As a self-described political junkie, Ronald A. Stack, the new chairman ofThe Bond Market Association's municipal securities division, is relishing the chance towork with issuer groups to persuade Congress to ease or eliminate at least three of thetax law's muni bond restrictions.
These legislative efforts will be a top priority for the division, Stack, the head ofpublic finance at Lehman Brothers, and Richard E. Kolman, the vice chairman of thedivision and co-head of Goldman, Sachs & Co.'s muni bond department, said in a recentinterview.
Other areas of focus for the division will include disclosure, price transparency, andderivatives, said the two, who took over leadership of the division on Jan. 1. Stackreplaced Frank Chin, the head of public finance at Salomon Smith Barney Inc., and Kolmanreplaced Stack as vice chair.
"This is the year that there will be tax-law changes," said Stack, who was a formerspeechwriter and deputy chief of staff for former New York Gov. Hugh Carey and taughtpolitical science at two universities.
His comments come as President Bush has already unveiled a $674 billion economicstimulus package containing tax proposals that could affect state and local governmentsand the muni bond market. And the prospects for Congress passing some kind of package -even if it is significantly revised - are good this year because both houses of Congressare Republican-led and next year is a presidential election year, in which politics canbe expected to take precedence over everything else and nothing much gets done.
With most states having racked up sizeable budget deficits and facing fiscal crises, nowis the time for Congress to consider an easing of advance-refunding restrictions, reformof the individual alternative minimum tax, and a repeal of the 10-year rule restrictionfor mortgage revenue bonds, Stack said.
"The fact that there is a tax bill now, we think, is a positive, and the fact that thepresident is concerned about the fiscal crises in the states is another positive," hesaid.
On refundings, TBMA would like to see Congress take up a proposal along the lines of thefiscal stimulus package it enacted for New York City and New York State last March inthe wake of the Sept. 11, 2001, terrorist attacks. The measure allowed city and stateauthorities to refund bonds issued for New York City projects for a second time under anoverall $9 billion cap.
"What we're talking about is the possibility of allowing states and localities a secondrefunding, but having it capped with a sunset date to help them through their fiscalcrises," Stack said. "This would allow states and localities to help provide fiscalrelief to themselves without the federal government becoming directly involved. In ourview, it's the philosophy of letting the states and localities do things themselves,which many Republicans have embraced."
Stack said the proposal would only apply to governmental bonds, not conduittransactions, and that the states and localities could decide how to use the money theysave from the refundings.
TBMA also would like to see the alternative minimum tax indexed for inflation to ensurethat it works as originally intended. The AMT, which is designed to prevent wealthyindividuals from eliminating their tax liability through deductions and exemptions, iscalculated by taking into account the interest from private-activity bonds as well asnumerous other tax-preference items.
"The AMT is hitting everyone now and it's gotten way out of hand," Stack said.
Kolman agreed, claiming the AMT is affecting the middle class now, not just the wealthy."It's really becoming expensive for issuers," Kolman said. "Over the last few years,there's been an average increase in cost of about 15 to 20 basis points for issuing AMTbonds, particularly with serial bonds."
The two TBMA division leaders also want Congress to repeal the 10-year rule restrictionon mortgage revenue bonds that requires single-family housing bond issuers to call bondsthat have been outstanding for 10 years or more when mortgages are prepaid rather thanrolling the proceeds into new mortgages.
"I think we've had more sponsors on that bill than we have members of Congress," jokedStack. "We had 361 in the House and 78 in the Senate last year. Everyone says repeal ofthe rule would be terrific, but we've been unable to get a bill to attach it to."
In the securities area, the division also will keep working with the Muni Council, agroup of more than 20 muni market organizations, to try to improve secondary marketdisclosure. "We're not finished," said Stack. "We're going to work with the Muni Councilto either replace, improve, or complement the current NRMSIR [nationally recognizedmunicipal securities information repository] system," he said.
TBMA hopes improvements can be made without any changes to the Securities and ExchangeCommission's Rule 15c2-12. "The rule itself is fine," Stack said.
Chin will continue to be TBMA's key representative with the council, though Stack saidhe will attend some meetings.
Price Transparency
Stack and Kolman said they remain committed to the goal of reaching real-time reportingof prices in mid-2004, but that they are concerned about the potential effects onliquidity of reporting prices of bonds that rarely trade in the secondary market. Kolmanis heading up a task force that plans to study the impacts. He said the task force willbe broad-based and will likely include investors. He hopes to hold the group's firstmeeting before the end of the month.
"It's interesting," Kolman said. "Everybody wants more price disclosure. But you'll heartwo different trains of thought. You'll have even the same investors saying, `Oh, it'sgreat I can see what occurred the day before.' But then they'll say, `Oh, I want to dothis one-off trade and [the price] is going to be out there and it's going to hurt myportfolio.' "
"At the end of the day, it might be that the result is that liquidity is fine. But wefeel that we're at the stage now where this is really the time to look at it," he said.
Neither Kolman nor Stack would comment on the lawsuit that former trader Kevin Olsonfiled against muni firms last year claiming they violated the securities fraud laws andrules by taking excessive markups and markdowns on bond trades. Olson, who initiallyfiled the suit in a California court, was unhappy after the firms moved it to a federalcourt. He withdrew the suit and is expected to revise and refile it in a state court.
"If you really comb through and look at the trades in the MSRB reports, there's not awhole lot of things that stand out," said Kolman, whose firm was not specifically namedin the suit.
On derivatives, both Stack and Kolman said they support the Municipal SecuritiesRulemaking Board's review. The board launched the review last year because of thegrowing use of derivatives in the municipal market.
All of the major firms and a high percentage of regional ones are now doing derivativestransactions - mostly interest-rate swaps and option-based products like swaptions. TheMSRB has no regulatory authority over derivatives, but wants to make sure that it's ontop of how derivatives products are being used in the market and whether issuers andinvestors fully understand these products.
"It's an educational exercise," said Stack.
"We're convinced that the more people know about derivatives, the more willing they areto use them effectively and, most importantly, appropriately," he said. "We believe thederivatives markets are working extremely well and provide a tremendous benefit toissuers."
"Issuers are starting to realize that this is just another tool," said Kolman. "They'reasking, `What is my best alternative, the cash market, the swap market?' And then theyanalyze the best option to lower their cost of funds."
Swaps are not defined as securities and are therefore not regulated under the securitieslaws. Asked why they should not be regulated, Stack said, "They're contracts between twoparties related to cash flows, not securities being issued into the public market."
Stack said his firm and its lawyers go to great lengths to make sure they disclose allkey information in derivatives transactions. "We bend over backward to make sure thateverything is disclosed. One area we don't want any problems is disclosure," he said.
Market Shutdown
The division of the TBMA also is monitoring rule changes proposed by the MSRB that wouldallow the board to shut down the municipal market in the event of a catastrophe thatdisables critical market systems. The association strongly opposes the proposal andclaims it is not needed.
"I have tremendous respect for Hill Feinberg [the MSRB chairman] and the members of theboard, and we believe that they're operating with the best of intentions," said Stack."But after Sept. 11, 2001, everyone pointed to the muni market and how quickly it was upand running and how well the TBMA handled the situation. Everyone said we didextraordinarily well."
"Since Sept. 11, we've been working on this. We have an even better disaster recoveryplan ... So we feel very strongly that we did a good job and are prepared to do an evenbetter job" should another such event occur, he said.
Stack said he hopes that TBMA and the MSRB can come to some agreement on this issue. "Wewill be speaking to the MSRB and we're just hopeful that with the benefit of a fulldiscussion we can come to some common ground," he said.
The MSRB is also looking at whether dealer contributions to state and local campaignsfor voter approval of new bond-issue initiatives present pay-to-play problems. At leastone bond lawyer has raised concerns about such contributions. Stack said he does notbelieve they constitute a pay-to-play problem.
"We're asked all the time whether we can contribute to bond-ballot measures and, as ageneral rule, we support bonds," he said. "I don't think we do it to gain any benefitfrom the issuers. It's a general support of bonds. We do not give money to getbusiness."
Many bond-ballot initiatives are for transactions that are to be competitivelyunderwritten, he said.
Stack said also that it is ironic that bond lawyers are complaining about this issue,given their refusal in the past to adopt a G-37-like rule under pressure from somemembers of the bar and former SEC chairman Arthur Levitt. The rule, which was put inplace in 1994 to prevent dealers from engaging in pay-to-play practices, prohibitsdealers from engaging in negotiated municipal securities business with issuers for twoyears if they or their muni finance professionals make significant politicalcontributions to issuer officials who could influence the award of bond business.
Both Stack and Kolman predicted annual bond volume this year will be lower than lastyear due to the huge one-time transactions that occurred in 2002, such as the CaliforniaDepartment of Water Resources' $11.9 billion deal and the New York MetropolitanTransportation Authority's issuance of $13.5 billion of refunding bonds over a seven-month period. They also cited the number of refundings done last year to take advantageof low interest rates, and said they expect volume to be approximately $275 billion to$300 billion.
The two men also said to expect more tobacco-settlement securitization deals, cash-flowborrowings, and transactions with derivatives this year. Tobacco financings are "thebiggest wild card that could affect volume," Kolman said.
"You're going to have more financing in the interest-rate swap and derivatives worldthan you had in the past," he said. "You'll see continued growth in that area as issuerslook for different ways to work on their balance sheets. So a greater part of thefinancings this year will be outside of the traditional cash market."
There will be more cash-flow borrowings, more notes, as governments have budgetaryimbalances," Stack said.
Both Stack and Kolman are TBMA board members and Stack is also on the board of directorsof the Nassau County Interim Finance Authority, which was created in 2000 to help dealwith the county's fiscal problems and is chaired by Frank Zarb, the former head ofNasdaq. Stack says that since he took the post, Lehman Brothers has declined to seek anymuni bond business from the board.
Stack's roots are in politics and the political arena remains a key interest for himtoday.
"I'm a political junkie," he said. "I wouldn't do this to finance widgets. I care aboutNew York City and New York State. I like politicians."
Stack was a speechwriter and the deputy chief of staff for the late Gov. Hugh Carey inthe late 1970s and early 1980s. He was an adjunct professor of political science atColumbia University and Fordham University from 1972 to 1974. He was also a managementconsultant for the former Touche Ross. He joined Lehman Brothers in 1985 as a vicepresident and became a managing director in 1991. Stack left Lehman in July 1992 andwent to Goldman as a vice president in the muni bond department. He then returned toLehman in September 1995 as a managing director and became the firm's head of publicfinance in 1999.
Kolman started his career at the former Chemical Bank in the corporate bond department.He joined Goldman's muni bond department in 1978.
