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Municipal Securities

Municipal Securities. Chapter 8. Municipal Securities. tax-backed debt secured by tax revenue types general obligation debt unlimited – secured by issuer’s unlimited taxing power limited – statutory limit on tax rates that can service debt

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Municipal Securities

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  1. Municipal Securities Chapter 8

  2. Municipal Securities • tax-backed debt • secured by tax revenue • types • general obligation debt • unlimited – secured by issuer’s unlimited taxing power • limited – statutory limit on tax rates that can service debt • moral obligation bonds – requires legislative approval to appropriate funds (not legally binding obligation of state) • Debt with Public Credit Enhancement • legally enforceable obligation • often used for debt obligations of a state’s school systems

  3. Municipal Securities • Revenue bonds • for project or enterprise financings – bondholders are pledged revenues generated by project financed • revenues put into revenue fund and then disbursed to following funds: • operation and maintenance fund • sinking fund • debt service reserve fund • renewal and replacement fund • reserve maintenance fund • surplus fund • operations have priority over servicing debt

  4. Hybrid Munis • Insured bonds • secured by issuer’s revenue and insurance company • can be insured by monoline or multiline insurers • Bank-backed munis • letter of credit agreement • irrevocable line of credit • revolving line of credit • Refunded bonds • portfolio of securities guaranteed by US government placed in trust so that CFs match those of municipality’s obligation • Structured/Asset-Backed bonds

  5. Municipal Derivative Securities • created by separating interest and principal pmts into different classes • bond classes derive their value from underlying fixed-rate muni • development parallels that in taxable mkt (Ch. 11) • types • floaters/inverse floaters • strips and partial strips

  6. Floaters/Inverse Floaters

  7. Floaters/Inverse Floaters • sum of rate on floater and inverse floater adds to rate on fixed rate security • if mkt rates fall, rates on floater will fall and rates on inverse floater will increase • mkt for inverse floaters not very liquid • use of floaters/inverse floaters allows investor to create synthetic fixed-rate bond with option to separate in future • option for investors allows issuer to drop yield some

  8. Credit Risk • Moody’s and S&P • credit concerns because of past defaults and “innovative” ways to finance issues • GO bonds • overall debt structure • issuer’s ability to maintain sound budgetary policy • specific local taxes and intergovernmental revenues available to issuer • issuer’s overall socioeconomic environment • revenue bonds • in general, determination of whether financed project will generate sufficient cash flows

  9. Yields on Munis investor in 40% marginal bracket considering muni with yield of 6.5%

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