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LINCOLN PARK - Wall St. finance mess may ripple to municipalitie
(by Sid Johnston - Staff Writer - October 15, 2008)
LINCOLN PARK - The Wall Street financial fiasco is affecting everyone, and even the local governments aren’t immune.
Chuck Ferraioli, the borough’s auditor, sat down with Borough Council members at their Oct. 6 meeting to explain how the state of affairs is affecting funding for ordinances and the borough’s long-term strategy to weather the economic storm.
“I was hoping that I could come here tonight saying that the bailout plan worked and we have no problems, but if you have followed the stock market Friday and Monday, the news has been pretty awful,” said Ferraioli.
Ferraioli explained the borough’s debt structure and the best way to handle it in the current economy.
“The problem Lincoln Park has is that the borough has $21 million outstanding in notes, and (it) cannot depend on the local bank to help out with it because it is over $10 million,” said Ferraioli.
“Lincoln Park’s notes are coming due at the end of February, so what the borough should do is sell our bonds through the Morris County Improvement Authority (MCIA), especially since the MCIA has an AAA rating, which is worth more than the bond insurance at the current moment,” he said.
According to the official Morris County Web site, the MCIA is an autonomous agency of the state of New Jersey and Morris County that acts as a catalyst for economic development. The MCIA can provide financial assistance to a variety of local governments, non-profit corporations and private entities within the county.
Financial analyst companies like Standards & Poor, Moody, and Fitch Ratings issue credit ratings on a scale from AAA, which is the safest investment, to D, which is a gamble. However, these companies are part of the financial problem, since some of them put credit ratings on the sub-prime mortgages and the collateral debt obligations, or CDOs.
The CDOs, which have been a funding vehicle since 1987, are an unregulated type of asset-backed security and structured credit product. They are constructed from a portfolio of fixed income assets, according to the Wharton School of Economics at the University of Pennsylvania.
“The credit rating companies like Standards & Poor are going through a lot of issues and lawsuits, since they were the ones who rated some of the sub-prime companies and CDOs with a AAA rating,” he said.
Ferraioli told the council, “Morris County is a strong community, and the MCIA should remain AAA unless what is going on in the market goes from a recession to a depression. Then all bets are off.
“The main reason why the MCIA has a high rating is because of various factors used to rate the agencies, based on the county’s status,” he said. “They look at factors such as how much debt does the county have, what is the employment rate in the county, how many jobs are in the county, and in my opinion, how wealthy the community is.”
Ferraioli further explained what the borough’s long-term strategy should be with the MCIA.
“The borough should also sell bonds and notes through the MCIA, because if we receive a high interest rate on future bonds, we can sell through the MCIA and get a lower interest rate,” Ferraioli said.
“However, the borough must approve the authorization for application to the Local Finance Board, so they are confident that the borough won’t pull out of any applications and have the board not compensated for its time and efforts,” he said.
Ferraioli warned the council about inaction, saying, “If the borough does nothing and just stays in notes, it has a statutory principal payment of $390,000 due by next year, and the borough has to pay it.”
He also assured the council, saying, “In reality, the borough is not committed to anything except passing the resolution. But if the borough passed the resolution and the borough chose not to do any kind of financial agreement with the MCIA, the next time the borough goes to the MCIA, it might have some issues.”
Why the bonds tanked
Ferraioli detailed how Wall Street is affecting Main Street and eventually the quality of life when it comes to finding money to improve the infrastructure of the borough.
“There is a little sliver of municipal bonds and notes that Wall Street handles, and municipal bonds are what fund ordinances,” Ferraioli said.
He explained how the recent losses in the stock market are affecting the sale of local bonds and notes in New Jersey.
“Two weeks ago, Montgomery Township had a note sale, and nobody would bid on it. Montgomery Township has an AA credit rating,” Ferraioli said.
He also described the role of the bond insurers.
“You then have the bond insurers. Normally, when they insure a municipal issue, that makes it AAA, which is the highest credit rating, and the higher the rating, the lower the interest you pay,” Ferraioli said.
However, Ambac Financial and MBIA, the two largest bond insurers and both based in New York, recently have had their credit ratings lowered. Ambac Financial and MBIA now have an AA credit rating instead of their former AAA, which has shattered the market’s confidence in knowing that the bonds will be 100 percent insured.
“Ambac and MBIA are close to going out of business because they put an AAA rating on the CDOs,” Ferraioli said.
Ferraioli also mentioned how Financial Security Assurance (FSA) and Assured, two other important bond insurers, are failing because of the economy. FSA’s credit rating went from AAA to AA and Assured is on a credit watch with an impeding downgrade to AA, according to Ferraioli.
Summing it up, Ferraioli said, “that bond insurance, which used to be the most stable bet in the market, is worth a lot less right now.”
He also explained why most local banks aren’t buying notes and bonds now.
“The main reason why banks buy municipal bonds is because the interest is tax exempt, or a bank qualifier. A bank qualifier is any money issued under $10 million. Once you go over $10 million, the bank has to pay interest on the municipal bond, so the bank will not keep anything over $10 million for themselves,” Ferraioli said.
“As of last week, there were $3.2 billion in municipal bond sales in New Jersey, but the banks aren’t going to issue the bonds for them at the present moment,” he added.
In the end, Ferraioli assured the council members that there are some fail-safes written into the law.
“Municipal borrowing is extremely safe, and in New Jersey, we have a law saying that a town cannot go bankrupt. There is another law saying that taxes can be raised as high as possible to pay off the debt services. If you cannot comply with the first two laws, the state will take the town’s state aid and pay the debt off for you,” Ferraioli said.
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