Times Looks at the Muni-Bond Scandal in Tennessee: Across Nation Muni-Bonds Downgraded

The company involved was Morgan Keegan, not cdr financial products. This makes sense, CDR may have the largest connections around the country, but obviously they weren't the only people pulling these scams. As for the down grade, the muni-bond business is worth 2.6 trillion and a serious part of this nations finances. By the way its Illinois leading the way with a credit down grade as its pension plan is seriously underfunded, something Talking Points Memo mentioned the other day.

In January, local officials were shocked to discover that annual interest payments on the bond had quadrupled to $1 million. Morgan Keegan, they said, did not serve them well in any of its roles.“We’re little,” Mr. Phillips said, “and we depend on people wiser than us in financial ways to keep us informed, tell us what things mean, and I really didn’t think we got that.

In January, local officials were shocked to discover that annual interest payments on the bond had quadrupled to $1 million. Morgan Keegan, they said, did not serve them well in any of its roles.

“We’re little,” Mr. Phillips said, “and we depend on people wiser than us in financial ways to keep us informed, tell us what things mean, and I really didn’t think we got that.

Its the usual, local government either lacking the sophistication to understand what they were signing off on, or possibly corruption.

In many corners of Tennessee, the first anyone heard of interest-rate swaps was from C. L. Overman, a vice president of Morgan Keegan who assured officials that the deals carried little risk, city and county officials said.

“He told us it would be a good thing and there wasn’t much downside,” said Mayor Duncan of Claiborne County. He then laughed, adding, “When everything went belly up, of course, they told us it wasn’t their fault.”

Earlier this year, Claiborne County officials were told by Mr. Overman that they had only a few weeks to refinance an $18 million bond or pay a quadrupled quarterly payment of $700,000. Mr. Overman declined to comment for this article.

In Lewisburg, after Mr. Overman pitched the swap idea for the sewer project, Kenneth E. Carr, a city official, attended the class. “The seminar was dull and boring,” said Mr. Carr, who still has a copy of the book, stamped with the state seal of Tennessee on every page. “I thought, ‘Well, this is approved by the state because they put their seal of approval on it. This must be something they think is good for us.’

As usual the working class suffer:

This year, with residents facing a 33 percent increase in water and sewer rates, the city decided to refinance the bond, dropping Morgan Keegan and hiring another financial adviser. Mayor Phillips said the city would use fixed rate debt on its new bonds. “Nothing that says derivative, nothing that says swap,” he said. “We learned our lesson. (Just like Alabama and a host of other places)

It appears the reckoning of the muni-bond scam is starting to come home as municipal bonds have now been down graded:

While Moody’s regularly reports on the financial strength of various sectors of private industry, its analysts have in the past considered America’s tens of thousands of towns and local authorities too diverse for generalizations.

The report suggests that the ratings of many governments could be downgraded in the coming months, something that would make it more expensive for them to borrow money to finance their operations.In the most extreme cases, municipalities might default on some of their obligations, as Jefferson County, Ala., has been threatening to do for a number of months.

Vallejo, Calif., declared bankruptcy last year and is being closely watched to see if it will set a legal precedent that other towns could follow. Moody’s did not report on individual cities or towns, but its overview offered a general note of caution for investors who have bought municipal bonds seeking a safe stream of income in difficult financial markets....

The report’s publication coincided with the downgrading by Moody’s of the credit of the State of Illinois to the A level from double-A. Moody’s said Illinois was having difficulty managing its cash, and in recent weeks had been trying to push its scheduled pension contributions into the future. The state pension fund is already seriously underfunded.

The Federal Reserve chairman, Ben S. Bernanke, warned that local governments had probably lost their ability to lower their borrowing costs by linking their bonds to derivatives. Such bond packages had become popular in the last few years because they appeared to offer cities both the lower borrowing costs of variable-rate bonds and the predictability of fixed-rate bonds. But the structures broke down during last year’s market turmoil, leaving some municipalities staggering under more debt than they can afford.

If this goes under, then what?