation, individuals have grown more aware that almost two-thirds of muni mutual funds own Puerto Rico securities.
Guam’s market is a fraction of Puerto Rico’s, with $2.4 billion of bonds, data compiled by Bloomberg show. And while Guam also has a junk rating from Standard & Poor’s, its waterworks, airport and education-financing authorities carry investment grades.
Calvo, a 52-year-old Republican up for re-election this year, said in an interview that he plans to visit rating companies next month to pitch for an upgrade. S&P last year raised Guam general obligations to BB-, three steps below investment grade and its highest rank since 2003.
“We’re going to present a very forceful message,” Calvo said from the island. “We’re there to lay out the story of Guam, both in terms of internal governance and the trust in where Guam is at now and where it’s going.”
Three more years of economic growth and balanced budgets would probably earn Guam an investment grade for the first time since 2002, MacKay’s Loffredo said.
With that expectation, Guam general obligations still present a buying opportunity, said John Miller, co-head of fixed income in Chicago at Nuveen, which manages $92 billion in munis, including $262 million of Guam debt.
General obligations maturing in November 2037 changed hands July 9 the most since April, Bloomberg data show. They traded at an average 5.16 percent yield. That compares with 4.5 percent on BBB revenue bonds due in 23 years.
“There isn’t that much debt around, it’s triple tax-exempt and it’s perhaps a nice substitute for Puerto Rico,” Miller said. When investors sold Guam bonds last year, “we bought into it because it’s on an improving trajectory.”
The Virgin Islands get an implied general-obligation rank of BB- from Fitch Ratings, three steps below investment grade. Its securities have earned 7.7 percent this year, while Puerto Rico has returned 3.8 percent, Barclays data show.
Guam, which Spain surrendered to the U.S. in 1898, has an economy centered around tourism and the military. Flying from Tokyo to Guam takes less than four hours, comparable to a trip from New York to Miami.
Privately owned Dynamic Airways began offering the first regularly scheduled direct flight from Beijing to Guam last month, Calvo said. The island is seeking a visa waiver for Chinese tourists, which may boost visitors, he said.
“The commitment of our administration is to always focus on our core strengths,” Calvo said. The economic emphasis on tourism and the military isn’t about to change, he said.
After Guam received a visa waiver for Russian tourists, it welcomed a then-record 1.3 million visitors in 2012. The pace has intensified: Through the first four months of 2014, arrivals from Russia are up 150 percent from last year, according to the Guam Visitors Bureau. Chinese visitors are up 25 percent.
Guam is also poised for an influx of residents next year when about 5,000 U.S. Marines and 1,300 dependents relocate from Okinawa.
“The twin pillars of the Guam economy are showing brightening prospects -- both the military and tourism,” said Gerry Lian, a senior analyst in New York at Invesco Ltd., which oversees $20 billion in munis and has added Guam debt this year.
Even with a diverging economic path from Puerto Rico, Guam may not be impervious to the crisis in the Caribbean.
If courts validate Puerto Rico’s law that lets some public corporations restructure debt, all territories will essentially have the right to alter contracts with bondholders, according to a report from research firm Municipal Market Advisors. That could punish all territory debt, according to the report, which suggested selling the securities.
“Guam is a great credit -- there’s no reason to think Guam is in trouble and would do this,” Matt Fabian, a managing director at Concord, Massachusetts-based MMA, said by telephone. “But the fact that they could creates a difference from before.”
Calvo said that even if the U.S. Congress changed Guam’s laws to allow for bankruptcy, his administration wouldn’t take that route because it would shatter investor confidence.
“We need to ensure that there’s trust -- trust from our workers in GovGuam and our constituents, but also those folks that are buying our debt,” Calvo said.
In the first Guam issue this year, the Waterworks Authority plans to sell about $85 million of debt July 21 for refinancing, according to Moody’s Investors Service. The company rates the bonds Ba1, the highest junk grade. The Guam Power Authority expects to issue about $90 million of revenue bonds this year for projects related to power generation, transmission and distribution, the governor’s office said.
“In terms of the total amount of debt outstanding and their ability to service that debt, it’s completely different” from Puerto Rico, Miller said. “Among territories you have to look at what the individual stories are. Not all territories are horrible. Guam still has value.”