CHICAGO - Already grappling with a spike in interest rates on nearly $1 billion of auction-rate securities in its overall debt holdings, the Chicago Public Schools system last week saw the rate on an insured $65 million variable-rate demand obligation bond jump to a state-imposed maximum of 9% at remarketing.
The district saw the steep increase in the rate on a tranche of bonds that carry insurance from triple-A rated CIFG Assurance NA,schools treasurer David Bryant said Friday. The insurer's credit is under review by Moody's Investors Service for a possible downgrade, is on negative watch from Fitch Ratings, and carries a negative outlook from Standard & Poor's.
Like other issuers with a good chunk of auction-rate securities, the district has been grappling with how best to bring its borrowing costs down on its $1 billion ARS debt portfolio as rates shot up and auctions have failed over credit and liquidity concerns.
CPS, like others, is considering the option of converting to a more traditional liquidity-backed VRDO bond, but the concerns over the credit crunch and insurance quality have driven variable rates up over the last week also. That's hurt the allure of the variable-rate demand market as an alternative to auction-rate securities as reports grow of remarketing agents directing investors to draw on the paper's liquidity facility provided under a letter of credit or standby purchase agreement. Those draws and the rush of issuers seeking liquidity support in order to restructure ARS to VRDO bonds has dried up capacity and driven up prices.
In addition to $1 billion of ARS, CPS has another $1.8 billion of variable-rate bonds in its overall debt portfolio of $4.5 billion. The district uses seven firms in the role of broker-dealer on its auction rate holdings that were issued beginning in 2003. The district has contracts with all of the major triple-A rated monoline insurers. Much of the floating rate exposure - in both auction-rate and variable-rate mode - is hedged through swap contracts and built into its bond documents in some cases is the ability to convert to different modes.
Bryant said the district can withstand the increased borrowing costs for a limited time as officials left a financial cushion in place when constructing the deals to account for the occasional mismatches in debt service payments and swap payments.
"We do not expect that this will impact the operations of CPS, but we are working as quickly as we can to restructure the ARS," Bryant said. The district has had preliminary discussions with insurers that back its debt and potential liquidity providers. The district is working with its longtime financial adviser Adela Cepeda of A.C. Advisory Inc.
Amid limited ability to raise revenues, CPS struggles annually to balance its operational budget and this year is seeking $180 million in additional state funding. The district also in the last few years has been squeezed to fund its long-term capital budget amid a drought in state capital aide. The city stepped up in 2006 to provide about $600 million in tax-increment funds to help the capital program stay on track.
While the increased auction rates sting, the district does benefit from state law that limits interest rates to 9%, so it's escaped the spike in some cases of up to 20% seen by other issuers in states that don't have similar limits in their statutes.
The district, that issues its debt through the Chicago Board of Education, late last year put on hold a planned $150 million new-money auction rate sale amid volatility in the market although auctions had not yet begun to fail at that point. Bryant said the district intends later this year to issue new-money debt.
The district carries general obligation ratings of A-plus from Fitch Ratings and AA-minus Standard & Poor's and A1 from Moody's Investors Service.
