The Wisconsin school districts are an example of a growing number of U.S. municipalities that have racked up substantial losses on investments many say they didn't understand.
The most egregious example is Jefferson County, Ala.,(Covered in The 46, my note, not in the orginal article) which is grappling with $3.2 billion in sewer debt related to swaps, or interest-rate bets gone wrong, pushing it toward possible bankruptcy. Earlier this month, Los Angeles, the nation's second-largest city, demanded that Bank of New York Mellon Corp. (BK: 31.59, 0, 0%) renegotiate a swap deal or face exclusion from any future business with the city. Los Angeles said it is facing payments of $19 million a year on the swaps contracts.
In the case of Wisconsin, the districts banded together in 2006 in what they thought was a safe plan to replenish their teachers' retirement plan. On the advice of a Stifel employee, they invested the $200 million--equal to about one-third of their current combined annual budgets--in bundles of corporate debt that Royal Bank of Canada had packaged into CDOs.
The districts believed they were investing directly in a portfolio of corporate bonds, rather than insuring against corporate defaults, Krawczyk said. But since they were insuring against defaults, the districts would receive a return on their investment only as long as the borrowers repaid their debts. But if around 4% to 5% of the debtors defaulted, the districts would lose their investment.The borrowers included troubled names such as Lehman Brothers, Fannie Mae (FNM: 1.22, 0, 0%) and Freddie Mac (FRE: 1.49, 0, 0%), and they did indeed begin to miss payments as the economy slumped in 2008.
The investment's value dwindled well below the level required by the loan agreement. By the autumn of 2008, as the financial crisis was in full flower, the value fell to below 10%, Krawczyk said. Right now, it is below 5% or less, he estimated.
It would point out that this is not a deal CDR Financial products was directly involved with, but appears to be a separate firm that used similar "investment" strategies that devastated the district and left a lot of angry people in their wake, something along these lines happened in Tennessee with a company called Morgan Keegan:
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)
Same story, different names. As usual the damage from the Convergence continues.
0 comments:
Post a Comment