Moody's Investors Service said it has downgraded the rating on Orange County, Calif.'s 2012 pension obligation bonds from Aa2 to Aa3.

Moody's has also assigned an Aa3 rating to the county's sale of taxable pension obligation bonds Series 2013A. The rating on the county's 1996A and 1997A POBS has been confirmed at Aa1. The county's Aa1 issuer rating and other long term ratings have been affirmed.

The downgrade of the 2012 bonds and assignment of the rating on the 2013A bonds creates a two notch distinction between the POB rating and the county's issuer rating and reflects the agency's changed view of the pledge supporting pension obligation bonds versus general obligation bonds.

The POB pledge is relatively less secure than in Moody's prior estimates, both in terms of probability of default and likely losses in the event of default.

The downgrade also reflects the additional risk to bondholders from the county's financial, operational, and economic conditions over the more secure general obligation pledge.

The county's 2012 and 2013 POBS are secured by the county's pledge to make debt service payments from any legally available revenues. The county's issuer rating reflects what its secured, general obligation rating would be if the county issued such debt.

The confirmation of the rating of the 1996 POBs is reflective of the what is essentially a double barrel pledge and an economic defeasance of the obligations that are now in escrow supported by Aaa-rated federal agencies.

The affirmation of the Aa2 rating on the 2005A recovery bonds reflects that the bonds are unconditional, non-abatable obligations imposed by law.

The totality of the county's credit profile is determined by its gradually improving but still comparatively narrow fiscal position could come under significant duress pending the outcome of litigation with the state. The county's economy is exceptionally large , diverse, and has resumed growth at a modest but accelerating rate while the debt profile features low debt and a rapid payout.

The negative outlook is a product of the county's ongoing narrow fiscal operations and the pressure that would be applied in event of an adverse ruling in litigation.

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