MuniLand: Puerto Rico Back in the Headlines

Puerto Rico is back in the news this week, generating multiple negative headlines. Although the territory fell into the high yield universe last year, we continue to analyze and monitor the situation because of the secondary and tertiary impacts the credit has on the investment grade municipal market. Because of the triple tax exemption, many state-specific municipal mutual funds hold Puerto Rico G.O. and public utility credits. If these funds continue to hold such credits as a possible restructuring proceeds, forced selling could create an opportunity for our clients. So what are the headlines? First, Puerto Rico’s legislature failed to pass proposed tax reforms that would generate additional revenues to support existing debt as well as a new bond deal. The value added tax (VAT) proposal is a key to the island’s economic turnaround plan. Without additional revenue, liquidity may quickly deteriorate leading to a possible restructuring. PREPA (electric utility) is also in the news because it won more time to negotiate with creditors. The utility tapped its debt service reserve fund in April and has a $400MM maturing due July 1st. Current reports indicate liquidity is insufficient to make the next bond payment. The extension gives investors, insurance companies and banks more time seek common ground before the looming debt payment. Back on the mainland, a Congressional bill that would permit Puerto Rico’s public utilities to file for Chapter 9 municipal bankruptcy is held up in committee. Currently, Puerto Rico’s public utilities are unable to seek Chapter 9 protection. The biggest opponents of the bill are also the largest holders of Puerto Rico debt. Puerto Rico continues to attract new investors because of its compelling high yield and triple tax exemption. Puerto Rico and its component credits are trading in the range of $0.50 to $0.60 on the dollar for long bonds. The game is no longer about ‘do I get my principal back,’ but ‘how much of my principle can I recover?’

Sources: Bloomberg, The Bond Buyer and Caribbean Business