Every scowl and snarl at a press conference for Donald Trump seems to lead to one group of shares being bid up and another being sold off.
The reasoning offered by commentators seems a bit strained to me. I do not think that defence contractors will do worse, or better, because the president-elect has a nasty exchange with a CNN reporter.
The market for Puerto Rico’s debt, in contrast, has hardly moved at all since Ricardo Rossello won the election for governor of the Caribbean island in November. Puerto Rico’s general obligation bonds — a debt instrument of the local government — have been trading up by a couple of percentage points, to about 67 cents on the dollar.
Meanwhile the debt issued by the Puerto Rico Sales Tax Financing Corporation, a state-owned entity that issues government bonds (known by its Spanish acronym Cofina), have drifted down to 69 or 70 cents on the dollar. Nothing to see here, folks.
That might be about to change. Next month, the new governor could choose to stop paying on some of the more than $15bn of Cofina bonds. Then the price of Cofina bonds will almost certainly plunge below that of the $13bn of general obligation bonds, which will probably shoot up on the notion that their holders will get a larger slice of Puerto Rico’s cash flows.
Often, large and complex defaults lead to intense arguments and litigation among creditors about who has the better claim to the remaining assets or revenues. It can take months or even years for one group or another to establish their priority over other claimants. And if your law firm is among those billing by the hour, that is not a problem.
With hundreds of different bond offering documents, the general public has given up trying to figure out which ones will get paid out if Puerto Rico defaults on its $69bn of bonded debt.
While there are thousands of holders of the bonds, the inter-creditor struggle has come down to two groups of intensively competitive hedge funds: the municipal bond insurers and some small but politically potent local institutions. All want the favour of the Puerto Rican government and its big friend, the US Treasury, now in creditor-friendly hands.
The incoming governor is far more open to making a deal with the bondholders than his predecessor was. His predecessor, Alejandro Garcia Padilla, had pencilled in spending increases after suspending payments on most of the commonwealth’s bonds last July.
But not all the bonds. Governor Padilla’s administration continued to pay interest on the Cofina bonds, despite having the authority under the newly passed federal Promesa act to block any creditor litigation. For their part, the Cofina bondholders supported the restructuring strategy put together by the Padilla administration and the Obama administration’s treasury department.
The New York distressed debt investor community is split over whether the Padilla administration was right to keep paying the Cofina debt. There are smart people, and serious lawyers, on both sides. Initially, the Cofina hedgies were winning. After all, they were still being paid.
As a practical matter, from the point of view of public policy, it does not make sense for every type of bond to take a haircut. There has to be a clear winner among the types of commonwealth bond issues so that when Puerto Rico gets past its restructuring and re-enters the bond market, one brand will have survived without a haircut. Maybe that will be Cofina and maybe it will be general obligation.
It is not about being fair to everyone. It is about having a borrowing vehicle in the future.
The Cofina bondholders believe their dedicated income stream from sales taxes gives them the right structure for the future.
The general obligation bondholders retort that Cofina’s revenues do not resemble other municipal revenue bonds. Andrew Rosenberg, a partner at Paul Weiss, the law firm that represents some of the general obligation bondholders, asserts: “Sales taxes are part of the lifeblood of government, the most basic of all taxes. They are not like sewers, toll roads or an electric system [which could, hypothetically, be privatised].”
Therefore, the general obligation bondholders argue the sales tax revenues that are now going to pay Cofina bondholders should, in a reasonable world, be clawed back by Puerto Rico and be included in the general pot. Then, say the general obligation people, their bonds will have a priority guaranteed by Puerto Rico’s constitution.
An outsider might think that this is a political, rather than a purely legal, question. Many Cofina bonds are held by Puerto Rican institutions, including its co-operative banks. Putting their solvency further at risk would not be popular.
There is a $259m Cofina payment due on February 1. If you hold general obligation bonds, you want that money clawed back. We will see what the new governor will do.