OppenheimerFunds increased Puerto Rico risk in two safer funds
BOSTON (Reuters) - Some investors in OppenheimerFunds may be exposed to more uncertainty than they bargained for: The company has ramped up holdings of Puerto Rican debt in two of its lower-risk municipal bond funds, even as much of the U.S. mutual fund industry reduces its exposure to the island's newly junk-rated debt.
The $387 million Oppenheimer Rochester Short Term Municipal Fund's exposure to the Caribbean island's debt surged to 13 percent of net assets at the end of December, from 7 percent a year ago, according to Lipper Inc, a unit of Thomson Reuters. Its smaller, $66 million Intermediate Term Municipal Fund saw its exposure more than double to 17 percent.
Both funds have a 5 percent restriction on how much junk-rated debt they can hold, according to the prospectus governing them. But Oppenheimer does not have to unload the troubled assets to get below that threshold because they were downgraded after the purchases. Data detailing the funds' holdings since the end of December are not yet available.
Fitch on Tuesday became the third credit rating agency in a week to downgrade Puerto Rico to junk, citing worries about the cash-strapped U.S. territory's shrinking economy and reduced ability to finance itself in capital markets.
Oppenheimer has been a vocal supporter of Puerto Rican bonds, which offer high yields, tax exemption, and a guarantee by the territory that payments to creditors will be prioritized above even the most basic public services. The company on Wednesday also downplayed the risks posed by the investment, saying the bulk of the bonds have the additional backing of insurance.
"In the unlikely event of a default or restructuring, which we continue to believe is unlikely, insurers pay coupon and principal payments as they come due," OppenheimerFunds spokeswoman Kaitlyn Downing said in a statement.
But not all of the bonds are insured. Some 4 percent of the Rochester short-term fund's Puerto Rico municipal bonds are uninsured, while 27 percent of the Puerto Rico holdings in the intermediate fund are uninsured, OppenheimerFunds said in a statement.
Short- and medium-term funds are typically billed as offering lower returns and lower volatility than long-term funds, in which investors can ride out dips and get higher yields for their risk taking.
Oppenheimer's stable of Rochester funds holds the largest concentrated bet in Puerto Rican debt among U.S. mutual funds, according to Lipper.
Oppenheimer is part of insurer MassMutual Financial Group, and its Rochester funds oversee about $27 billion in municipal bond assets, with about $5.1 billion of that amount invested in Puerto Rico debt. In January, investors continued to pull money from the Rochester municipal bond funds, with outflows totaling $317 million, Lipper said.
The U.S. territory has $70 billion in debt. Its economy has been in or near recession for the last eight years, fueling a population exodus. Since taking office a year ago, Puerto Rico Governor Alejandro Garcia Padilla has raised taxes, instituted pension reforms and pledged to roll out a balanced budget plan for fiscal 2015, a year ahead of schedule.
Oppenheimer said in its statement that Garcia Padilla had made significant progress "that we believe will result in long-lasting fiscal and economic improvement."
Washington-based research firm Height Securities LLC, however, puts the odds of Puerto Rico defaulting as high as 30 percent
In contrast to Oppenheimer's embrace of Puerto Rican bonds, some municipal bond funds run by larger companies, including Vanguard Group and BlackRock Inc, have cut their exposure to Puerto Rico or eliminated it, according to recent U.S. regulatory filings.
In a review of 92 municipal closed-end funds across six large asset managers, Fitch Ratings found that the group cut their Puerto Rico exposure, on average, by more than 65 percent in the second half of 2013. Two managers exited their holdings entirely, Fitch said on Wednesday.
Oppenheimer's bet on Puerto Rican bonds, however, have helped it deliver higher yields than rival funds. The short-term fund's distribution yield last year was 1.95 percent at net asset value, or more than double the 0.78 percent average yield among short municipal funds tracked by Lipper.
That higher yield helped attract investors, too. The size of Oppenheimer's short-term municipal bond fund increased 41 percent in 2013 to $410 million as investors piled in with more money. The fund's inflows in 2013 were $121 million, but in January it had outflows of $25 million as tension in the municipal bond market increased, according to Lipper.
Michelle Knight, chief economist and managing director of fixed income at Banyan Partners LLC, said if Puerto Rico can issue more debt, it may set the stage for a bond rally.
"But it remains an extraordinarily challenged situation and one only appropriate for more opportunistic investors and those knowledgeable and comfortable with the high risks involved," Knight said.