Jackson Jambalaya

Since Jackson nearly entered into a refinancing plan that would have used the same interest-rate swaps that blew up Jefferson County and have burned other governments earlier this year, JJ has made it a point to keep up with how interest rate swaps have performed for other municipal governments around the country.

The Philadelphia Inquirer explains how these swaps work:
" An interest-rate swap is an agreement between parties to exchange one stream of interest payments for another over a set period. They usually involve the exchange of a fixed-rate payment for a variable-rate payment.
Swaps were attractive when interest rates on variable-rate bonds and notes were low compared with fixed-rate bonds and notes. They allowed public agencies to take advantage of the lower rates while, in theory, providing a hedge against large increases in those rates.
However, the collapse of financial markets exposed the agencies to unanticipated risks - and millions of dollars in losses."

What exactly is happening in the municipal bonds interest rate swap world? Lets take a look around the country and see.

New Jersey just got burned on one deal. Bloomberg reports:
"Dec. 4 (Bloomberg) -- New Jersey taxpayers are being saddled with a bill of about $657,000 a month from Bank of Montreal for an interest-rate swap approved by state officials and linked to bonds that were never sold.
The 11th-largest U.S. state by population, which is cutting expenses to close a $1 billion budget deficit, will pay Canada’s oldest lender $23.5 million The sum, about the same as the salaries for 113 teachers over three years, will allow it to avoid a $50 million penalty for canceling the contract, which was tied to planned sales of school-construction bonds." Article

The Philadelphia Inquirer reports Delaware has its own swap problem:
"Interest-rate swaps" made in 2000 and 2001 provided the DRPA (Delaware Port Authority) with $45 million, but the deals spawned $242 million in liabilities that are beginning to come due...
The DRPA has paid $13 million to settle one swap contract and is going to pay about $40 million to terminate another, Hanson said..." Article

A hospital in Oregon is forced to pay $30 million just to get out of its interest-rate swap contract that is killing its finances:
"Asante Health System could issue as much as $260 million in new bonds to retire or restructure bonds that were sold in 2002, 2005 and 2008. Interest payments on many of those bonds have greatly exceeded original estimates.
Many of the earlier bonds were issued with elaborate "interest swap" provisions that became unfavorable for Asante after the credit markets collapsed in 2008 and interest rates soared.
Marvin Haas, Asante's chief financial officer, said retiring the interest rate swaps will cost Asante about $30 million, over and above the costs of redeeming the face value of the bonds....
We went from 5 percent to 15 percent overnight," he said, describing some of the worst moments of the market collapse in early 2008. Gyrations in the bond market cost Asante $4.5 million in unanticipated interest payments in the budget year that ended Sept. 30, 2008, Haas said. For the budget year that ended Sept. 30, 2009, there was just $758,000 in unanticipated interest
He said the costs of terminating the swaps is "painful," but "it's the right thing to do" because the new bonds come with a fixed interest rate that Asante can budget for..." Article

The Pennsylvania Auditor General has had enough after he issued a report saying over 200 governments in his state had entered into interest-rate swap agreements in the last six years. The study was made after several governments in Pennsylvania were forced to pay several million dollars in early termination fees when interest rates moved the wrong way. Article, Copy of report The Auditor General recommended the legislature ban local governments from entering into such agreements.

Keep in mind Jackson Finance Director Rick Hill and others thought refinancing our bonds with these swaps was a great deal as he claimed Jackson would get ten million dollars up-front from the refinance. JJ reviewed the deal after filing public records requests for the related documents and determined that at best Jackson was going to receive a cash flow of one million dollars for ten years, not a lump sum as Mr. Hill claimed. Such a cash flow was of course dependant on other variables that could change such as the interest rates. The proposed refinance would have also paid $4 million in feeds to politically-connected lawyers and bond advisers even though the original financing for the same bonds only paid $1.5 million in feeds when first closed.

Yes, I know, municipal bonds are boooooring. However, when a bond deal blows up because the Mayor and the City Council were more interested in paying off their friends than in learning the actual details of how these work and your water and sewer rates quadruple like in Jefferson County, it won't seem so boring.