William Oliver, analyst at Prudential Capital Management, was elected to the first team for General Obligation Bonds: Special Districts, Assessment Districts and Mello-Roos Districts.
This category was created to capture the growing number of municipal bonds backed by the general obligation pledge of a special districts, in contrast to the ad velorum pledge of States, Cities, Counties, and School Districts. The category also includes special tax-backed bonds.
Oliver won the category by a solid margin, large enough to withstand the combined efforts of David Hitchcock and Patrick McCorry, both of Standard & Poor's Corp.
Robert Froehlich of Van Kampen Merritt also received a signifacant number of votes in the category.
Oliver believes the special assessment approach will become more popular over the decade as a method to get around no-growth initiatives.
With the onset of recession in 1990, Oliver saw special tax back bonds, particularly in Illinois and Connecticut, trade better relative to their respective states' G.O. bonds.
"Initially, special tax bonds traded lower than the G.O. bonds, but when troubles come, special tax bonds trade stronger," he said.
Oliver attributes the higher trading levels to investors' perceptions that special tax bonds are not affected by the troubles facing the state G.O. bonds.
He noted that California currently is the largest issuer of these types of municipal securities. He contrasted California credits with the special district offerings of Colorado, which are experiencing severe credit problems.
In Colorado, the districts tend to be small and sometimes they are located remote areas, whereas in California, the districts tends to be in large counties, and their bonds are well structured and trade well.
In Colorado, Oliver thinks investors will face "a lot of problems" because debt accrues to the developers, unlike California, where the amount of debt to a developer is limited to a predetermined amount and the rest is backed by property taxes.
In Colorado, the typical default scenario is each developer in a project gradually goes bust as the debt from other members rolls into a giant nut that even the largest developer cannot pay.
"It's hopeless in Colorado when the property is woth less than the taxes needed to pay bondholders," Oliver said.
During the past year, Oliver noted that unrated California bonds that feature a special tax or are backed by other sources of revenue, have stratified.
"Prior to concerns about the California real estate markets, almost all unrated bonds traded the same," he explained. "But, in late 1990 concerns about real estate forced spreads to open up and the unrated market now has three tiers."
The stratification is based upon a lien (appraisal) to debt ratio.
Oliver said flaws exist in the ratio, with problems arising because the method does not discount future dollars to today's value and debt is measured against what is issued, not how much debt is authorized.
When the calculations are made without using present value formulas or constant dollars, the future value of the property can be inflate, which can make the issue appear to be a strong credit.
Similarly, when the value of the lien is divided by the amount of debt outstanding, without considering the amount of debt authorized, the value of the bonds can be inflated.
"The market is trading on the misleading ratios," Oliver said.
He believes analysts should look at the developers and their track record, as well as the surrounding areas. "Stick with large scale, well planned developments in strong growth areas" of California, Oliver advised.
He expects to see much more innovative use of assessments in California because the government is limited in G.O. borrowings.
The special assessment district or Mello-Roos approach "directly puts the assessment on people coming into the area who will benefit the most from the projects, rather than burdening existing taxpayers."
Oliver added that Mello-Roos financings have a large following by California retail investors and funds in California that can invest in non-investment grade securities. "The more nature Mello-Roos districts are becoming investment grade," he added.
Oliver particularly likes the Mission Viejo California Mello-Roos district, which is single-A rated.
On the horizon, Oliver said that issues in the sector are getting more complicated and investment bankers are doing more risky things.
He noted that larger deals, such as a recent Rosedale Mello-Roos financing placed the proceeds into escrow. The district must meet a test to access the funds. The terms and conditions of such tests are subject to the same misleading and subjective problems associated with the lien to debt ratio.
"They are asking investors to take a lot more risk than they're willing to pay for," Oliver said.
