Smith Barney Engineers Record Forward Swap For Airport in Las Vegas
Smith Barney, Harris Upham & Co. has announced the largest municipal forward swap ever - a $318 million transaction expected to generate about $64 million in present-value savings for Las Vegas's McCarran International Airport.
Alan D. Marks, executive vice president in charge of Smith Barney's derivative products group, said the deal reflects the growing sophistication among municipal issuers in their use of derivative products.
"The forward structure executed by McCarran is particularly applicable to other airports around the country, as well as to utilities and other issuers of [industrial development bonds] who cannot complete advance refundings under current tax law," Mr. Marks said.
Airport officials said that more traditional forward delivery products they were considering would have generated about $11 million less in savings than the forward swap executed last week.
"Given the 21-year term of the swap agreement, our primary aim in the negotiation process has been to eliminate any unusual risks and to make this look and feel like a traditional fixed-rate deal," said Robert N. Broadbent, McCarran's director of aviation. Mr. Broadbent said the deal appears to have accomplished those goals.
McCarran's outstanding debt carries coupons ranging from 9.75% to 10.5%, but tax reform excludes the bonds from advance refundings. To effectively achieve the same result, Smith Barney has agreed to buy the bonds resulting from a current refunding at the first call date in 1993, locking in today's interest rates for the issuer.
The future bond issue will be variable-rate, but the airport has eliminated the uncertainty tied to variable-rate bonds through the use of the swap. AIG Financial Products, a triple-A subsidiary of American International Group, is the counterparty to the swap and will pay McCarran interest on a variable-rate basis, receiving McCarran's fixed-rate payments in return.
The two companies have formed a loose alliance in the municipal derivatives area to capitalize on Smith Barney's public finance expertise and AIG's swap experience in the taxable market.
The true interest cost of the deal to McCarran will be 7.25%, Mr. Marks said. And, in what Smith Barney believes to be another first for the forward swap market, the McCarran deal will cover the entire 21-year maturity of the bonds. In most other forward swaps, issuers are left exposed to variable-rate debt during the last few years of the life of the bonds, when the swaps typically expire. At that point, issuers can either assume that risk or try to arrange another swap.
The forward aspect of the McCarran swap shields the airport in the event interest rates rise between now and the date of issue. But McCarran is still exposed to the risk that interest rates will fall, meaning a simple current refunding in 1993 would have resulted in a better deal.
"What they are paying for is insurance that, since we are at cyclically low rates today, in 18 months rates will be higher," Mr. Marks explained.
Market sources say the idea of tying a swap to forward deals is becoming increasingly attractive to issuers as a debt-management tool. And the forward market itself is expected to expand over the next several years, as 10-year call dates on deals sold in the mid-1980s begin to appear on the 18-month horizon typical of forwards.