Auction-Bond Failures Roil Munis, Pushing Rates Up; NY/NJ Port Authority Pays 20% on Debt

[Purveyor]

Feb. 13 (Bloomberg) -- Bonds sold by U.S. municipal borrowers with rates set through periodic auctions failed to attract enough buyers as banks including Goldman Sachs Group Inc. and Citigroup Inc. that run the bidding wouldn't commit their own capital to the debt.

Rates on $100 million of bonds sold by the Port Authority of New York and New Jersey, with bidding run by Goldman, soared to 20 percent yesterday from 4.3 percent a week ago, according to data compiled by Bloomberg. Presbyterian Healthcare in Albuquerque and New York state's Metropolitan Transportation Authority also experienced failures, officials said.

What began three weeks ago with too few bidders for auction-rate debt backed by relatively small entities, such as Georgetown University and Nevada Power, has widened in recent days to include large issues of state governments, such as New York state's Dormitory Authority. The auction failures provide new indication of Wall Street's unwillingness to commit capital amid $133 billion in credit losses and asset writedowns.

``It's the beginning of the end for the auction-rate market,'' said Matt Fabian, a senior analyst with Concord, Massachusetts-based Municipal Market Advisors. ``Banks have stopped supporting the market.''

Investor demand for the securities has declined on waning confidence in the credit strength of insurers backing the debt, and on reluctance by banks to submit bids and risk ending up with too many of the bonds. Local governments that have borrowed in the $300 billion auction-rate market confront the prospect of higher borrowing costs as economic slowing trims tax revenue.

---eoe---

http://www.bloomberg.com/apps/news?pid=20601087&sid=aue8imip6T3Q&refer=home

[NMDemDist2]

1. this spells real trouble

surprised it's taken this long to surface.

wait til the US can't sell their Treasuries to support the war anymore...

[Celebration]

2. I agree

No panic in the markets today, and this isn't a small issue.

The banks can't support these things without any reserves.

Georgetown can't sell any paper??? Bad sign.

[Extend a Hand]

6. It sure seems bad

but what bad things will happen in broader economy as a result I wonder?

[A HERETIC I AM]

3. These securities (Auction Rate Securities) represent a relatively small segment of the debt market

The market for ARS, MARS and MARPS is not nearly as large as other segments of the debt securities market, as the article states "$300 Billion" out of a US Debt market of over $25 Trillion. While the failure of these auctions is troubling, it is by no means catastrophic. There are other avenues available to the various institutions and organizations that use this market and it is likely that most access funding already using traditional bonds or other short term and long term instruments.

[CGowen]

4. UBS Won't Support Failing Auction-Rate Securities

UBS AG won't buy auction-rate securities that fail to attract enough bidders, joining a growing number of dealers stepping back from the $300 billion market, said a person with direct knowledge of the situation.

The second-biggest underwriter of the securities, whose rates are reset periodically at auctions, notified its 8,200 U.S. brokers of the decision yesterday, said the person, who declined to be identified because the announcement wasn't publicly disclosed. Goldman Sachs Group Inc., Lehman Brothers Holdings Inc. and Citigroup Inc. allowed auctions to fail as mounting losses from the collapse of subprime mortgages causes capital markets to seize up.

Bank of America Corp. estimated in a report that 80 percent of all auctions of bonds sold by cities, hospitals and student loan agencies were unsuccessful yesterday. That may mean as much as $20 billion of bonds failed to find buyers, based on the $15 billion to $25 billion of auction-rate bonds scheduled for bidding daily, according to Alex Roever, a JPMorgan Chase & Co. fixed income analyst.

"We are kind of in uncharted territory right now," said Anne Kritzmire, a managing director for closed-end funds at Nuveen Investments in Chicago

...


http://www.bloomberg.com/apps/news?pid=20602007&sid=aTfAdljNImeo&refer=rates

[A HERETIC I AM]

5. For the sake of clarity, and I don't mean to beat an ill horse....

But I think it is important to keep in mind EXACTLY what is happening here and to WHAT. There seems to be a bit of misunderstanding on various threads on DU about these instruments.

These bonds are not new issues. These auction failures are not the marketplace refusing to fund new debt offerings made by the various entities mentioned in the article. The securities are already issued and owned but they are structured in such a way that they were not issued with a specific "coupon" interest rate. The interest rate the issuer must pay to the holder of the securities is reset at the regular auctions.

What is really happening is a liquidity failure. As it is stated further down in that article,

``I think you need to have more transparency in terms of the market so that investors can judge liquidity risks and so that people, both retail investors and corporate investors, can decide where they want to put their money,'' Joseph Fichera, chief executive officer of Saber Partners, a New York based financial adviser to local governments, said in an interview on Bloomberg Television.

So, in effect, if you own one of these and wish to sell it, you are having difficulty doing so. That fact alone makes the crisis. If you are a seller, the buyers are bidding the rate they are demanding through the roof because they see the risk involved with them as having risen dramatically, primarily because of the financial straits the bond insurers are in. The ISSUERS of the bonds might very well be perfectly fine, quoting:

We're hearing it's a general reaction to the auction market,'' said Marlene Zurack, senior vice president for New York City's Health and Hospitals Corp., whose auction yesterday of $64.9 million of bonds failed. ``The truth is our credit is good, our ratings are good, our bond insurer is unscathed, and it still happened.

There is a solution for the original issuers and that is to allow those issuers to call them in. Call in the bonds, pay off the bondholders and reissue the debt using conventional bond underwriting methods - Issued at par at a set maturity and coupon rate. Then allow the secondary bond market to price the bonds accordingly. If the issuers are still seen as high risk, the bonds will be bid down in the secondary market and yields will go up, perhaps WAY up. This would be a good thing for the individual because you might be able to purchase a bond (issued by a municipality that is actually in great financial shape and in no danger of defaulting) at a huge discount, thus giving you perhaps double digit yields.

The likelihood of the above happening depends on the individual bond and its terms. Call provisions are quite common but many ARS bonds have "call protection" that may span many years into the future, as do many other types of bonds. In other words, the issuer has pledged not to call them until a specific date and often by a specific schedule. (1st $100,000 of a $1,000,000 series callable in June of 2017 @ Par, call continues every thirty days...etc.) I think it would be a MAJOR deal to allow drastic changes in the terms of an underwriting agreement already signed. So much of the stability of the bond market has to do with predictability and the credibility of the parties involved. They are loans and the assurance (or the appearance of it) that interest payments will be made to bond holders and the loan will be paid off in full at maturity or when called in is extremely important. Bond traders seem to have a good deal of ability to sniff out deception or financial difficulty, as evidenced lately.