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Buyers in Need of Education

SAN FRANCISCO — Education and information have become a more valuable tool in the municipal bond market since the meltdown of 2008, participants in The Bond Buyer's California Public Finance Conference said Wednesday.

Investors — even sophisticated ones — need a lot more information, panelists said on the conference's opening afternoon.

That includes taxable investors new to municipal credits, drawn by the Build America Bond program, and sophisticated tax-exempt investors, who say they have to navigate an environment redefined by the removal of most bond insurers from the new-issue field.

"What we are finding is we have to drill down a lot more," said municipal buy-side veteran Stephen Galiani, managing director at Wells Capital Management.

"The dispersion of quality within each sector is much wider than it has been in the past," he said.

Time and familiarity have made more and more investors comfortable with the taxable Build America Bond program since it kicked off last year, said Peter Clarke, vice chairman and senior underwriter at JPMorgan.

"The size of the pool of investors has grown dramatically," he said, adding that when the first BABs were issued, there were 20 or 30 investors looking at the deals. "Now you have well over 100 on a large deal and the universe keeps expanding," he said.

The program's future is in limbo — the original BAB authorization expires at the end of December and Congress is unlikely to act on an extension until the lame-duck session after next month's election.

Because of that uncertainty, look for a "BAB-alanche" of issuance before the end of the year, said Raul Amezcua, principal at De La Rosa & Co.

"I think there is going to be a significant amount of bonds issued into the taxable market before year-end," he said.

Even if the BAB program is extended, issuers are targeting 2010 because any extension that comes to pass is likely to come with a subsidy lower than the current 35% received by issuers.

The effectiveness of the BAB program will be greatly diminished if congressional indecision results in the subsidy program being interrupted after Dec. 31, according to Clarke. The taxable market will not react well to a stop-and-start to the program, he said, adding: "That part of the market really values liquidity."

Concerns about liquidity are the main reason the BAB market sometimes operates in ways that are not intuitively obvious to people who aren't familiar with the taxable markets, Clarke said.

That's why there is a real benefit to size in a deal, he said — reaching the $250 million mark is probably worth 10 basis points to the issuer. "There are definitely buyers who won't surface if it's a $75 million deal," Clark said.

The creation of the BAB program has also encouraged issuers to become much more educated about tax laws, market participants said.

"What the BAB program did was open up the door to increased federal involvement in local issues, particularly with the IRS' ability to withhold BAB payments," said Kathleen Brown, managing director at Goldman, Sachs & Co.

BAB issuers have to send a signed form certifying their compliance every time they request a subsidy payment, noted Charles Cardall, a tax attorney at Orrick, Herrington & Sutcliffe LLP.

"That's just a regular interaction with the IRS causing you to say, 'They're going to send me a million-dollar check and I'm signing my name to the request, so we better make sure we're getting it right,' " he said.

"The dynamic between [the Internal Revenue Service] and issuers is fundamentally different," said Steven Chamberlin, senior manager in the IRS' tax-exempt bond program.

"Conceptually it's still the same but it's a very tangible difference," he said noting that the IRS has already sent out $1.6 billion in direct-pay subsidies.

"That number is on a very upward projected curve and will continue to move upward regardless of what happens with extender language," he said.

Retail investors have become a much more important component of the tax-exempt markets in recent years, said Debra Saunders, vice president in municipal finance for Fidelity Capital Markets.

But that creates challenges for the industry to educate them, she said, particularly since there are so many gloomy and inaccurate stories about municipal credit in the mass media.

"It's frustrating to separate the real reforms versus the headlines which paint everything with a very broad negative brush," Saunders said. "How do you educate people about what's really going on in muniland, versus the headlines?"

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