CHICAGO - Market timing, yield-hungry investors, improved ratings and bond insurance helped Detroit's $1.8 billion water and sewer revenue bond sale draw about $7.6 billion of orders, allowing the city to lower interest rates and carve out additional savings.
The bonds priced Tuesday through the Michigan Finance Authority with Citi running the books. The sale included $1.64 billion of refunding bonds to cover the city's purchase of bonds tendered by investors, and refund some currently callable bonds. The sale also included $150 million of new money bonds for sewer system improvements.
The sale attracted orders from about 64 institutional buyers, including many who participated in the department's tender offer program, according to the Detroit Water & Sewerage Department.
City officials said the deal netted Detroit $249 million of interest rate savings over the life of the bonds. They did not offer a present-value savings after the bonds priced but before the deal, based on the previous projection of $241 million of savings, the refinancing had been expected to generate present value savings of $107 million or 6.2% over the 27-year life of the debt.
Assured Guaranty Municipal Corp and National Public Finance Guarantee Corp. provided insurance on large chunks of the sale.
"Today's overwhelming response to our bond sale shows our customers that the market's interest in DWSD should result in greater reinvestment in the system with less reliance on future borrowing," DWSD director Sue McCormick said in statement Wednesday.
The department credited the sale's outcome to bond rating upgrades, investor outreach, and the federal bankruptcy court's approval Monday of the voluntary tender offer and refinancing. U.S. Bankruptcy Judge Steven Rhodes approved the tender and refinancing after the Board of Water Commissioners voted to accept the tender results on Friday.
"Despite the city of Detroit's status in Chapter 9 bankruptcy, the fundamental credit strengths of DWSD overcame that challenge. The result was investment-grade ratings by two of the three major rating agencies," McCormick's statement said.
All three rating agencies upgraded the DWSD's ratings, which have been in junk territory following the city's attempt to impair some the bonds in its bankruptcy plan of adjustment.
Fitch Ratings lifted the department's senior lien bonds out of junk assigning the lowest investment grade rating of BBB-minus and Standard & Poor's more firmly planted the senior and second liens into investment grade territory by assigning a BBB-plus rating.
Despite a two-notch upgrade from Moody's Investors Service, it still assigns underlying junk ratings to DWSD debt.
DWSD said as part of its outreach it hosted representatives from more than 23 major investment firms at an event in mid-August, and 35 additional investors participated by phone. The department offered investors a look at the department's strategic and financial plan, updates on the Detroit economy by community leaders, and a tour of the sewage treatment plant.
The deal comprised $855 million of senior and second lien water bonds and $937 million of senior and second lien sewage bonds, with most coupons set at 5%.
Insured tranches saw more favorable results of between 20 and 30 basis points.
On the water enterprise bonds, the final 2037 maturity on an insured senior lien series yielded 4.52% while a 2028 maturity on another insured senior lien series yielded 4.09%. Assured wrapped both series. A senior lien uninsured series paid a high yield of 4.73% in 2034. A second lien series insured by National paid 4.87% on a 2036 maturity. A second lien uninsured series paid 2.17% on the final maturity in 2018.
On the sewer revenue bonds, a senior lien uninsured term bond in 2044 paid 4.85%. A senior lien uninsured term bond in 2044 subject to the alternative minimum tax paid a yield of 5.10%. A senior lien series insured by Assured paid 4.42% on a 2033 maturity. A senior lien uninsured series paid 4.68% on a 2033 maturity. A second lien series insured by National paid 4.87 % for a 2036 maturity. A second lien uninsured series paid 2.17% on its final maturity in 2018.
Closing is expected Sept. 4. Senior manager Citi distributed 65% of the bonds, with Barclays and JPMorgan distributing 12.5% each and five other firms distributing 2% each.
Bond documents warn several times that Detroit is at risk of filing for Chapter 9 bankruptcy again. In that case, the water and sewer bonds are subject to extraordinary optional redemption at par.
Some traders they were surprised by the final pricing results with many attributing the draw to the bonds' yield opportunities and its timing during a week with scant supply.
"It seems too rich, but you have a lot of people that felt like they missed out on yield opportunities like Puerto Rico and they want to make sure they're in on the next yield play," said one New York City-based trader. "On top of that, it's an interesting week to bring the deal. A lot of people are on vacation and the pricing certainly takes advantage of the light supply."
Some steered clear saying the deal didn't offer sufficient yield for the risk.
"I wouldn't touch this thing with a 10- foot pole," the New York trader said.
"They botched the tender by sending out the letter so late that no one could respond and subsequently didn't get a full showing. I don't know that I'd call this a success, but they're certainly acting as if it was," the trader said.
"Put it this way, they just turned the water back on in some areas this morning and this is all the yield that you get?" the trader said. "You can get a Cal State kicker for 450, and I'd rather have that, at least Cal has figured out what their issues are," the New York-based trader said.
"It seems very aggressively priced, it's hard to stomach, are we really there?" said one New Jersey-based trader as the deal was pricing. "There's no supply and there hasn't been for a while. It's getting good interest and had an uptick this morning as the markets felt a little firmer. There's just no supply so people are paying up for stuff like this because there's nothing else to do."
Detroit initially sought to impair about 40% of water and sewer bonds to the dismay of many market participants, given their strong revenue pledge, but devised the tender program as an alternative that allowed it to carve out sufficient savings and settle the dispute with holders and insurers.
The city will amend its plan of debt adjustment and treat all of the water and sewer debt as unimpaired once the sale closes and the tendered bonds are purchased, with the untendered bonds continuing to get the scheduled principal and interest payments. The department's bond portfolio totals $5.2 billion.
