CHICAGO - Fitch Ratings late last week placed Detroit's BBB general obligation credit on negative watch, a move prompted by concerns that the city will be forced to make an estimated $400 million swap termination payment due to the loss of its investment-grade rating from another agency.
The Fitch action came late Thursday, two days after Standard & Poor's knocked its low investment-grade ratings on the city's unlimited- and limited-tax GOs to BB, two notches into junk bond territory, due to the city's deteriorating financial position. The move affected $2.4 billion of outstanding debt, including the city's $1.5 million of pension certificates sold in 2005 and 2006 through the Detroit Retirement Systems Funding Trust.
The downgrade triggered a termination event in the interest rate swap agreements Detroit has with several counterparties on $800 million from the transactions. The city estimates that the current mark-to-market value would require a $400 million payment, an amount Mayor Ken Cockrel Jr. has warned the city cannot afford.
Fitch agreed. "A payment of the magnitude of the current valuation, if required, would notably increase the city's already considerable financial pressures," analysts wrote. The rating agency had previously assigned the credit a negative outlook. The shift to rating watch indicates more imminent credit action might be taken that would affect $541 million of unlimited-tax GOs, $154 million of limited-tax GOs, and the $1.5 billion of retirement certificates.
The city hopes to avoid such a payment to its counterparties, UBS AG and SBS Financial Products Co. Merrill Lynch & Co. provides a guarantee on the SBS swaps. "We are in consultation with our financial adviser and attorney regarding this issue. We are involved in meetings on a daily basis to identify a set course of action and will provide details at a later date," Cockrel spokesman Daniel Cherrin said yesterday.
Fitch's Amy Laskey said the agency would consider any developments on the swap termination along with the city's latest financials in the coming weeks as it decides whether to take rating action. Analysts are also concerned with the city's weak economic indicators, prospects for further declines in employment and wages, and the city's budget deficit and continued delays in reporting audited financial results.
The fiscal 2007 audit is a year past due. Cockrel is expected later this month to release his plan to eliminate a combined $300 million structural and operating budget deficit. A fiscal 2010 budget is due to the City Council in April.
Moody's Investors Service currently rates the city's limited-tax bonds at Ba1 and unlimited-tax bonds Baa3.
Detroit's economic troubles reflect in part the state's struggles. On Friday, the state's revenue estimating conference announced revised revenue projections that show a drop of $579 million, to $8.3 billion in the amount of general purpose revenue expected in the current fiscal year, which ends Sept. 30. The school aid fund revenues were revised downwardly by $339 million to $11.4 billion. Spending cuts ordered last year and $500 million carried over from the last fiscal year will help reduce the shortfall.
The group projects that in the next fiscal year the state will collect just $7.9 billion of general purpose revenues and $11.3 billion of school aid revenues. A fiscal 2010 budget will be released next month.
The conference group is made up of Michigan Treasurer Robert J. Kleine, Senate Fiscal Agency director Gary S. Olson, and House Fiscal Agency director Mitchell E. Bean.
"It is not clear what the immediate or long-term future holds for the domestic auto industry and questions remain about the size and timing of a possible federal stimulus package," Kleine said. "Amid the national recession and with continued job losses projected through 2010, state revenues will continue to be very weak."
