BRADENTON, Fla. — The five-notch downgrade of DeKalb County, Ga., two weeks ago calls into question whether market participants can rely on the financial disclosure practices of issuers or their ratings, two municipal analysts say.
Standard & Poor’s downgrade of DeKalb’s general obligation rating to BBB from AA-minus, and the withdrawal of the county’s ratings on March 28, may be the tipping point for investors to demand more information, according to Thomas Kozlik, director and municipal credit analyst at Janney Montgomery Scott.
“I think there are going to be a lot of investors, perhaps as result of that, who are going to say being up-to-date [on financial disclosure] legally is not good enough,” he said.
Kozlik said there are many bonds in the primary and secondary markets from which investors can choose if they do not receive the financial information that they need from a given issuer. That includes current financial detail in bond documents prepared for the primary market.
“I think we’ll end up seeing more volatility and more questions with regard to fiscal performance in the future,” he said. “I think that has led more analysts like myself and investors to require more information before deciding to invest.”
DeKalb’s rapid descent in rating also raises questions about relying on ratings, said Matt Fabian, managing director of municipal research at Municipal Market Advisors.
“Volatile credit spreads, low trading flows, and intermittent demand have made price evaluations less reliable gauges of how much a bond is worth,” Fabian said. “Now, DeKalb has shown that ratings aren’t a reliable gauge anymore either.”
Standard & Poor’s had given the county a gilt-edged AAA rating as recently as January.
The agency’s analysts said the downgrade and withdrawal of DeKalb’s ratings, while unusual, were indicative of a county with a rapidly deteriorating financial condition and inconsistent reporting on which to base a rating analysis.
Moody’s Investors Service maintains a Aa3 rating on the county’s GOs, which was a downgrade from Aa1 in December. Analysts at Moody’s said they have received sufficient information from DeKalb to support their rating.
Fabian, and other analysts, said there is widespread fear that if a triple-A rated credit can go to BBB, and have its rating withdrawn in the matter of a few months, it could happen to any triple-A rated issuer.
“So then how much can the market depend on those ratings?” he asked, pointing out that the steep downgrade comes as market participants are more reliant on ratings now because of the failure of the bond insurance sector. “DeKalb may be a watershed event.”
“I have friends who have been selling bonds for decades that, after DeKalb, no longer feel comfortable putting bonds in retail hands,” Fabian said. “They know they cannot rely on ratings or evaluations like they used to, and, with disclosure as poor as it is they have a hard time doing the work on their own.”
Kozlik said there is clearly a fear of potential rating downgrades among investors and pointed to the feedback he heard from investors after Friday’s mistaken withdrawal of some of Massachusetts’ ratings by Standard & Poor’s.
The state, he pointed out, offers to provide updated financial information as often as it is requested.
Standard & Poor’s said it erroneously withdrew certain CUSIP's on outstanding Massachusetts’ GO bonds but immediately corrected the ratings. No other ratings of the state were affected.
“The fear I heard in people’s voices was real,” Kozlik said. “It was more from institutional investors who said, 'Oh my God, this is happening to one of the largest states we thought was really good.’ ”