By Tim McLaughlin
BOSTON Feb 7 U.S. mutual funds with heavy
exposure to Puerto Rico bonds have sold off some of the
cash-strapped island's debt to meet investor redemption demands,
taking heavy losses after a year-long slide in prices.
The sellers included some of Puerto Rico's most bullish U.S.
mutual fund investors. Some of the funds run by
OppenheimerFunds, a vocal supporter of the territory's recent
financial improvements, have sold Puerto Rico debt, according to
analysts and public filings.
But Oppenheimer's Rochester funds combined have been net
buyers of Puerto Rico bonds over the past few months as its
research continues to show that Puerto Rico will honor its debt
obligations in full, company spokeswoman Kaitlyn Downing said.
Funds with less exposure aren't likely to unload their
Puerto Rico debt at fire sale prices, said Daniel Hanson, an
analyst at Height Securities LLC. They can afford to hold tight
and ride out the storm.
Still, mutual funds have found willing buyers in more
risk-prone hedge funds, such as Meehan Combs LP and Maglan
Capital. Distressed debt funds run by Marathon Asset Management
LP and Stone Lion Capital Partners LP also have shown interest
in Puerto Rico's bonds, analysts said.
Puerto Rico and its agencies have about $70 billion in debt
outstanding, and much of it is held by U.S. mutual funds. Its
bonds are appealing because they are tax-exempt in every U.S.
state, and the yields offer high returns to investors willing to
stomach the uncertainty.
A darkening outlook for Puerto Rico's finances has made
investors nervous about a potential default. Standard & Poors
cut Puerto Rico's credit rating to junk status on Tuesday, and
Fitch warned in November it could do the same.
Before the S&P's move, mutual funds run by Vanguard Group
and BlackRock Inc disclosed this past week they had
eliminated what they described as small positions in the
territory late last year, regulatory filings show.
The top 10 U.S. mutual funds with the greatest exposure to
Puerto Rico have been hit with nearly $3 billion in net outflows
over the past year, according to Morningstar Inc. data,
amounting to about a quarter of the funds' combined net assets.
The $363 million Franklin Double-Tax Free Income Fund
, which has about 60 percent of its holdings in Puerto
Rico debt, recently sold nearly $64 million worth of bonds,
according to data from Thomson Reuters' Lipper service. At least
half of those sales included Puerto Rico bonds as the fund has
experienced $277 million in outflows in the past year, according
to Morningstar and Lipper data.
The Franklin fund, run by Franklin Resources Inc, is
grappling with a mandate geared toward investing at least 80
percent of its assets in tax-free bonds issued by U.S.
territories. "Given that Puerto Rico issues the vast majority of
bonds among these territories, Puerto Rico currently represents
the majority of the fund's investments," Franklin spokeswoman
Stacey Johnston Coleman said.
Municipal Market Advisors Inc., an independent municipal
bond research firm, said in a note to clients that Puerto Rico's
downgrade could re-ignite the sort of heavy investor outflows
witnessed last year when the S&P Municipal Bond Puerto Rico
Index fell nearly 21 percent.
"Funds may need to turn to selling things like tobacco
(bonds) in the near term to raise cash, further exacerbating the
market condition," MMA said.
Funds meet redemptions typically by selling portfolio assets
or by borrowing from a bank credit line. Sometimes they are
forced to unload assets they would prefer not to sell.
OppenheimerFunds, a unit of insurer MassMutual Financial
Group, has nine funds of the top 10 funds with the greatest
exposure to Puerto Rico, according to Morningstar. The funds
also have been the most bullish about Puerto Rico, saying that
negative headlines in the press don't take into account the
island's many financial improvements.
OppenheimerFunds' Puerto Rico holdings total about $5.1
billion, a decline of about 15 percent, or $900 million, over
the past year, according to fund disclosures.
The $6.2 billion Oppenheimer Rochester Municipals Mutual
Fund, for example, sold $51 million worth of a Puerto
Rico sales tax revenue bond that matures in 2054, according to
Lipper data for the fourth quarter. The fund's net outflows over
the past year have totaled $1.2 billion.