ORANGE COUNTY IN BANKRUPTCY : Dramatic Decision Is Likely to Touch Off Panic Selling : Securities: Many large bondholders may need to liquidate at steep discounts, analysts say. One investor service has suspended the county’s rating.
Orange County’s dramatic decision late Tuesday to seek bankruptcy protection is likely to touch off some panic selling of existing bonds and kill the county’s ability to return to the bond market in the immediate future.
While the bankruptcy freezes the county’s repayment obligations and gives it time to assess its finances, it will force many large investors to sell at steep discounts because there are legal restrictions on the amount of troubled debt they can hold in their portfolios, said John Schotz, president of Saybrook Capital, a Los Angeles investment banking firm.
And less sophisticated individual investors are likely to follow suit, said Lewis G. Feldman, head of the capital markets group of Cox, Castle & Nicholson, a Los Angeles public finance law firm.
Further curtailing the county’s ability to raise future bond money were decisions Tuesday evening by Moody’s Investors Service to suspend the county’s bond ratings and by Standard & Poor’s Corp. to slash its rating on all Orange County debt. A company official said the rating agency could cut the county’s ratings to CCC this morning, which would rank them as “poor quality” investments.
That huge rating drop is one of the factors likely to force institutional investors to start dumping Orange County bonds this morning, Schotz said.
Panicky investors already tried to unload Orange County bonds Tuesday, only to find that no one wanted them. And if it was difficult to sell the county’s paper without drastic discounts before the Chapter 9 municipal bankruptcy filing, it will only become more difficult.
That, however, could create an opportunity for speculative investors who have faith that the county is a safe long-term bet and who would offer to buy bonds at much-reduced prices. “People used the same approach to pick up junk bonds and real estate when those markets hit the skids,” Feldman said.
The Orange County Sanitation Districts learned Tuesday how scant the market was for Orange County debt. The agency could not find a buyer for $4 million worth of its notes--basically interest-bearing IOUs--as it tried to complete a scheduled refinancing of the paper, said Steve Kozak, the districts’ financial manager.
In general, the offering price of bonds issued by Orange County and its various municipalities was down 12% to 15% on Tuesday compared to bonds with comparable yields and credit ratings, as would-be sellers offered discounts of an additional two to three percentage points from Monday’s prices. Prices are likely to fall much further this morning.
While uncertainty about Orange County’s situation kept its bondholders and bankers on edge Tuesday, the overall bond market had a strong day as traders grew optimistic that the Federal Reserve Board has raised interest rates enough to flatten inflation.
Bond yields fell to continue a weeklong rally in market prices. As yields fall, bond prices rise. The market’s benchmark, the 30-year Treasury bond, was up 52.5 cents to $5.31 per $1,000 bond, as its yield fell to 7.87% from 7.92% on Monday.
“Everyone is scrambling. We’re under pressure to find (Treasury) bonds” because of high demand, said Rissy Mell, a trader at Josephthal, Lyon & Ross in New York.
One trader said conflicting rumors and reports about the Orange County situation “continue to foster a misinformed market” for those bonds, however.
It isn’t only large institutional bondholders who are asking questions that so far have no answers.
“What does it mean?” said retiree Jack Brownstone, a Rancho Mirage resident who owns about $15,000 worth of Orange County bonds. “What happens to the value of my bond? Is it like when New York went bankrupt and the state guaranteed the funds?”
Diamond Bar resident John Anderson, who says he owns a number of Orange County bonds through a municipal bond mutual fund, said he’s afraid he could lose much-needed retirement income and is outraged that “somebody was allowed to mismanage funds to this degree.”
Given that government bankruptcies are rare, with the laws governing them somewhat different than for other bankruptcies, even some sophisticated money managers were clueless Tuesday as to what the impact will be.
“Threatening to file bankruptcy is hysterical behavior unless there is something there that we don’t know--(perhaps) that liabilities outweigh assets” in the county pool, said Fred Prager, a partner with the San Francisco bond trading firm of Prager, McCarthy & Lewis.
“This is groundbreaking material here,” said W. Peck Ferrin, head municipal trader for Bank of America in San Francisco. “None of us has a handle on exactly what a Chapter 9 does” or how it would affect bondholders. Bank of America is a leading underwriter of county bond issues.
But not everyone was gloomy.
“The long-term prospects for Orange County are excellent,” said Jeremy Ragus, California Tax Free Fund portfolio manager at Scudder, Stevens & Clark in Boston. “There is no real general obligation debt” that encumbers the county’s tax revenue “and it is a fast-growing, high-energy, wealthy community that is going to survive this.”
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Times staff writers Ross Kerber, Don Lee and Debora Vrana contributed to this report.
