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Detroit Takeover Bodes Well for Investors, Muni Experts Say

CHICAGO -- Michigan’s historic takeover of Detroit, announced Friday, bodes well for the city’s bond investors, municipal market experts said Friday, even as Gov. Rick Snyder warned he would seek cuts from all creditors.

Snyder Friday declared the long-struggling Motor City to be in a state of financial emergency and said he would likely appoint an emergency manager to take over within two weeks. The announcement was expected after a state review team recently released a report outlining the city’s problems.

The move is viewed favorably by most muni experts as a way to stabilize a suffering city and indicate support for other distressed local governments in Michigan. Several experts praised Michigan over states like Alabama and California, which have had a more hands-off approach to their own problem-plagued municipalities. 

“I’m always somewhat encouraged when a state takes an active role in helping out a city’s finances,” said Howard Cure, director of municipal research at Evercore Wealth Management LLC. “The problems of the city are particularly entrenched,” he added. “But I don’t see the city solving them itself, and an emergency manager would have the authority to make unilateral decisions on their own. I think bondholders would be pleased with the decision.”

Among Detroit’s fiscal problems are long-term liabilities that total nearly $15 billion. Snyder said he expects an EM would ask all creditors to be part of the restructuring. “All the creditors need to be called to the table,” he said. “We’ll be asking something of everyone. That should be part of the strategy.”

It’s still too early to tell what that means for Detroit bondholders, experts said.

“The governor’s comments that all creditors should be called to the table could, in theory, be an issue for bondholders,” said Lisa Washburn, a managing director at Municipal Market Advisors. “Or it could mean a refinancing aided by the state. Too early to tell.”

Washburn agreed with other market participants that the stepped-up state presence is good for investors. “The appointment is positive from an investor standpoint, because it will facilitate decision-making with an eye toward improving the financial position and services in the city.”

Brad Reynolds, chief investment officer at Troy, Mich.-based LJPR LLC, praised the takeover and said he is not overly worried about having to take losses. “I always have that nervousness in this kind of situation, but historically that’s not necessarily the first or best way to go about fixing the city,” Reynolds said. He added that an EM would be able to transcend a “combative” political situation that has aggravated Detroit’s financial problems. “Over the long term, it will be a positive.”

Of the city’s $14.9 billion of long-term debt, $5.7 billion is due to other post employment benefits, which an emergency manager would be able to trim under the state’s pending new law for distressed governments. Another roughly $650 million comes from an unfunded pension liability, though a new report recently warned that the actual number is higher.

Another $1.5 billion of the debt comes from pension certificates issued in 2005 to fund the city’s two systems. Eight interest-rate swaps hedge $800 million of the certificates. The COPs and swaps are both contract-based payments. Water and sewer bonds make up the bulk of another $6.1 billion of non-general obligation bonds. The city has $963 million of GOs, both limited and unlimited-tax.

Belle Haven municipal analyst Tamara Lowin said the city’s unlimited GOs enjoy a strong security in the hierarchy of the city’s long-term debts. “Debt service on the unlimited GOs is one of the smaller liabilities that the city is facing,” Lowin said. “And the structure supporting the lien is strong.” 

It’s unlikely the state would let the city default on its bond debt or demand a big haircut from investors, Lowin added. “Michigan knows that everyone is watching,” she said. “If the state made all the bondholders take cuts, that’s going to affect local government debt throughout the state, which in turn would put more strain on the state budget.”

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