July 9, 2013 / 5:35 PM / in 5 years

Bond insurer says Detroit GO bond default would hinder future borrowing

July 9 (Reuters) - Ambac Assurance Corp joined growing opposition to a proposal by Detroit’s emergency manager to default on certain bonds, including some the city backed with a pledge of its full faith and credit when they were sold, and warned that a default on them would hinder its ability to borrow in the future.

Ambac, which insures $170.3 million of Detroit’s general obligation bonds, released a statement late Monday criticizing a plan by Kevyn Orr, the city’s state-appointed emergency manager, to treat Detroit’s GO bonds similarly to the city’s “unsecured” debt, offering bondholders just pennies on the dollar.

The statement also criticized the state of Michigan for its implied support of Orr’s approach.

Ambac, in its statement, raised the prospect that Detroit could have difficulty selling bonds in the future as a result of Orr’s approach. “A successful revitalization of the city will be dependent upon its ability to access cost-effective financing in the future, including general obligation funding,” Ambac said in the statement. “Such access will be needlessly imperiled as a result of the emergency manager’s approach and the state’s apparent support thereof.”

There was no immediate response to Ambac’s statement from spokespersons for Orr and top Michigan officials.

The statement from Ambac comes at a time of rising friction between Detroit and its bond insurers. Last Friday, the city sued Syncora Guarantee, another insurer of Detroit bonds, claiming the company interfered with its efforts to reach a deal to terminate interest rate swap contracts.

Ambac is one of several insurers of Detroit’s municipal debt. The company sold policies to Detroit that require Ambac to make debt service payments in the event the city skips payments on its bonds.

Ambac said it hired Harrison J. Goldin of Goldin Associates, LLC as an adviser. Goldin served as New York City’s comptroller during its financial crisis in the mid-1970s.

“It is short-sighted to signal to lenders that they cannot trust the city’s unconditional pledge to repay its general obligation debts, especially given that the general obligation bonds in question comprise less than 3 percent of the city’s estimate of its liabilities,” Goldin said in the statement.

Orr on June 14 announced the city would stop paying on $11.5 billion of unsecured debt, starting with a default on $1.45 billion of pension obligation certificates of participation. Orr also said he considers about $641 million of general obligation debt, including $410 million of unlimited tax bonds, to be unsecured.

At the same time, Orr proposed that all unsecured creditors would receive a pro rata share of $2 billion of notes the city would issue and pay off as its financial circumstances improve.

The proposed debt restructuring was part of Orr’s sweeping plan to fix the finances of the cash-strapped city that has been plagued by years of declining population and falling revenue. If negotiations with creditors fail, Orr could recommend Detroit file for Chapter 9 bankruptcy, which would be the largest municipal bankruptcy filing ever.

Several analysts in the $3.7 trillion U.S. municipal bond market have said Detroit’s treatment of its GO bonds would have negative ramifications that could boost borrowing costs for Michigan and its local governments.

Investors are expected to keep a close eye on Detroit’s lawsuit against Syncora. The lawsuit claims Syncora illegally interfered with the city’s efforts to tap into tax revenue from casinos as part of an agreement in principal to end swap contracts with counterparties UBS AG and SBS Financial Products Company without having to pay a more than $340 million termination fee.

Syncora covered $24.7 million of the $35.26 million of combined payments due last month on the city’s pension debt as a result of the default. Another insurer, Financial Guaranty Insurance Corp., did not remit a payment of about $16.2 million, according to U.S. Bank, the bond trustee. FGIC, which is undergoing a court-ordered rehabilitation process, did not respond to requests for comment.

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