Shaky bond insurers cost taxpayers money

Sage editors, wishing to impress upon cub reporters that nothing is news unless it's extraordinary, repeat a journalism adage: We never write about the planes landing on time. We wait until they crash.

Notwithstanding, I'll use this space to report on $1.2 billion of airport bonds, among other things, that haven't yet landed in a figurative fiery crash that could end up costing local taxpayers millions of dollars.

But thanks to apparent bumbling during the past few months by city-employed airport finance officials, there exists unnecessary risk that some of these bonds just might end up that way. And that risk could have been foreseen.

Surrounding SFO's maladroit financial engineering lies an extraordinary story most newspaper readers don't know about, but should: It's a financial domino effect set in motion by defaulted home loans in California's Central Valley and across America. It involves reverberations from a recent meltdown in the market for a certain type of adjustable-interest-rate municipal bonds. The turmoil was so unexpected, massive, and widespread that it is draining what could amount to hundreds of millions of dollars from the budgets of government or nonprofit agencies that have borrowed money by issuing what once was a type of relatively inexpensive debt.

The story of this nationwide financial crisis has been told only in the financial press. And even then, reporters haven't examined what it means for taxpayers, consumers, patients, and charity donors. The fallout from this mess will be constrained state and local government budgets, potentially higher bridge tolls, less money for university financial aid, and shortfalls at agencies that provide water, electricity, and irrigation.

Some critics cry fraud. Lawsuits in Los Angeles and Connecticut accuse bond rating agencies and bond insurance companies of peddling faulty information and worthless products.

This is a story that involves heroes — unsung officials at tiny institutions such as private colleges who negotiated tough-minded bond deals to protect themselves from greater losses. It also has its zeros, such as the SFO officials who replaced bonds that had been expensively undermined by troubled insurers with — get this — new bonds that also happen to be covered by another troubled insurer.

In between are hundreds of agencies kept financially sound by staff burning the midnight oil. For the Bay Area Toll Authority, an agency set up to pay for the retrofit of the Antioch, Benicia-Martinez, Carquinez, Dumbarton, Richmond-San Rafael, San Francisco-Oakland Bay, and San Mateo-Hayward bridges, this crisis has affected some $800 million in debt. According to an agency memo, some $200 million that would have been available for new projects won't be immediately available because of the refinancing required. "Was this expensive? Yes, it was," BATA spokesman Randy Rentschler said. "Are we unhappy about this? Yes. Did our finance staff keep very busy for many months? Yes. Are our financing plans okay afterwards? For us, the answer is also yes.

"For others," he added, "I am not so sure they are okay."


The current troubles stem from a Feb. 12 collapse in the market for a special type of municipal bond whose interest rate rises and falls with market conditions, similar to the way homeowners see changes in their adjustable-rate mortgages. Though these are characterized as municipal bonds, governments also issue billions of dollars in this kind of debt on behalf of public-service-oriented nonprofits such as the University of San Francisco and hospitals like Kaiser Permanente.

To make the bonds supposedly foolproof for investors and thus carry low interest rates, issuers such as the city of San Francisco bought bond insurance from highly rated companies such as Ambac Assurance Corporation. But early this year, debt ratings agencies such as Moody's took a closer look at such companies and decided they weren't such a good risk after all. It turned out the insurers had unwisely taken on a new line of business: a trillion or so dollars in all-but-worthless mortgage-backed securities.

The insurance companies' likelihood of making good on policies was "downgraded." As a result, interest rates paid on these variable-rate bonds (also known as auction-rate bonds) didn't merely vary — this spring they exploded. For some bond issuers, rates doubled; others more than quadrupled after insurance policies that guaranteed bonds' repayment became all but worthless.

State and local governments along with nonprofits like USF have had to buy back and reissue billions of dollars' worth of bonds to stop paying the high interest rates.

Yet there has been no public tally of these total costs. Public finance involves trillions of dollars in public money and tens of billions in profits for bankers, lawyers, brokers, lobbyists, and other consultants, yet its practitioners are shielded by unusual opacity and lack of public accountability.

None of the experts I talked to say public agencies shouldn't have taken out a portion of their debt in the form of variable-rate bonds. Just like stock investors, bond issuers are advised to balance a portfolio of stable and riskier financial instruments.

But it so happens each bond issue is an individual contract filled with pages of fine print. In the case of the bonds in question, some of those tiny sentences describe ballooning interest rates in the event of a market meltdown — once upon a time seen as unlikely.

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