CHICAGO — As the largest buyer of qualified school construction bonds, Guggenheim Partners LLC has purchased a piece of nearly every QSCB issue since the federal stimulus act launched the new type of tax-credit bond earlier this year.
But even Guggenheim paused when Detroit Public Schools offered $90 million of QSCBs earlier this month — the third largest offering by a single school district so far.
“There is a lot of hair on that credit,” said Guggenheim chief investment officer Scott Minerd.
But after talking with Michigan Treasurer Robert Kleine and Robert Bobb, the emergency financial manager appointed by the state earlier this year to take over Detroit schools, Guggenheim Partners ended up buying $75 million of the offering.
The transaction was set to close yesterday.
Two factors drove the decision to buy: a pledge by the state to back the bonds and a yield of 9.25% on the debt.
For Detroit, the sale will allow its new leaders to move forward with a high-profile plan to begin to revamp the troubled system.
For Guggenheim, the investment — with Michigan’s pledge and 9.25% yield — marks another strong QSCB purchase in what Minerd said has been a “great product” for the firm this year.
“We would not have participated in the issue if it had been Detroit Public Schools alone,” Minerd said. “The bond is very attractive at the yield that was offered and the critical element to the equation was the state.
“We understand the situation in Detroit is a challenging one and we think they have made some significant progress in staving off their problems. But we also believe the state is highly committed to resolving the issues in Detroit.”
The QSCB program was intended to provide zero-cost borrowing for issuers by offering tax credits instead of interest to investors, though nearly all issuers have needed to offer some supplemental interest to sell the bonds.
Detroit ended up offering a supplemental coupon of 3.19%, significantly higher than other QSCB issuers.
With a tax credit rate of 6.06%, the yield on the bonds ended up totaling 9.25%.
“The reality is that there is so much uncertainty around the future of the Detroit Public School system,” Minerd said. “There was very little interest or participation away from us.”
After taking over earlier this year, Bobb warned that Chapter 9 bankruptcy protection was a possibility. As DPS would be the first large public school district to file for bankruptcy, it remains unclear how it would affect bondholders.
But Treasurer Kleine reassured Guggenheim that the state would step in to cover the obligations if the school system was unable to, according to Minerd.
“We felt very comfortable with the nature of the [state school loan] program and with the nature of Michigan’s guarantee that, even if we had a bankruptcy, the state would still honor their obligations,” said James Pass, managing director at Guggenheim.
Since qualified school construction bonds were created earlier this year, Guggenheim has bought roughly 50% of the roughly $2.4 billion that have been sold as of Dec. 11, and has participated in nearly every of the 144 transactions completed so far.
The firm buys the debt in large part for its insurance company clients.