Friday, April 17, 2009

Jackson: Paying $4 million in fees for bond refinances. Thank you Melton and Crisler.

*The proposed refinance of Jackson's 2002 and 2004 bonds will cost $4,071,000 in fees, even though the principal amounts are $33 million less (See page 14 of Swap discussion doc) and the fees for the original transactions were only $1.5 million
*These services were NOT competitively bid but were instead "privately negotiated".
*Sarah O'Reilly Evans, City Attorney, is paid $60,000 in fees for the refinances
*The bond advisor, Sterne Agee, was paid based on a percentage rate. Sterne Agee's advice was based on the size of the refinances and contingent upon their closing, while they were supposedly providing "objective" analysis.
*The refinances are based on adjustable rates. Houston was badly burned when the interest rates on its bonds under a similar arrangement rose to 15% recently.
*This deal was proposed by Melton's finance director, and Marshand Crisler sponsored the motion to adopt the resolution.
*Derivatives are financial contracts whose value is based on other securities or indexes; interest-rate swaps are tied to future changes in lending rates.

The Jackson City Council (in a motion proposed by Marshand Crisler) voted last week to refinance the 2002 and 2004 public works bond issues as Finance Director Rick Hill claimed this will save money and pay $10 million to the city. (Think of a cash-out refinance on a home. Same thing.) Mr. Hill and representatives of Sterne Agee, the bond advisor to the city, made several presentations and included the following materials:Swap discussion (Fees included), Master Swap Agreement, Schedule to Master Agreement, Second supplement to indenture of trust, Bond resolution. The refinancings are based on the use of a derivative called an "interest rate swap". In layman's terms, the refinancings are based on adjustable rates (they call them variable rates as finance guys tend to be more sophisticated in their descriptions) which can move up or down depending on market conditions.
Interest rate swap derivatives have pummeled cities such as Houston and Erie while bankrupting Jefferson County, Alabama. See earlier post on refinancing Jackson's bonds with derivatives. Unfortunately, these documents fail to answer many questions but still yield some much-needed information on fees, how compensation is calculated, and what parties are involved in these transactions.

Show me the money
When these bonds were first issued, the fees associated with their issue were a combined $1.5 million. The total amount refinanced will be $95.2 million and the fees will be $4.071 million.

The fees are:
Deutsche Bank (the main counterparty): $2,380,000
Rice Financial Products (the minority counterparty): $975,000
Sterne Agee (the council's bond "advisor"): $476,000
Sarah O'Reilly-Evans (City attorney): $60,000
Baker Donelson (Outside counsel): $120,000
Anthony Simon, LLC ( private attorney employed by city): $60,000

Jackson will spend $4 million dollars to get $10 million. The fees are discussed not so much in dollars but rather in terms of basis points (a basis point is .01%). Describing compensation in basis points gives the illusion the fees are much smaller than they really are. Only when converted to actual dollar amounts does the compensation's true size appear. (The fee is determined by calculating the amount of the transaction by the number of basis points. Ten basis points would be a factor of .10%).

The original transactions in 2002 and 2004 generated much lower fees for the involved parties even though the amount of bonds issued was $128 million:

2002 Bond series ($50 million issue):
TOTAL: $415,733
Page 60, Number 9 on Dept. of Finance & Admin's website

2004 Series Fees ($78 million issue):
TOTAL: $929,064
Expenses on page 35

No bidding but it's on the up and up. Trust us.
These services were not opened up to competitive bidding but were privately negotiated. One of the dirty little secrets of the municipal bond business is too often, bonds are not bid out but instead awarded to the fat cats who are in bed with the politicians. A party who can provide better and cheaper service usually has no chance of competing for such contracts unless he plays the game. Bloomberg reported such a lack of bidding usually costs governments substantially more money:
"competitive bidding is vanishing from public finance, raising costs to taxpayers, as underwriters such as Zurich-based UBS AG and Lehman Brothers Holdings Inc. of New York increasingly gain exclusive rights to handle bond sales, data compiled by Bloom-berg shows....
No-bid sales, known as negotiated underwriting, have grown to 81 percent of public finance in 2004, up from 27 percent of public finance in 1974, according to Bloomberg and Thomson Financial data. No-bid sales are more expensive for taxpayers, six academic studies have shown. A 2002 study of 148 New Jersey sales by University of Connecticut professor Mark Robbins found that governments using competition saved $1.26 million...."

Mississippi law does not require competitive bidding for bond sales. Such an omission should surprise no one as bond sales are probably one of the most lucrative forms of government business and the least scrutinized. There is no law preventing "pay to play" when it comes to Mississippi bonds. However some cities such as Los Angeles and Charlotte use competitive bidding and Jefferson County, Alabama found out it overpaid JP Morgan Chase $100 million dollars in fees for a bond deal that bankrupted the county as the fees were "privately negotiated".

Conflict of Interest?
Sterne Agee's website touts its expertise in public finance:
"The Public Finance Group oversees all negotiated and competitive municipal bond issues, both taxable and tax-exempt, as well as financial advisory services for municipalities. Our public finance offices in Birmingham, Alabama; Atlanta and Macon, Georgia; Boston, Massachusetts; and New York, New York, underwrite issues throughout the country. The firm’s public finance professionals have the knowledge and capability to handle all types and sizes of municipal transactions. Since 2004, Sterne Agee has served as an underwriter on nearly 400 tax-exempt and taxable issues totaling $48.1 billion in par amount."

Sterne Agee is acting as Jackson's bond adviser on these transactions. Unfortunately, Jackson is not paying a flat fee based on its objective opinion (and Sterne will have much more expertise in these matters than will Rick Hill or any other Jackson employee) but instead is paying a fee based on the size of the transaction and contingent upon it closing. It is also difficult to determine from these documents what exactly Sterne Agee is providing in exchange for these fees. No one is accusing Sterne Agee of unethical conduct but such arrangements DO created an appearance of a conflict of interest. Such compensation plans are similar to the ones that caused overinflated appraisals in the housing collapse: appraisers were told what value to provide and not paid unless the deal closed (instead of collecting a fee up-front while providing an objective opinion). If Jackson is going to use such firms for objective opinion, it should pay them a flat fee and ensure they have no interest in the outcome of the deal.

Adjustable-rate Armageddon
Blinded by visions of ten million dollars, Rick Hill and the City Council are hitching Jackson's bonds to derivatives using adjustable rates. Such rates have destroyed local government finances across the city. Bloomberg reported yesterday Houston is in trouble as its interest rates on these derivatives skyrocketed to 15%. See if any of this doesn't sound familiar:
"Houston’s deputy controller, James Moncur, figured last May the fourth-largest U.S. city escaped the unraveling credit markets by refinancing some of its $1.8 billion of auction-rate bonds.
Instead, Houston wound up paying 15 percent interest on the new securities, not the money-market rates city officials had anticipated. The so-called variable-rate demand notes backfired when investors fled the market in October, forcing the bank that had guaranteed the bonds, Brussels-based Dexia SA, to buy them
. ..
The $479 billion market for the securities, whose rates are typically reset by banks every day or week, is turning into a quagmire for local officials who embraced a financing strategy they didn’t fully understand....

Erie suffered the same fate as its school board paid JP Morgan Chase $2.9 million to get out of an interest rate swap deal when interest rates worsened after JPM had already received $1 million in fees for the transaction itself. There are numerous examples of such public finance horror around the country. Even now, Jefferson County is fighting to stay out of bankruptcy. A year ago it owed JP Morgan $600 million. JPM's response? Raise taxes. Unfortunately for taxpayers, the SEC does not regulate these municipal derivatives and finance directors such as Mr. Hill usually do not have the expertise to understand the complexities and pitfalls of these interest rate swaps.

Questions that should be asked of Melton, Hill, Crisler, Bluntson, and Tillman:
1. Why weren't the services which were awarded to Sterne Agee, Baker Donelson, and Anthony Simon opened up to competitive bidding?
2. Why doesn't Jackson have a board or commission similar to the zoning board where true experts are appointed who can examine these proposals better than city employees and politicians who too often are pigeons for these schemes?
3. What services were provided by the parties who were paid on this deal?
4. What is Jackson's liability when (notice I didn't say "if") interest rates move the wrong way?
5. As of today under the terms of the refinancings, what would be the interest rates be?
6. What would it cost Jackson to break or refinance this contract after it's finalized?
7. Can you guarantee Jackson will not wind up like Houston or Jefferson County if market conditions worsen?
8. What are Deutsche Bank and Rice's profits from these transactions?

Jackson is about to make a huge mistake as it will surely get burned when the interest rates for these swaps change, and they always change. We have not been told why these parties were chosen. We don't know if Jackson could have received more money than the ten million dollars because we didn't solicit bids from other parties. One of the leading experts on these municipal derivatives told me last week that if Jackson was getting ten million dollars, that meant Duestche Bank was probably going to repackage and sell these or some kind of hedge on the markets shortly aftewards and make a great deal more money. He also made it clear Hill was probably approached by Duetsche Bank and Rice. Most of these finance directors are not investment gurus. The banks track these bonds, crunch the numbers, and then approach the cities with their sales pitches. The government officials don't understand how these things work or how the banks can screw them on these deals so they bite at the offers only to find out later the fruit was poisonous.

What probably happened is the following scenario: Hill is responsible for submitting a budget to the city council. Tax revenue is down. He probably had this proposal (and possibly others) on his desk and saw a way to get some money to bail him out of this mess. The rates are low, he probably won't be working for Jackson next year, so if he can fix the problem now, it's someone else's problem after this summer. However, Jackson will be left holding the bag when everything hits the fan one day and Deutsche Bank and Rice come calling for their juice. While we worry about paying the vig to these loan sharks, O'Reilly, Sterne, Baker, and Simon are laughing all the way to the bank.

Jackson should say no to these swaps. Just as millions of homeowners gambled with adjustable rate mortgages and lost their homes, so will Jackson fare if it uses these "variable" rate swaps. There should be a committee of true experts who can structure the best deal for Jackson, as these poobahs have no clue what they are doing when it comes to finance. If these companies can not provide true disclosures, including profit estimates, then Jackson should not make any agreements with them. It's about time we started holding these companies and politicians responsible for what they are doing with our money.

PS.) The only silver lining will be watching a Mayor Crisler explain how as Councilman Crisler, he led the charge to bankrupt the city.

Note: Here is a GREAT article on how these derivatives have severely impacted other cities and it's written for average people to understand: Municipal Derivative Abuse
Great read on Jefferson County's implosion: Kaboom!


Anonymous said...

How many hours does it take the city attorney to earn the $60,000???

stilettoGOP said...

...I think I'm -still- speechless. Really, really good stuff kf.

atta boy..

Anonymous said...

What the heck has the City Council done to Jackson? GEESH.

Kingfish said...

Total incompetence. I don't think Walker is on the take. The common thread you see in these stories across the country is these things are complex and these government officials don't understand them and are too often snookered by the banks until it hits the fan.

A bond board like a zoning board would stop some of this and subject them to greater scrutiny.

Someone needs to ask Melton, Crisler, and Harvey about this stuff. But the media won't. They'll just worry about twittering and report about this AFTER Jackson's budget explodes.

Watch how many comments are posted here, if there are 20 I'll be surprised. Let me mention "Karen Irby breathed" and there'll be 100.

Anonymous said...

Little surprise. Crisler is running like mad away from his record. His campaign is talking about everything BUT his record. I'll bet he can balance his checking account.

Anonymous said...

I'll bet he CAN'T balance his checking account.

Anonymous said...

The type of research the JFP dreams of doing. Kudos.

Anonymous said...

Excellent work 'Fish! We need this to hit the local tv stations. After all, you've done all the research for them!

Anonymous said...

Crisler could not tell you the difference in a general obligation, a revenue or a tax increment financed bond if his life depended on it.

He is an empty suit. Period.

Anonymous said...

No wonder the TIF abusers are backing his candidacy.

Anonymous said...

Notice how this hasn't been picked up by any of the other blogs or local media.

Anonymous said...

"Notice how this hasn't been picked up by any of the other blogs or local media."

That's because none of them understand it!

Kingfish said...

When these rates move the wrong way and blow up the budget, chew out the reporters just as much as you chew out the government. Trust me, the reporters have all seen this because my traffic counter tells me when they are on my site.

Anonymous said...

Who was the fouth vote on council?

Kingfish said...

It was a 3-2 vote. Stokes and Tillman were absent. McLemore, Crisler, and Blutson voted for it.

Anonymous said...

So 3 council members decide this debacle and are not held accountable? What the heck do THOSE three know about interest rate swaps?

Kingfish said...

They don't.

What needs to happen is a bond board or commission needs to be set up like we have boards for zoning and parks, etc. Each council member appoints 1-2 members, they can't be allowed to bid for any municipal bonds for 3 years. I don't mind paying them a little something either cuz $50k a year total is going to be peanuts compared to the millions spent on fees. Just have each council member appoint experts from his district or people with the true financial saavy to see if a deal is a good one or not.

Anonymous said...

I STILL don't see this covered in our local media!

Anonymous said...

Sterne Agee is a marked firm....29 FINRA violations and some $300,000 in fines. State of Alabama Securities Division has been on their ass for years.

Anonymous said...

The City could have picked any firm on Wall Street to do this
refinance......Sterne Agee is not
the one.

Sterne just hired a bunch of the
Stanford Financial Group is in big trouble with the's gonna be a train wreck.

Anonymous said...

" is in big trouble with the SEC.."

If you are talking about the latest lawsuit seeking repayment of the CD commissions, read again - no one is accused of wrongdoing - the receiver just wants to recoup whatever he can from the sale of the CDs.

If you are talking about someone else, so be it.

Big-D said...

Fast forward to 2018,,,has anything changed?

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Trollfest '09

Trollfest '07 was such a success that Jackson Jambalaya will once again host Trollfest '09. Catch this great event which will leave NE Jackson & Fondren in flames. Othor Cain and his band, The Black Power Structure headline the night while Sonjay Poontang returns for an encore performance. Former Frank Melton bodyguard Marcus Wright makes his premier appearance at Trollfest singing "I'm a Sweet Transvestite" from "The Rocky Horror Picture Show." Kamikaze will sing his new hit, “How I sold out to da Man.” Robbie Bell again performs: “Mamas, don't let your babies grow up to be Bells” and “Any friend of Ed Peters is a friend of mine”. After the show, Ms. Bell will autograph copies of her mug shot photos. In a salute to “Dancing with the Stars”, Ms. Bell and Hinds County District Attorney Robert Smith will dance the Wango Tango.

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Jackson Jambalaya is the home of Trollfest '07. Catch this great event which promises to leave NE Jackson & Fondren in flames. Sonjay Poontang and his band headline the night with a special steel cage, no time limit "loser must leave town" bout between Alan Lange and "Big Cat"Donna Ladd following afterwards. Kamikaze will perform his new song F*** Bush, he's still a _____. Did I mention there was no referee? Dr. Heddy Matthias and Lori Gregory will face off in the undercard dueling with dangling participles and other um, devices. Robbie Bell will perform Her two latest songs: My Best Friends are in the Media and Mama's, Don't Let Your Babies Grow up to be George Bell. Sid Salter of The Clarion-Ledger will host "Pin the Tail on the Trial Lawyer", sponsored by State Farm.

There will be a hugging booth where in exchange for your young son, Frank Melton will give you a loooong hug. Trollfest will have a dunking booth where Muhammed the terrorist will curse you to Allah as you try to hit a target that will drop him into a vat of pig grease. However, in the true spirit of Separate But Equal, Don Imus and someone from NE Jackson will also sit in the dunking booth for an equal amount of time. Tom Head will give a reading for two hours on why he can't figure out who the hell he is. Cliff Cargill will give lessons with his .80 caliber desert eagle, using Frank Melton photos as targets. Tackleberry will be on hand for an autograph session. KIM Waaaaaade will be passing out free titles and deeds to crackhouses formerly owned by The Wood Street Players.

If you get tired come relax at the Fox News Tent. To gain admittance to the VIP section, bring either your Republican Party ID card or a Rebel Flag. Bringing both will entitle you to free drinks.Get your tickets now. Since this is an event for trolls, no ID is required, just bring the hate. Bring the family, Trollfest '07 is for EVERYONE!!!

This is definitely a Beaver production.

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