The Florida dirt bond sector, after retrenching dramatically during the financial crisis, is showing signs of recovery in both market activity and credit measures including default and restructuring rates, refunding activity, issuer ratings and leverage levels for recent deals. In 2014, there have been 87 new issues totaling roughly $1 billion of par value, according to Interactive Data MuniViewSM reference data. The majority of defaulted deals have either been cured or restructured. In many instances, bonds which traded at a substantial discount during the financial crisis have recovered to par or greater than par. In this article we will update the details of market trends and conditions for Florida Dirt bonds that Interactive Data presented in a previous Bond Buyer article in November, 2012 ("Digging Deep — Florida Dirt Bond Sector in Review").
Florida dirt bonds are real estate-related bonds issued by Community Development Districts (CDDs) that are typically formed by a real estate developer to help finance infrastructure supporting housing developments. The bonds are secured by special assessments levied against the land in the district.
Helped by a significant recovery in Florida real estate in many parts of the state, the Florida CDD market has self-adjusted to address issues with financings in the past cycle, according to Jon Kessler of FMS Bonds, a leading underwriter of Florida CDD issues. Recent CDD deals are smaller and phased around defined project areas and have significantly less leverage than transactions during the last cycle, both in terms of bond debt and bank debt, Kessler adds. This is due to more disciplined bond structuring by underwriters and bond purchasers than in the previous cycle.
Other underwriters of Florida dirt bonds today are MBS Capital Markets and Citigroup. During the boom years of 2004-2007 the main underwriters were Bank of America and Prager, McCarthy & Sealy.
During the period in which real estate home sales dropped from 2007-2010, a number of real estate projects with significant bank and bond debt leverage or projects in tertiary markets missed or delayed debt service payments. Kessler says a majority of those projects have recovered and are viable projects today. Transactions have been restructured or sold to land developers. Today, real estate land values and lot prices in Florida may match or exceed where they were in the last cycle, he says.
In the past two years, select Florida dirt bond issuers have attained low investment grade ratings (see table).
Market activity reflects the sector's significant price recovery. Interactive Data evaluated price histories for six selected Florida dirt bonds points to a steady upturn since late 2009, with temporary interruptions in winter 2010-11 and spring 2013 (see chart). During 2009 each of the six Florida CDD bonds displayed in the chart were evaluated between 30 and 60 cents on the dollar; as of October 31, 2014 all had recovered to within 2% of par.
At the onset of the financial crisis each project suffered similar setbacks, including build-out delays, debt service reserve fund draws and developer delinquencies. Today, the districts reflect strong developers, locations in or with access to population centers and good road access, infrastructure in place and approved permitting. Some original developers were able to successfully navigate their projects over the five-year local recession from 2007 through 2012, while another district had a national builder/developer take possession in 2012 after the original developer had its property foreclosed. Developers used a variety of revenue sources to sustain viability of their projects and to stave off default during the real estate downturn. These included periodic land sales and use of their own financial resources. Some districts used a combination of debt reserves and sales of tax certificates to investors to make bond payments. Today, the districts examined are significantly built out or are positioned to be.
In 2014, an exceptionally strong year for bond market returns, the dirt bond sector is outperforming the broad municipal market. Dirt bonds from Florida and other states returned 10.3% from January 1 through September 23, 2014, compared with 7.7% for the overall municipal bond market, according to data from S&P Dow Jones Indices cited in a September 24 Bloomberg BusinessWeek article.
On the other hand, Florida Auditor General David Martin warned in a recent report that at least one in four CDDs in the state faces serious financial difficulties. Issued in early November, the auditor general's report is based on information contained in 445 audits filed by CDDs for fiscal 2013; of those, serious difficulties were found in 110. Ninety-five districts reported fund balance deficits for fiscal 2013 and 75 failed to make one or more scheduled bond payments due to lack of funds.
Jon Barasch is Director, Municipal Evaluations, and Edward Krauss is Senior Credit Analyst, Municipal Credit Group, for Interactive Data Corp.