By Michael Aneiro
Puerto Rico’s municipal finance woes have been well-documented, particularly by Barron’s, and today’s Wall Street Journal looks at how underwriting banks have benefitted as Puerto Rico issued more debt than any other U.S. state. Michael Corkery and Mike Cherney report that Puerto Rico and its public agencies have sold $61 billion of bonds in 87 deals since 2006, giving the island more municipal debt per capita than any U.S. state, with an unusually large portion consisting of deficit financing, or issuing debt to plug budget shortfalls and to push debt payments into the future:
In the process, the territory paid Wall Street securities firms, lawyers and others about $1.4 billion, according to an analysis by The Wall Street Journal. The securities firms were able to charge underwriting fees higher than those assessed on other financially troubled U.S. states and cities, including Detroit…. Since its economy fell into recession in 2006, Puerto Rico and its public agencies issued as much debt as state issuers in Virginia, according to Thomson Reuters. Virginia has twice as many people and four times the economic output.
During that time, the island’s government and public agencies paid about $764 million in fees to underwriters, lawyers, credit-rating firms and insurers backstopping many of the bonds and others that helped close the deals, the Journal analysis shows. More than half of that amount was paid to underwriters, with Citigroup Inc. (C) and UBS AG (UBSN) the top banks in that group.
The story says Puerto Rico paid at least another $690 million to Wall Street firms to cancel derivative contracts called interest-rate swaps that were typically meant to lower Puerto Rico’s borrowing costs if interest rates rose but didn’t always end up serving that purpose. And Puerto Rico paid more to its banks than other municipal issuers:
[A]n analysis by Thomson Reuters shows that since 2006 banks have charged Puerto Rico more than other economically troubled municipal borrowers, as measured by the “gross spread.” The gross spread is the difference between the price at which the underwriter buys the bonds from the issuer—in this case Puerto Rico—and the price at which it sells the bonds to investors. The underwriter is able to keep the difference.
The gross spread partly reflects the risks associated with the offering. But the average gross spread paid to bankers on Puerto Rico debt deals was 31% higher than spreads charged to the city of Detroit, which is seeking federal bankruptcy protection. Detroit’s bonds are classified as “junk,” while Puerto Rico’s general-obligation debt is considered investment grade by rating firms.
One of the reasons for the disparity is that many of the Puerto Rico deals involved complex financing structures, issued by multiple government entities. Some deals fetched a higher fee because they were more complicated for bankers to structure than plain-vanilla municipal debt, according to a person familiar with the underwriting process.