Dominic Frederico, Assured Guaranty CEO, explains why Stockton, California has not done enough to cut its fiscal fat to meet its bond obligations, with Wilbur Ross, WL Ross & Co. chairman and CEO.

wilbur ross

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here’s a battle brewing? there is a battle brewing, happening in stockton, california’s bankruptcy filing, the city says it can’t pay its bills. this is not funny but joe w giving me a hard time before. something happened on the set during a break, this is not a scripted show but when there are scripts and i somehow manage to erase the entire script. the entire show. the entire show gone. we have to ad lib. we have to ad lib which could be tough for us. talking about stockton, two of its bond insurers say that stockton hasn’t cut its fiscal fat to meet obligations and dominic frederico is the ceo of guaranty and wilbur ross owns more than 30% of his stocks. what is the problem? people make promises and commit funding they don’t understand, what are the ramifications out in the future and they run short and now it appears in isolated cases like stockton they want to look to the bond market to take the majority of loss. you don’t want to take the hit? well not take the hit but understand the relationship we have with municipalities, people look at it as credit insurance. honestly our product is very different so first and foremost, unlike most insurance, the buyer of the insurance gets a benefit they want. in other words, we save them financing costs from the first of the initial bond. you have a life policy, auto policy, unless you have a plan you’re not going to get a benefit. number two you already are investment grade when we decide to ensure you so it’s not really a credit issue. it’s really about getting you access to the market and providing liquidity on those securities when they’re in the market so they can trade, that allows you more access, more opportunity. we’re really a door opener, we act as their partner and share the same on the financing cost to turn around based on fiscal mismanagement, oh, you’ve got to shoaler it the majority of the burden and in stockton’s case trying to push most of the concessions to the bondholders doesn’t make a whole lot of sense. why did you ensure them in the first place? to time their investment grade, they came to us with a promise to pay, they said could you help us provide this insurance, we get access to the market, it saved them when you think about the implied return costs are for money and the pension plan about $100,000. we saved them another $1 million on the interest rate. tell me what this means, what this situation means to the cities and municipalities thinking about filing for bankruptcy and how it’s going to work. well i think they’re going to find out that it’s not easy and it’s not quick and it’s not painless. chapter 11 is not — you’re thinking to jump into bankruptcy they are quicker than otherwise. i think they’re thinking it’s an easy solution to their problem. politicians like to put off problems to the next week, next month, next year. businesses do it all the time, right? businesses do it all the time and 90% of the time the guy who took the company in is not running it when it comes back out and i think the same thing is going to start happening with municipalities. i don’t think voters are going to be very happy to have local elected officials admit they are so incapable of running things that they had to seek court protection. if i’m a municipality and i come to you today, how do you think about — do you think about this differently than you did five, ten years ago? absolutely. everything evolves in all businesses, let alone ours. right now given all the pressures, what are you looking for? well, for instance, typically you look for those issues that have some sort of a dedicated revenue source backing it up. right. so revenue bonds, special facilities, general obligations with an unlimited tax bracket party. obviously in stockton’s case this is a general fund, so it’s an unsecured obligation, so it does make it unique. one thing i’d like to do is, this is not happening in every location. we have and insured 11,000 unique municipal risks. we actually have potential, as we evaluate credit risk to pay a claim on 11 of them. we’re currently paying claims on three of them out of 1,000. by and large municipalities act responsibly and do what they do relatively to balance a budget. in most states, what is on the books in most states in terms of changing existing retirement plans. is every state different? are you guys going to ploy a cadre of employees that need to go state by state to see whether you can change state by state benefits? we do have a cadre of lawyers. i know, sounds like a great business. how many states have laws that unequivocally say you can only change on new employees? we go backwards so you have a number of states, ruffly about a third that prohibit municipalities from going bankrupt. another number of states, probably another third that restrict the individual municipality’s ability to go bankrupt without going through a state — so we’re already guaranteed, that would be a law that you get around that before you — pensions are state by state, so in california, there is a law that says they’re guaranteed to pay the obligation of the pension, but it doesn’t specify the amount, so you really have to break it down. california is unique. when you go for bankruptcy, you’re now into the federal law, and there was a ruling by a judge klein last week that said the federal law will trump the state law and therefore make that clause open as any other contractsn opein a federal bankruptcy. this will play it out but as wilbur said over a number of years. dominic, thank you for coming in.