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Monday's S&P Call Notes on Puerto Rico

Posted by Jack Duval

Aug 6, 2014 2:44:00 PM

Accelerant’s coverage of the situation in Puerto Rico continues.  Accelerant Analyst Jay Dulski participated in the S&P webcast on Tuesday, August 4th. Below are his call notes.

A full replay of the call may be found on S&P’s Puerto Rico web page, and current ratings of the Puerto Rico entities may be found on the Puerto Rico Government Development Bank’s (“GDB”) website.


Summary of Recent Downgrades

  • “BB” rating affirmed for General Obligations (“GOs”) with a negative outlook.
  • PREPA downgraded from “B-” to “CCC” on July 31 with a negative outlook.  Reasons included Act 71 passage and nonpayment of electric bills by government entities.

Statements: David Hitchock, Senior Director, U.S. Public Finance, S&P

  • There remain continued financing and liquidity pressures on the Commonwealth. These include budget implementation risks, as well as looming problems regarding the Puerto Rico Teachers’ Retirement System (“PRTRS”) and political and union opposition to reforms.
  • GOs downgraded on July 11 from “BB” from “BB+” due to Act 71 passage.
  • COFINAs (sales tax bonds) and Highway Authority (“PRHTA”) also downgrade on July 11.
  • On 7/31, “BB” rating affirmed for GOs following the release and review of new fiscal year budgets.
  • Costs for the Commonwealth appear to be manageable for the short run, but the negative rating reflects “no meaningful growth but stabilization of the situation."
  • S&P “does not see upside rating potential at this time.”

Statements: Judith Waite, Director, U.S. Public Finance, S&P

  • The high cost of oil has been very difficult for PREPA, as they are not yet complete in their conversion from old, inefficient oil plants to newer, more efficient natural gas plants.
  • After its own downgrade the GDB cannot provide liquidity anymore, which PREPA needs to purchase oil.
  • A $146 million credit line was issued by Citibank and a $525 million line was issued by a consortia led by Scotiabank. Negotiations are currently ongoing as PREPA is approaching an August 14, 2014 deadline. 

Statement: Horacio Aldrete-Sanchez, Managing Director and Lead Analytical Manager, U.S. Public Finance, S&P

  • Bond insurers are significantly capitalized.
  • Assured: $1.5 billion of capital above current levels.
  • Notional: $400-$500 million above requirements.

 Additional Comments and Q&A

  • PREPA has lots of costs to convert its plants to LNG and continue grid modernization. However, cost to complete the LNG conversion is less than $300 million, which is relatively small.
  • Regarding exactly how much liquidity PREPA needs, no exact number was given. They have always used bank lines (first from the GDB, and now from Citi and the Scotiabank consortia) to get their oil, and then paid down the lines as revenues come in.
  • High cost of oil and inflexibility on rates has hurt liquidity.
  • Act 71 represented a shift in attitude and was a very negative signal on the willingness of the government to pay its creditors.
  • Remember that the GO issue earlier this year is under NY law and COFINA should be a separate legal entity.
  • The question was asked how PREPA would buy fuel if they cannot secure new credit lines.  The answer was “no one knows.”  They usually buy ahead 30-45 days and have so far been successful negotiating extensions.
  • There are current proposals to amend federal bankruptcy law to include Puerto Rican municipalities to seek protection, but that would not affect the current situation.
  • There is a proposed bill which would move some of the revenues around, specifically take gas taxes away from the PRHTA and move them to other public corporations.  Act 71 allows for full restructuring of public corporation debt, which does make such actions possible.
  • There was discussion of discounts that PREPA has given other public corporations, specifically the Puerto Rico Aqueduct and Sewer Authority (“PRASA”).  The comments were that the discounts weren’t significant now, but the situation remains “delicate.”
  • PREPA’s quality of their asset pool is actually increasing as they modernize/replace their plants and continue the conversion to LNG.
  • Regarding the LNG terminal, Accelerate out of Texas is the builder, and is not PREPA funded.\
  • Remember that the GDB was downgraded to “BB-“ in July. Its largest borrower is the PRHTA, so a restructuring under Act 71 would be painful for the GDB.
  • Jay Dulski, Analyst, Accelerant: “Since municipalities are exempt under Act 71, can you comment on their health and whether the Commonwealth would seek to assist them?” The response was that the Commonwealth has “limited means” due to its financial position, and also that S&P has not examined the health of the individual Puerto Rican municipalities.
  • Acts 30 and 31 in 2013 rearranged who got the petroleum taxes, and those risks are already accounted for in the ratings.
  • Regarding the conversion of PREPA’s grid to natural gas, there have been delays.  The timeline now reads 2018/2019.
  • The GDB and the government were late on a large electric bill payment to PREPA, compounding their problems.
  • Overall government receivables are otherwise low, but the nonpayment in question was $103 million.
  • What’s PREPA’s break even electricity price? Debt service is only $0.065 of their $0.26 base residential rate.  $0.06 is their base rate for operations, which has been constant since 1989. The remaining $0.135 (and largest share) is oil cost.

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Topics: Puerto Rico Municipal Bond Crisis, municipal bond expert, UBS closed-end funds

Act 3 for the Puerto Rico Municipal Bond Crisis? No, Act 71

Posted by Jack Duval

Jul 14, 2014 11:04:12 AM

This blog post continues our coverage of the Puerto Rico municipal bond crisis.

Puerto Rico had a successful $3.5 billion issue of municipal general obligation bonds (“GOs”) in March 2014. However, as we outlined in our February 2014 paper “The Puerto Rico Municipal Bond Crisis: What took you so long?”, the macroeconomic fundamentals of the Puerto Rican economy remain extremely poor.  Despite reform efforts by the Padilla administration, the situation reached a new crescendo last week as the Puerto Rican legislature passed “The Puerto Rico Public Corporation Debt Enforcement and Recovery Act” ("Act 71") on June 28, 2014.[1]

The Police Power Doctrine

Act 71 follows closely behind Act 66 passed on June 17, 2014, “The Special Act for Fiscal Sustainability and Operational Government of the Commonwealth of Puerto Rico,” which declared the island in state of “fiscal emergency” following the downgrades.[2] Importantly, this declaration of a fiscal emergency allows the Commonwealth to invoke its constitutional “police power” to protect basic services, which is the major legal justification invoked within Act 71.  The following is a summary of Act 71 as well as selected general context information.

Puerto Rico’s Public Corporations

Puerto Rico has three main public corporations:

  • the Puerto Rico Electric Power Authority (“PREPA”);
  • the Puerto Rico Aqueduct and Sewer Authority (“PRASA”), and;
  • the Puerto Rico Highways and Transportation Authority (“PRHTA”).

Originally thought to be relatively secure investments due to the guaranteed cash flows inherent in utilities, the public corporations have suffered a series of downgrades on the heels of the GO downgrade earlier in the year.

Because of their roles providing essential public services, the specter of default of the public corporations is acutely important to the Puerto Rican government. An easy solution to raise revenue would be to simply further raise rates; however, the government has disallowed this due to the already precarious economic situation. 

Recent Downgrades

As we have discussed here, in June 2014 both Fitch and S&P downgraded PREPA’s credit rating to BB and BBB-, respectively.[3] In addition, Moody’s issued a stern rebuke to the passage of the law citing concerns about the impact the precedent would have on creditors, issuing a series of downgrades just days after the passage of Act 71.  Moody’s slashed GO ratings from Ba2 to B2, and also downgraded the Puerto Rico Sales Tax Financing Corporation (“COFINA”) from Baa1 to Ba3, throwing the COFINA bonds into junk territory.  Moody’s also downgraded PREPA from Ba3 to Caa2 and downgraded PRHTA from Ba3 to Caa1.[4]

Structural Issues [5]

As cited in the law itself, Puerto Rico remains in the grip of serious structural problems.  Public deficits remain high, and despite the halving of general deficits from over $2.2 billion projected for 2012-2013 to $1.29 billion in June 2013, revenues remain insufficient.  As of June 10, 2014, collections were $320 million below projections for the current fiscal year.

The public corporations are also running deficits.  For fiscal year 2012-2013, PREPA, PRASA, and PRHTA had a combined deficit of $800 million and combined debt of $20 billion.  Despite numerous reforms, some rate increases and various specific solutions, in total the measures taken have proved insufficient.  As of July 2014, Puerto Rico GOs, PREPA, PRASA, PRHTA, the Public Buildings Authority, COFINA, and the Government Development Bank of Puerto Rico (“GDB”) have all been downgraded to junk.

The plight of the public corporations is caused by a number of persistent issues, including (as Act 71 cites): “…budget deficits incurred over decades, prolonged economic recession (since 2006), a high rate of unemployment that reached 16 percent in 2010, population decline, and high levels of debt and pension obligations…”  These factors represent deep structural problems that cannot be easily or quickly addressed.

The Government Development Bank of Puerto Rico

The downgrade of the GDB has had serious repercussions. In its role as chief financial advisor and fiscal agent to the Commonwealth and its municipalities, instrumentalities, and public corporations, the GDB had served as the main source of interim lines of credit for both the central government and the public corporations during the recent adverse economic environment.  For the fiscal year ended June 30, 2013, 48 percent of the GDB’s assets, or $6.9 billion, are in loans to the Commonwealth and the public corporations. The GDB’s ability to continue to extend lines of credit to Puerto Rico’s public entities going forward is compromised by the downgrade, and thus the legislature has been forced to take additional action to avoid default.

Act. 71 - The Puerto Rico Public Corporation Debt Enforcement and Recovery Act

The stated goal within the preface of the Act is: “…to establish a debt enforcement, recovery, and restructuring regime for the public corporations and other instrumentalities of the Commonwealth of Puerto Rico during an economic emergency.” Public corporations fall in a legal grey area. Prior to Act 71, no Commonwealth law existed to govern a public corporation that became insolvent. Furthermore, U.S. Federal bankruptcy law does not apply.  Just as cities may go bankrupt under federal bankruptcy law but states may not, Puerto Rico may not seek federal bankruptcy protection, and its public corporations are also exempt.

Two Paths to Debt Relief

The law sets up two mechanisms for an insolvent public corporation to utilize: Chapter 2 outlines a consensual debt modification with a binding recovery program, and Chapter 3 outlines a court-supervised debt enforcement plan. The Act also sets up the Public Sector Debt Enforcement and Recovery Act Courtroom of the Court of First Instance, San Juan Part, to hear and process all claims in the timeliest manner.[6]

Chapter 2 [7]

Chapter 2 outlines a market-oriented framework for the public corporations, with the stated goal of treating all creditors equally unless a creditor agrees to be treated less favorably.  Chapter 2 begins with the request of the governing body of the corporation and the GDB, or the GDB at the Governor’s request, and includes any combination of amendments, waivers, maturity extensions, and other debt relief measures so long as the corporation agrees to be bound by a recovery program designed to return it to self-sufficiency.  All amendments must be approved by a majority of eligible holders within a class and a three-quarters majority of eligible holders of all aggregate debt.  If approval is won, the measures are submitted for court approval to ensure that they fulfill the objectives of Act 71. Furthermore, an oversight commission of three independent experts shall be appointed by the Governor to monitor compliance and disclose progress to stakeholders.

Chapter 3 [8]

Chapter 3 outlines a judicial-oriented framework for the public corporations similar to Chapters 9 and 11 of Title 11 of the U.S. Federal Code, tasking the court with using appropriate jurisprudence.  Chapter 3 enables the public entities to defer debt obligations as necessary to continue to fulfill their public functions.  Notably, “Assets backing employee retirement or post-employment benefit plans remain inviolable under Chapter 3.” Additionally, wages, salaries, provisions for goods and services under at least $1 million, and debts to the United States are mandated paid in full.

An eligible entity must be 1) currently unable or at serious risk of being unable to pay valid debts while performing public functions, 2) ineligible for relief under Chapter 11 of Title 11 of the United States Code and 3) authorized to file a petition by its governing body and the GDB or by the GDB at the Governor’s request. An entity under Chapter 3 retains possession and control of its assets and operations.  Contracts may be modified or rejected, and any counterparties with breach of contract standing will be treated accordingly under the final plan. Collective bargaining agreements may be modified or rejected, but only if the Court determines that such changes are necessary for the corporation to continue to carry out its public functions.  Additionally, collective bargaining agreements may only be changed after the underlying data has been shared with union representatives and voluntary negotiations have failed.

The petitioner or the GDB (under the Governor’s request) may propose a debt enforcement plan under Chapter 3.  Creditors must be separated into classes, and each creditor must receive 1) at least the value they would receive if all creditors simultaneously enforced their claims individually, and 2) notes providing additional value calculated as 50 percent of the public corporation’s future positive cash flow for 10 years. Approval of any plan requires one class of debt to accept the terms, but all classes may be treated as described in Chapter 3 regardless if they accept the plan.

Exempt Entities [9]

Notably, many entities are explicitly unable to restructure under Act 71. Any government entity not explicitly excluded is eligible under Act 71.  Exempt entities include:

  • The Commonwealth, including GO debt and debt guaranteed by the Commonwealth
  • All 78 municipalities
  • The GDB and its subsidiaries, affiliates, and ascribed entities
  • The Children’s Trust
  • The Employees Retirement System
  • The Judiciary Requirement System
  • The Municipal Finance Agency and the Municipal Finance Corporation
  • The Puerto Rico Industrial Development Company
  • The Puerto Rico Industrial, Tourist, Educational, Medical and Environmental Control Facilities Financing Authority
  • The Puerto Rico Infrastructure Financing Authority
  • The Puerto Rico Sales Tax Financing Corporation
  • The Teachers Retirement System
  • The University of Puerto Rico

While GO debt may be exempt from restructuring under Act 71, the markets are nervous about a newly emboldened Puerto Rico government that may try to find a way out of those obligations.  Chart 1, below, shows the continuing steep decline in the S&P Municipal Bond Puerto Rico Index, which contains primarily GO bonds.

Chart 1.  S&P Municipal Bond Puerto Rico Index

For a higher resolution image, see this


Accelerant analyst Jay Dulski wrote this blog post and continues to follow the Puerto Rico story closely.

For information about Accelerant municipal bond and closed-end fund experts Gerry Guild, Steve Pomerantz, and John Duval, Sr., click here.


Get Updates on the Puerto Rico Municipal Bond Crisis



[1] Act 71, June 28, 2014, “The Puerto Rico Public Corporation Debt Enforcement and Recovery Act”

[2] Act 66, June 17, 2014, “The Special Act for Fiscal Sustainability and Operational Government of the Commonwealth of Puerto Rico”

[3] Reuters, June 18, 2014, “UPDATE 1-S&P lowers Puerto Rico Electric debt rating, follows Fitch,”

[4] Wirtz, Matt, Jule 1, 2014, “Moody’s Cuts Puerto Rico Rating Three Notches”

[5] Act 71, 75-79

[6]Act 71, 87

[7] Act 71, 83-85

[8] Act 71, 85-87

[9] Act 71, 82-83

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Topics: municipal bond crisis, Puerto Rico Municipal Bond Crisis, Puerto Rico

Puerto Rico Municipal Bond Crisis - Individual Municipal Bonds

Posted by Jack Duval

Nov 27, 2013 6:41:00 AM

This blog post continues our expert analysis of the Puerto Rico municipal bond fund crisis.  The recent decline in Puerto Rico municipal bond prices has triggered a wave of litigation, particularly where clients of UBS owned propritary closed-end municipal bond funds and used account margin to purchase additional shares.  However, there has also been litigation by investors who owned Puerto Rico municipal bonds directly.

This blog post focuses on individual Puerto Rico municipal bonds (as opposed to those owned in open or closed-end municipal bond funds).


Municipal bonds are typically issued by states and municipalities and their interest payments are generally exempt from Federal tax.[1]. Municipal bonds are also generally exempt from state and local taxation for taxpayers in the locality; for instance, New York City obligations are exempt from both New York State and New York City taxation for residents of New York City.

The municipal bond market is a key component of our capital markets, particularly for state and local governments that need to raise money for infrastructure, hospitals, schools and other capital intensive projects. Municipal bonds consist mainly of General Obligation and Revenue obligations. General Obligation bonds are backed by the full faith and credit of the issuer and are a first lien on the taxes raised. Revenue obligations are backed by the income generated by the issuing entity, such as tolls from a bridge. Variations including taxable municipals also exist but are a lesser component of the marketplace.

Credit Ratings

Municipal debt is usually rated by one or more of the three major rating agencies with Aaa to Baa3 considered investment grade. [2] Like all debt instruments, the risks of the investments should be determined to ascertain whether the potential rewards justify undertaking those risks. Probably the greatest risk is liquidity, the ability to sell the security prior to maturity.

Bond Insurance

Often municipals will purchase a form of “credit enhancement” by have their debt issues insured. The typical effect of this is to elevate the rating on the bonds being issued to Aaa from the lower rating on its own merits. Municipalities will insure their debt at issuance if the cost of the insurance enables an even greater interest rate savings for the issuer. It is a simple arbitrage calculation.

In the event of a default, the bond insurance is only as good as the reserves of the insurance company, which typically insure hundreds of times their capital. While isolated defaults can strain a bond insurer, widespread defaults can bankrupt them. Therefore a useful axiom is never to buy an insured municipal obligation unless you would buy it on its own investment merits. [3]


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[1]                 Municipal bonds may be subject to the Alternative Minimum Tax.

[2]                 Moody’s ratings. Standard & Poors’ and Fitch are similar, with AAA to BBB- being considered investment grade.

[3]                 Traditional bond risks include: liquidity, credit, spread, maturity, and interest rate.

We will be publising a white paper about the Puerto Rico Municipal Bond Crisis shortly.  This paper will be written by fixed income expert Gerry Guild, analyst Jay Dulski, and CEO Jack Duval.












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Topics: Puerto Rico Municipal Bond Crisis, Puerto Rico municipal bonds

Puerto Rico Municipal Bond Crisis - The Effects of Double Leverage

Posted by Jack Duval

Nov 25, 2013 8:18:00 AM

This blog post continues our expert analysis of the Puerto Rico municipal bond fund crisis.  The recent decline in Puerto Rico municipal bond prices has triggered a wave of litigation, particularly where clients of UBS owned propritary closed-end municipal bond funds and used account margin to purchase additional shares.

Many of the UBS Puerto Rico closed-end municipal bond funds used internal fund leverage.  If account margin was utilized as well, then the initial investments were double leveraged.  Our experts have prepared a brief explanation of how an initial investment can be leveraged 400 percent under such a scenario.

Internal Closed-end Fund Leverage

Many closed-end municipal bond funds permit the use of leverage. Indeed, it is common for closed-end funds to have leverage ratios of 35 to 50 percent (calculated on the total portfolio after the leverage has been used to purchase additional securities) so the holdings of municipal obligations could be 50 to 100 percent higher than the amount of capital initially raised.  The amount of leverage allowed in a closed-end bond fund is specified in the prospectus and how much is actually utilized is reported at least every six months in the funds Certified Shareholder Report filing.[1]

The leverage inherent to a closed-end fund is not obvious to an investor from looking at their financial statements.

Margin Account Leverage

Investors may utilize leverage at the account level whereby they borrow against the assets in their account to purchase more securities. This is known as margin. Municipal bonds may be purchased on margin. While stocks are subject to Regulation T margin requirements, municipal bonds are not, they are classified as an exempt security.[2]

The margin requirements for municipal securities are set by the NYSE. Currently, the initial and maintenance requirements are the greater of 15 percent of the market value or seven percent of the principal. Generally, this means the margin requirement for municipal bonds will be 15 percent (unless the market value of the bonds were to fall precipitously.)[3]

A 15 percent margin requirement means that an investor could leverage the cash in their account over six times. As an example, a customer who deposited $100,000 in cash could purchase roughly $660,000 worth of municipal bonds.[4]

1 + 1 = 4

If a customer buys a leveraged closed-end municipal bond fund that utilizes internal leverage and then uses account margin to purchase more of that security, their initial investment could end up leveraged four times.  This means that a 25 percent decline in the underlying municipal bonds would wipe out the customer's equity.  Further declines would leave the customer owing the broker dealer more than they had initially invested.

We will be publising a white paper about the Puerto Rico Municipal Bond Crisis shortly.  This paper will be written by fixed income expert Gerry Guild, analyst Jay Dulski, and CEO Jack Duval.


Get Updates on the Puerto Rico Municipal Bond Crisis




[1]              Certified Shareholder Reports are available on the SEC EDGAR website and are coded as a Form N-CSR. They are also mailed to shareholders of record. For more information, see

[2]              Regulation T set margin requirements for equities and equity derivatives, like convertible bonds, at 50 percent in 1974 and it has remained constant through today. The actual rate may vary and is set by the Federal Reserve Board of Governors.

[3]              Michael T. Curley, Margin Trading from A to Z; (John Wiley & Sons, Inc., Hoboken, 2008); P.70.

[4]              In actuality, no one would initiate a position where they were right up against the maintenance margin requirement. If they did, a small move against them would put the account into a margin call, and subject to liquidation by their Broker-Dealer. More likely would be the use of less leverage, giving the investor a cushion against any downside volatility.








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Topics: Puerto Rico Municipal Bond Crisis, Closed-end municipal bond funds, Margin leverage

Puerto Rico Municipal Bond Crisis - Understanding Closed-end Bond Funds

Posted by Jack Duval

Nov 22, 2013 8:44:00 AM

Much of the litigation about the Puerto Rico municipal bond crisis involves leveraged closed-end bond funds, in particular those sold by UBS.  As part of our continuting expert analysis of this crisis and subsequent litigation, we have prepared a short primer to help litigants understand closed-end municipal bond funds.

Understanding Closed-end Municipal Bond Funds

Closed-end funds are initially offered through an underwriting and the number of shares remains constant. These shares will then typically be traded on an exchange. Unlike their open-end cousins, closed-end funds may trade at, above, or below net asset value. Typically, municipal bond funds will trade near or below their new asset value, although they do trade above their net asset value on occasion.

Traditionally, closed-end municipal bond funds have distributed the net income generated by the underlying bonds in the portfolio. More recently, some funds have been using a “managed distribution” policy. Under a managed distribution policy, the closed-end fund sets a distribution rate and if the underlying municipal bonds do not generate enough income, principal is used to bring the total distribution up to the predetermined level.

Managed Distributions

Over time, a managed distribution policy can erode the principal amount invested in the fund. This can be a significant risk for the investor if they rely on their investments for living expenses, as in the case of retirees. For such an investor, a managed distribution policy can facilitate the unknowing consumption of their own principal. This could leave them with a depleted asset base from which to generate income for their expenses.

Most investors are unaware of managed distributions and assume the distributions they receive from closed-end bond funds are interest payments from the underlying funds. FINRA published an Investor Alert on October 28, 2013 to address these issues and explain the differences between an investment yield and a distribution. [1] In this Investor Alert, FINRA explains:[2]

"When looking at closed-end funds and traditional mutual funds, keep in mind that distribution rates and yields are different measures. A mutual fund's yield shows its interest and dividend income expressed as a percentage of the fund's current share price. With a closed-end fund, the distribution rate might also include a return of principal…
Closed-end funds that return capital can carry a higher level of risk because the fund is eroding the asset base it has to generate income to pay distributions. Some closed-end funds set a specific distribution rate to pay regardless of the income generated by the fund. In that case, it is more likely that a fund may return capital to investors along the way. Before you invest in a fund, find out if the closed-end fund follows this approach—also known as a managed distribution policy."

Furthermore, investors might not want to invest in a new issue closed-end bond fund (where a 4.5 percent commission is typically charged on the total amount invested) if the fund is going to return their own principal back to them.

Accelerant will have a white paper from fixed income expert Gerry Guild, analyst Jay Dulski, and CEO Jack Duval coming soon.


[1]                 See FINRA Investment Alert “Closed-End Fund Distributions: Where is the Money Coming From?”, 10/28/13. Available at; Accessed November 22, 2013.

[2]                 Id.



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Topics: Puerto Rico Municipal Bond Crisis, Closed-end municipal bond funds, Managed distributions

Puerto Rico Municipal Bond Crisis - 2006 Government Shutdown and Recession

Posted by Jack Duval

Nov 20, 2013 8:59:51 AM

Our expert analysis of the Puerto Rico municipal bond crisis has led us repeatedly back to 2006 as a critical year in the economic backdrop of the current situation.

Two events stand out:

  1. The expiration of the Section 936 U.S. tax incentive for manufacturers operating in Puerto Rico, previously covered here, and;
  2. The Puerto Rico government shutdown.

It can be seen that the current spike in Puerto Rico municipal yields to the 10% range began with the government shutdown of 2006.[1] At the time, Governor Villa was at odds with the legislature over how to deal with a $750 million budget deficit.  In principal, this is similar to the recent U.S. Government shutdown.

However, unlike the recent U.S. shutdown in October 2013 the situation in Puerto Rico was much more serious. When negotiations broke down, some 100,000 Puerto Rican workers were thrown out of work. Only fire and safety personnel were maintained, and even all of the island’s public schools were closed.[2], [3] While the political wrangling continued for 13 days, Moody’s downgraded Puerto Rico’s general obligation bonds to Baa3, their lowest investment grade rating, and has reaffirmed that rating ever since.[4] Eventually a compromise was reached which instated new municipal and island-wide sales taxes.

The one-two punch of the government shutdown and the experation of the Section 936 tax incentive kicked off the recession from which the island economy has yet to escape.

We will have a white paper from fixed income expert Gerry Guild, analyst Jay Dulski, and CEO Jack Duval coming soon.


Get Updates on the Puerto Rico Municipal Bond Crisis


[1]                 Tenebrarum, Pater, “Puerto Rico’s Debt Crisis-Another Domino Keels Over,” Seeking Alpha, October 14, 2013.

[2]                 Rivera, Manuel, “Puerto Rico Extends Government Shutdown,” The Associated Press, May 2, 2006.

[3]                 British Broadcasting Company, “Puerto Rico to Resolve its Fiscal Crisis,” May 4, 2006.

[4]                 British Broadcasting Company, “Loan Deal for Puerto Rico Crisis,” May 11, 2006.


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Topics: Puerto Rico Municipal Bond Crisis

Puerto Rico Municipal Bond Crisis - Adverse Tax and Trade Policies

Posted by Jack Duval

Nov 19, 2013 4:17:06 AM

Our expert analysis of the Puerto Rico municipal bond crisis continues with an examination of tax and trade policies that have negatively affected the island economy.  In particular, the timing of the expiration of Section 936 coincided with the start of the 2006 recession.

The Puerto Rico economy has been adversely affected by a number of changes in tax and trade policy.  Repealed by President Clinton in 1996 with a ten year phase out, Section 936 of the Federal Tax Code expired in 2006, helping to thrust the island economy into its long-run recession.  Section 936 was a tax incentive for U.S. companies to manufacture in Puerto Rico, allowing the repatriation of profits to the mainland U.S. without paying federal tax.  The pharmaceutical industry was a large beneficiary of this tax break and was a major driver of employment on the island.  According to a 2002 article published by the Pharmaceutical Industry Association of Puerto Rico, the pharmaceutical sector was responsible for 56% of total manufacturing jobs and 20% of total industrial jobs on the island.  The article states that although the pharmaceutical industry was able to largely maintain its tax advantages as an existing industry on the island, the expiry of the exemption was a significant disincentive for new industries to move to Puerto Rico.  27,373 industrial jobs were lost from October 1996 to September 2002.[1]  Additionally, included below is a reference table of historical Puerto Rican tax rates.

[1]                 Maldonado, A. W., “The Loss of 936: Good or Bad for Puerto Rico?” The Pharmaceutical Industry Association of Puerto Rico, November 17, 2002


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Topics: fixed income experts, Puerto Rico Municipal Bond Crisis, UBS, closed-end bond funds, litigation, investments, fixed income

Puerto Rico Municipal Bond Crisis - Unfunded Pension Fund Data

Posted by Jack Duval

Nov 16, 2013 3:17:01 PM

As part of our continuing analysis of the Puerto Rico municipal bond crisis, we have compiled data on the three pension plans funded by the Commonwealth of Puerto Rico.  The trend is clear at a glance - these pension funds have been chronically underfunded since at least 2000 and are headed for insolvency in the next year or two.

For our previous discussion of the Puerto Rico pension system, see this.

For a higher resolution version of this chart:  Puerto Rico Municipal Bond Crisis - Unfunded Pensions.

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Topics: Puerto Rico Municipal Bond Crisis, unfunded pension, litigation, investments, fixed income, municipal bond expert, UBS closed-end funds

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