WASHINGTON - State revolving funds that rely on investment returns to subsidize loans should be worried about unexpected losses in liquidity and declining future returns, Moody's Investors Service analysts said in a report yesterday.

Many of the revolving funds are considering terminating guaranteed investment contracts with struggling banks and financial institutions and switching to Treasuries and state and local government series securities, Moody's said in a "special comment" on U.S. public infrastructure yesterday.

Analysts warned that switching from a GIC to what is seen as a safer but typically lower-return government investment poses interest rate risk. While the risk may be low-grade and may not materialize as a credit factor, it may result in lower-than-projected cash flow, said Baye Larsen, an assistant vice president and analyst.

State revolving funds generally are well-diversified and rely on multiple GICs for investment returns, and the corpus of the reserves are pledged as security to the bonds, Larsen said.

States with revolving funds that have a reserve model structure - which use federal capitalization grants to furnish reserves from which interest earnings can be taken and used to subsidize loans - include Iowa, Michigan, New York, and Virginia.

"We see them managing their investments wisely," Larsen said.

The SRFs, along with several other infrastructure sectors, are under considerable pressure from turmoil in the credit markets and the overall weakened economy, the report said. But issuers in a number of sectors - including airports, ports, public power utilities, toll roads, and mass transit systems - are likely to survive thanks to their overall sound fiscal management and their place in satisfying necessary public services, Moody's said.

The high costs of fixed-rate and variable-rate bonds, the failed remarketings of demand obligations and commercial paper, and the constrained access of lower-rated issuers to the capital markets are near-term risks for infrastructure sectors, according to the report.

Moody's expects "the baseline demand will generally not fall below levels needed to generate sufficient revenues to support operations and debt service" of toll roads, transit systems, and airports, even if unemployment and other economic factors put short-term stress on those sectors.

The report also cited the prospect of a federal economic stimulus package heavy in infrastructure financial assistance as a benefit to the sectors.

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