Munis Back Away From Ratings-Agency Domination

In the world of credit ratings, it's generally acknowledged that the most overrated securities are structured products, while the most underrated securities are municipal bonds. (You have no idea how nice it is to be able to use the words "overrated" and "underrated" literally.)

As the credibility of the ratings agencies falls, then, the least-affected borrowers, in terms of the price they have to pay to access the market, are likely to be municipalities. And that seems to be exactly what's happening. Historically, US municipalities have paid $2 billion per year to bond insurers, in order to get their issues a triple-A credit rating and appeal to the type of investors who only want AAA-rated debt.

Now, however, investors trust triple-A ratings less than they ever have, even as the bond insurers themselves turn out to be rather less creditworthy than many of the municipalities they were insuring. Reports Bloomberg's Darrell Preston:

Many investment-grade munis would have AAA ratings without insurance if they were ranked the same way as corporate debt. Every state except Louisiana would be Aaa, based on the scale for companies, which ranks borrowers on the probability of default, according to the report by Moody's.

Amazingly, brand-new uninsured bond issues are now trading through insured debt from the same borrower:

When Wisconsin sold $154.6 million of bonds for highways, public buildings and water improvements on Nov. 15, it paid a yield of 3.87 percent for debt due in 2016. The same day, insured Wisconsin bonds sold in October with a similar maturity yielded 4 percent in the secondary market where existing issues trade.

That makes very little sense at all, unless investors were selling the old bonds in preparation for buying the new ones. But I am hopeful that the news on the muni front is the first sign that the ratings agencies are losing some of their power – and, thereby, gaining in reliability.

(Via CR)

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