Amid volatility for junk-status Puerto Rico credits and with a precarious road to fiscal recovery ahead for the commonwealth, uninsured senior revenue bonds from the Puerto Rico Sales Tax Financing Corp. are being hailed as attractive by Barclays Capital Inc.
Analysts Mikhail Foux, Sarah Xue, and Ming Zhang said the uninsured senior bonds from the corporation, known as COFINA, offer "attractive relative value opportunity for investors with the appropriate level of risk tolerance," in a May 11 report.
The analysts said the COFINA bonds have under-performed based on their dollar price versus most Puerto Rico bonds so far this year.
At the current levels, the senior bonds are attractive compared with other island debt as well as COFINA's own subordinate debt, the analysts said.
For instance, they said the dollar price differential of the senior 5% of 2040 COFINA bonds and the 5% of 2042 Puerto Rico Highways and Transportation Authority, is near all-time lows currently at $4 -- the tightest level since January 2013 at which time the differential was $14. The price differential peaked at $50 in July 2014 when many Puerto Rico credit yields skyrocketed to more than 10%.
In addition, the 5.25% of 2040 senior bonds also offer an attractive risk-reward opportunity when compared to 5.25% of 2041 COFINA subordinate revenue bonds, as the differential has declined to $14 from $16.7 in early July 2014, the analysts added.
"The dollar price differential could continue to widen in certain stress scenarios," they wrote in the report.
The recommendation from Barclays comes as six prominent municipal analysts and experts participating in a Bond Buyer survey this week indicated that it could be four to six years before the commonwealth and the Puerto Rico Electric Power Authority - both currently at junk status - restore their liquidity value and marketability.
COFINA senior and subordinate bonds were downgraded in February by Moody's Investors Service to B3 and Caa1, respectively, from Ba3 and B1.
At the same time, Puerto Rico Gov. Alejandro Garcia-Padilla is struggling with ongoing budget and legislative issue to cure the commonwealth's fiscal shortfalls.
His latest plan suggests cutting spending by 10.4% in the coming years' budget to $8.6 billion from $9.56 billion in the current year. The plan comes after his tax reform proposal, which included a value-added tax (VAT) and other measures, was rejected by the Puerto Rico House of Representatives last month.
COFINA is an instrument of the commonwealth that issues sales tax backed revenue bonds.
Rating agencies have voiced concern over the proposal and its potential effects on pledged revenues to COFINA. Barclays, however, said the rejection of the governor's tax reform appears advantageous to the corporation.
"In our view, with tax reform potentially off the table, at least for now, the uncertainty created by the VAT proposal should abate, mitigating the overhang on the COFINA credit," the analysts wrote.
Under the latest flow of funds, of the 7% sales and use tax, 5.5% are earmarked to satisfying the COFINA pledged sales tax base amounts.
Barclays said it is concerned about how unforeseen events could alter its current recommendation for investment in COFINA, such as legislative measures, tax reform, potential issuance, and GDP liquidity, and that investors should monitor how these developments affect the island credit universe going forward.
"With or without tax reform, the concept of whether or not pledged revenues to COFINA bonds are unavailable resources remains an important topic" the analysts added.
According to the report, the Barclays Municipal Index and the Barclays Municipal High Yield Index currently hold a combined par amount of $17.79 billion in COFINA insured and uninsured senior debt, as well as a combined $8.56 billion of insured and uninsured subordinate debt.
"Although retail involvement across the Puerto Rico credit complex has fallen during the credits' slide into high-yield territory, we think retail investors still have a meaningful amount of COFINA exposure," as it was the last entity to lose investment grade status, the analysts said.
