LOS ANGELES — The written opinion U.S. Bankruptcy Judge Christopher Klein issued in the Stockton Calif. bankruptcy conveys a mixed message for investors, according to a Moody's Investors Service report.
A trio of analysts deemed positive Klein's opinion that pensions in California are not exempt from impairment in bankruptcy, but wrote that the final confirmation that leaves Stockton pensions intact is a negative for bondholders.
"We expect California local government bankruptcies to remain rare events, especially as the economy improves," Moody's analysts Greg Lipitz, Thomas Aaron and Naomi Richman wrote in the March 10 report. "However, those that do enter bankruptcy will now have more options in fashioning a reorganization, beyond impairing bonded debt."
On the flip side, the report said the court suggests that the right to cut pensions is limited, somewhat undercutting the importance of allowing bankrupt cities to reduce their pension liabilities. This suggests, according to the analysts, that cuts to bonded debt will remain a significant feature of future bankruptcies.
They also deemed it negative that the judge compared overall recovery rates between capital-market creditors and city employees' retiree pension and healthcare claims.
"In so doing, the court may have provided a blueprint for future bankruptcies, in which cities cut debt and retiree health benefits, while leaving pensions untouched," they wrote.
Klein's written decision issued Feb. 4 confirmed the oral ruling made in October in the Chapter 9 bankruptcy.
The California Public Employees' Retirement System opposed the idea that pensions can be impaired in bankruptcy arguing that the pension fund is an arm of the state and a federal court cannot interfere in the relationship between a state and its local governments in bankruptcy. But Judge Klein concluded that CalPERS is just a servicing agency for Stockton's retirees, and the service it provides does not fall within the scope of what would qualify as a state agency.
The denial of CalPERS argument is a positive for bondholders, but the fact the court confirmed Stockton's plan, which left pensions intact, is a negative for the city's bondholders, according to Moody's.
