@AmyMagnotta, CFA, Senior Investment Manager, Brinker Capital
On July 18, the City of Detroit filed for bankruptcy, becoming the largest American city to seek bankruptcy in court. This course of action was anticipated by many market participants as Detroit’s fiscal situation has been deteriorating for some time. The city has accumulated more than $18 billion in debt, including $12 billion in unsecured obligations to lenders and retirees, over $6 billion in bonds secured by revenues, and has run operating deficits for a number of years. Detroit has suffered from a confluence of demographic and economic factors, including a significant loss of population and declining tax revenues, as described in the bankruptcy court declaration filed by Kevyn Orr, Detroit’s emergency financial manager (via Zero Hedge).
This situation will be contentious as there are a number of parties involved, including bondholders, retirees, and other creditors that will seek recovery through the bankruptcy process. Revenue bonds, which represent $6 billion of Detroit’s outstanding debt, have historically had high recovery values in bankruptcies. The case will be watched very closely as the outcome could determine whether this type of restructuring becomes a model for other municipalities under significant fiscal pressure.
We do not view the actions of Detroit to signify broader credit weakness for U.S. municipalities. Overall, municipal credit has been improving as revenues have rebounded. The recent sell off in municipal bonds can be more attributed to the concern surrounding the Fed’s tapering of asset purchases and some technical pressures, not to underlying fundamentals.
At Brinker Capital, we favor active municipal bond strategies that draw on the resources of strong credit research teams and emphasize high quality issues and structures. We have not felt it prudent to reach for yield in the current environment and will maintain our high quality bias. With yields moving slightly higher, some value can be found in municipal bonds at the long end of the curve with yields at close to 5%. Our municipal bond separate account strategies have no exposure to Detroit paper. The mutual funds used within our discretionary products have very limited exposure to Detroit, the vast majority in bonds backed by revenues of the Detroit Water and Sewer Department.
- Billions in Debt, Detroit Stumbles into Insolvency (NY Times)
- Michigan Governor and Detroit’s Manager Call for Patience (NY Times)
- Detroit Files for Bankruptcy, Set Stage for Court Fight (Reuters)
- Detroit Files Largest Municipal Bankruptcy in History (Business Insider)
- U.S. Automakers Thrive as Detroit Goes Bankrupt (Bloomberg)
- Even a Half Century Ago, Journalists Were Predicting Detroit Would Go Bust (The Atlantic)