Massachusetts May Sue Companies Involved in UBS Swaps

The Massachusetts Turnpike Authority may file suit against companies involved in five floating-to-fixed-rate swaps with UBS Securities LLC that, if terminated, would cost the agency roughly $435 million.

MassPike last week issued a request for proposals for legal services. Duties include "advising the authority on the viability of any potential causes of action against the swap counterparty, financial adviser, insurer, rating agencies, and/or other responsible parties, associated with five floating-to-fixed rate swap agreements entered into by the authority in May 2001," according to the RFP. Responses are due by 3 p.m. Eastern Standard Time on Feb. 20.

Those 2001 derivatives are swaps that MassPike holds with UBS as counterparty. Lamont Financial Services Corp. advised the authority on the derivatives and Ambac Assurance Corp. insures them. A further downgrade of the monoline by Standard & Poor's would prompt a termination event, said MassPike executive director Alan LeBovidge.

"The mid-market value of the five swaps was estimated to be approximately $435 million as of Jan. 8, 2009," according to the RFP.

Standard & Poor's in November downgraded Ambac to A from AA and assigned a negative outlook. That same month Moody's Investors Service dropped the insurer to Baa1 from Aa3 with a developing outlook. Fitch Ratings does not rate Ambac. All three agencies declined to comment on a possible suit.

UBS and Ambac declined to comment on MassPike's search for legal counsel regarding the swaps. Lamont did not return calls by press time.

Massachusetts lawmakers may again apply the state's general obligation pledge to the UBS swaps, which have a notional amount of $800 million. Having the commonwealth's double-A backing helps MassPike avoid a termination event.

The Special House Committee on Transportation yesterday unanimously approved a bill to place the state's GO commitment on the swaps, according to Ashley Allen, spokeswoman for Rep. Joseph Wagner, D-Hampden, who chairs the panel.

A prior GO pledge from the state expired on Jan. 15. Gov. Deval Patrick filed legislation on Jan. 23 to renew the commonwealth's full faith and credit on the swaps.

The five UBS floating-to-fixed-rate swaps are attached to $800 million of fixed-rate debt. UBS agreed to pay the authority $29.1 million in installments from 2002 to 2008 for the right to exercise its right on the swaptions. UBS exercised its right on all five swaptions in 2008.

Under that agreement, MassPike pays the bank a fixed rate - ranging from 4.75% to 5%, depending on the derivative - and receives 68% of one month of the London Interbank Offered Rate.

In addition, UBS paid $6.2 million to Ambac to provide insurance on variable-rate bonds the authority would need to sell to refinance the $800 million of fixed-rate debt into variable-rate mode in the event the investment bank exercised its right on the swaptions, according to the RFP.

Due to market conditions, MassPike has been unable to refinance the debt. As a result, it pays two fixed-rate payments - one on the swap and one on the bonds - and receives the Libor payment from UBS. That mismatch costs MassPike $2 million per month, beginning Jan. 1.

The authority will use the state's appropriation pledge on the refinancing deal. The extra credit boost will help the agency at market as it carries triple-B ratings from Fitch Ratings and Moody's. Standard & Poor's does not rate MassPike.

The RFP does not mention five fixed-to-floating rate swaptions the authority had with Lehman Brothers Special Financing Inc. but which had not been exercised. In December, MassPike paid Lehman $3.4 million to terminate the five swaptions.

MassPike entered into the fixed-to-floating rate Lehman swaptions in 2002 to offset the floating-to-fixed rate UBS swaptions.

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