The default by the Puerto Rico Public Finance Corporation is a credit negative for bond insurers MBIA Inc. and Assured Guaranty, who each have approximately $5 billion of exposure to the commonwealth, according to a report issued by Moody's Investors Service.
The Puerto Rico PFC failed to pay nearly all of its $58 million debt payment due Aug. 3. The report says that the default confirms Puerto Rico's lack of liquidity and willingness to impose losses on creditors without consultation, making further defaults a virtual certainty.
"Additionally, the decision to default raises the question of whether the restructuring negotiations underway with Puerto Rico Electric Power Authority will extend to other exposures, and the degree of influence the guarantors will have in restructuring negotiations," the report stated.
Moody's also said that PFC's default was widely expected after its July 15 announcement that it had failed to make a scheduled $93.7 million transfer to the bond trustee for full-year debt service on its approximately $1 billion of appropriation bonds. That failure occurred after Puerto Rico's legislative assembly did not include the necessary language for payment in the budget for the fiscal year that began July 1.
"As is typically the case with subject-to-appropriation bonds, bondholders lack significant remedies when legislatures fail to appropriate funds for payment. Moreover, bondholders' ability to sue PFC or the Puerto Rican government is likely to be limited because PFC's payment obligation was subject to legislative action, and the legislature had no legal obligation to appropriate funds for payment," the report said.
Moody's downgraded the Puerto Rico bonds that require legislative appropriation for payment to Ca, including the Government Development Bank senior notes and the appropriation bonds issued by the PFC.
MBIA's muni only arm and lead financial guarantor, National Public Finance Guarantee has approximately $267 million in net par exposure to GDB, which Moody's believes is at greater risk of default given its weaker legal protections and PFC's default.
"The decision to not appropriate funds to pay the debt shows that Puerto Rican authorities are likely to pursue cash management tactics that lead to default and investor losses, particularly for securities not protected by the strongest revenue pledges or constitutional provisions."
The report continued to say that PFC's default, Puerto Rico's first, occurred a month after Puerto Rico met all of its debt service payments due on 1 July -- including the PREPA payment, where creditors and the guarantors worked with PREPA to avoid a default -- and highlights the fluidity of the situation.
"Because the majority of the guarantors' exposures are to securities that benefit from stronger legal protections and revenue pledges, it would be more difficult to unilaterally impose losses on guarantors without risking protracted legal battles. However, the legislature's actions with regard to PFC weaken our expectation about the degree of influence that guarantors will have in restructuring negotiations, a credit negative for the guarantors."
Build America Mutual does not have exposure to Puerto Rican debt.
