By Hilary Russ and Edward Krudy
April 2 After a court decision allowing
Stockton, California to push ahead with its bankruptcy,
investors in the $3.7 trillion U.S. municipal bond market will
have a ringside seat as the nation's biggest public pension
system and bondholders duke it out.
In one corner is the 800-pound gorilla, the behemoth $254
billion California Public Employees' Retirement System
(CalPERS), which is set to battle with bondholders over who will
have to take a haircut as the broke city looks to reduce its
debt. Public employees are also in the match, as the city is
expected to renegotiate labor contracts.
The market for U.S. state and city debt, worn down by years
of negative headlines about financially distressed local
governments, on Tuesday welcomed news of the case's
"The market is looking forward to some resolution and
clarity here," Charles S. Pulire, senior portfolio manager with
Oppenheimer Rochester municipal funds, which has $38 billion in
management in 20 different municipal funds.
Dan Heckman, senior fixed income strategist at U.S. Bank
Wealth Management, said bond owners may emerge unscathed.
"There are lots of areas where the city can go before
looking for a big discount from bondholders," Heckman said. "We
don't think it will be as much a negative as many believe."
U.S. Bankruptcy Court Judge Christopher Klein signaled that
CalPERS' position in the case was not above review. Stockton, a
city of 300,000, has so far not reduced pension payments to
retired city workers, although it has eliminated their
Since at least the 1930s, bondholders in major municipal
bankruptcies have consistently been repaid their entire
Stockton became the biggest U.S. city to file for Chapter 9
bankruptcy protection in June 2012. But muni bond insurers and
bondholders challenged the case, arguing that the city was not
truly insolvent when it filed and that it impropertly failed to
seek concessions from CalPERS.
INVESTORS SAW IT COMING
After Monday's ruling investors in the massive municipal
bond market did what they've learned to do over the past few
years: shrug it off.
"We've seen this coming for quite some time and the market
has expected it, so it's not the big attention grabbing headline
that would necessarily create volatility or a selloff in the
market," said Peter Hayes, head of the municipal bonds group at
BlackRock, which oversees $109 billion.
Portfolio managers said that despite years of bad news for
struggling cities and some high-profile bankruptcies, the market
remains safe relative to other investments.
Of nearly 8,000 local governments rated by Moody's Investors
Service, only 36, or less than 0.5 percent, are rated below
investments grade. While miniscule that number has been creeping
up, with six of those added over the last five months.
The court decision on Monday was having little effect on
muni bond prices tied to Stockton, or other cities and towns
especially hit by the U.S. housing bust, portfolio managers
"Investors are watching and waiting," said Chris Mier, chief
strategist of Loop Capital's analytical division. "The lack of
precedent is likely encouraging investors who own Stockton debt
to maintain their holdings since it is very difficult right now
to anticipate an outcome."
Gregory Serbe, who oversees $230 million of municipal assets
as president of Municipal Asset Management at Lebenthal & Co.,
said that Stockton and San Bernardino, another bankrupt
California municipality, will probably make investors more
But the cases are unlikely to cause widespread fear among
mom and pop retail investors, who dominiate the muni market, of
an asset class that's normally considered safe.
"Will this make people afraid of municipal bonds? Probably
not," he said. "But I think it will make people look at it a
little more closely and more at the fine print of the credit