Don't sweat munis
State, city bonds not facing defaults
I was talking to a well-known billionaire magazine publisher about municipal bond defaults and I mentioned I wasn't sweating them.
He asked me, jokingly, if I thought Washington was going to bail out California. I said that California has zero issues and he walked away chuckling to himself.
California Gov. Arnold Schwarzenegger does have a worse disapproval rating than any of his predecessors and faces a Democratic legislature that can't say no to a spending bill or tax cut.
But despite "The Governator" having to run this gauntlet, there are bankruptcy laws for cities but not for states. When a state can't pay its bondholders, it has only two choices: sell assets or increase taxes. It has no other options. Let's take my friend's example of California as a case study.
The California constitution mandates that education costs be paid first out of any revenues coming in. California has about $90 billion in revenues. About 40 percent of that goes to education. After that, as per the California constitution, all debt payments have to be made. After that, California can spend on whatever it wants: police, landscaping, random buildings, etc.
Debt service payments come to about $5.5 billion per year. In other words, each year California makes its debt payments, with an extra $50 billion to spare.
This is why it has no problems refinancing and why municipal bond yields are at record lows. Most states have similar clauses in their state constitutions: that debt service payments come before anything else.
Well, what about cities? Cities can go bankrupt, can't they? Yes, cities can file for Chapter 9 bankruptcy. But even then, cities are different from corporations. Cities don't get liquidated. They still have to figure out how to pay off their debts (so they can borrow again in the future) and raise revenues.
Read more: http://www.nypost.com/p/news/business/don_sweat_munis_Yz1p3kAWNfJXWEgnN96NQO#ixzz0jTlsPSes