BL: Auction-Rate Collapse Spurs Bond Sale "Tidal Wave"; Hearings in Congress
California, New York Dump Auction Debt; States Push on Ratings
By William Selway
March 10 (Bloomberg) -- California, New York City and the owner of the World Trade Center site will replace auction-rate debt this week, as lawmakers hold hearings on how turmoil in the credit market is raising costs for local governments.
The House Financial Services Committee will hold hearings on March 12 into the municipal bond market after yields on tax- exempt debt rose to the highest ever relative to Treasuries last month, according to data compiled by Bloomberg and Municipal Market Advisors. The market was rattled by deteriorating finances at bond insurance companies and credit rating companies that use different standards for municipalities and companies.
States, cities and agencies are pulling out of the $330 billion auction-rate market, where costs almost doubled since January, according to the Securities Industry and Financial Markets Association. Municipal borrowers plan to sell about $22.5 billion of fixed-rate, tax-exempt bonds in the next 30 days, the most in five months, according to data compiled by Bloomberg.
``We've never seen this type of dislocation,'' said Paul Brennan, who helps manage about $12 billion of bond funds at Nuveen Asset Management in Chicago. ``We have a potential to see a tremendous amount of issuance,'' he said. ``We're going to see a tidal wave.''
The flood of sales may jeopardize a rally sparked by the highest yields since 2004. Municipal bonds rose the most in six months last week.
`Auction-Rate Debacle'
``We're seeing some buyers rushing in, but in reality, we're still working through this auction-rate debacle,'' said Scott Edmonds, who oversees about $3 billion of municipal bonds at Wilmington Trust in Delaware.
California and New York City, the largest sellers of municipal bonds, are reducing their dependence on floating-rate debt. California's Department of Water Resources will sell $1.03 billion this week to replace auction and variable-rate bonds.
New York plans to sell $448 million to refinance debt, including auction-rate securities. The Port Authority of New York and New Jersey is refinancing $700 million of auction-rate debt after interest costs jumped as high as 20 percent.
The California Statewide Communities Development Authority may offer as much as $10 billion of notes to help cities and non-profit organizations refinance their floating-rate debt as soon as this month. The state will consider hospitals' requests to refinance some $4.6 billion, according to California's treasurer.
`Drive a Stake'
The auction-rate market came unhinged as losses tied to subprime mortgage bonds and related securities threatened bond insurers' AAA ratings, causing investors to shun the securities they backed. The companies guarantee about half the $2.6 trillion of outstanding state and local government debt.
Banks that ran the periodic bidding to set yields on the debt refused to buy unwanted securities last month, driving borrowing costs higher. Yields are determined every seven, 28 or 35 days.
The average rate on tax-exempt, seven-day auction bonds rose to 6.52 percent on Feb. 27, the most recent available, from 3.81 percent in January, according to a Securities Industry and Financial Markets Association index. The yield is three times higher than Treasury bills, whose interest is taxable.
``The conservation of the banks' own balance sheets is very likely to drive a stake in the heart of the product,'' said Terry Matsumoto, chief financial officer of Los Angeles County's Metropolitan Transportation Authority.
The agency is considering ways to get out of auction bonds because rates may double or triple the agency's annual $19 million interest bill, he said. ``This product is probably on its last legs,'' Matsumoto said.
State Outcry
The rise in borrowing costs has sparked an outcry by state officials, who are pressuring credit-rating companies to change a system that they say exaggerates the risk cities and states will default. Every state, save Louisiana, would have AAA credit ratings if judged by the same standards as corporations, according to Moody's Investors Service, reducing the need for insurance.
``The insurance industry blowing up just exposed this dual standard,'' said Oregon Treasurer Randall Edwards, one of those challenging the rating system along with California and Florida. ``We're raising a question of fairness.''
Municipal bonds had their worst month in at least 19 years in February, losing 4.9 percent, according to a Merrill Lynch & Co. index. Top-rated, 30-year tax-exempt municipal bonds yielded a record 0.59 percentage point more than taxable Treasuries on Feb. 29, according to data compiled by Bloomberg and Municipal Market Advisors.
Billionaire investor Wilbur Ross, known for bets on distressed companies, said last week he bought $1 billion of municipal bonds. Firms including JPMorgan Chase & Co. recommended the debt.
`Buying Opportunity'
Yields on top-rated, 30-year municipal bonds declined 16 basis points to 4.83 percent, the most since September, according to Municipal Market Advisors. The yield compares with the 4.54 percent on 30-year Treasuries.
``We're looking at this as a buying opportunity,'' said Craig Elder, fixed-income analyst for Robert W. Baird & Co. in Milwaukee, which manages some $60 billion for clients.
To contact the reporter on this story: William Selway in San Francisco at wselway@bloomberg.net.
Last Updated: March 10, 2008 00:45 EDT
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