Puerto Rico’s announcement that it will raise financing through a general obligation bond issue has relaxed muni bond markets, and Sterne Agee analysts Todd L. Hagerman and Robert Greene who participated in the bi-annual Financial and Economic Forum in Puerto Rico sponsored by the Federal Home Loan Bank of New York (FHLBNY) expect Puerto Rico to raise enough money to keep the US territory liquid for the next two years.
Bond issuance gives Puerto Rico two years of liquidity
“We believe the issuance will sufficiently address liquidity needs over at least the next two years. A positive development for sure—a public funding mechanism intended to reduce investor and rating agency fears as a means to provide a necessary runway to further demonstrate ongoing fiscal and economic reforms,” they wrote. Two years’ worth of financing amounts to $1.5 billion – $2 billion.
This bond issuance has already been working into the government’s plan to end its deficit by 2016: with a roughly $820 million shortfall this year, another $650 million deficit next year, and a balanced budget two years from now.
“The lower than projected deficits are the result of lower-than-expected expenses ($170mm in ‘13/’14), including rationalization among certain of the various government agencies, and higher revenues—largely corporate tax increases,” write Hagerman and Greene.
Puerto Rico growth could turn positive in 2015
While this pushes back Puerto Rico’s problems for another two years, the island still has to reverse a decade of falling economic activity. GNP growth turned slightly positive in 2012, and Sterne Agee forecasts it will be positive again by 2015, but after a decade of underperformance investors will want to see more certain signs of recovery.
Puerto Rico’s banking sector is stable, and structural reform has brought positive comparisons with Ireland, so at least the course to recovery looks realistic. “The banks on the island continue to make good progress as the earnings trajectory, credit quality, liquidity and capital levels continue to improve,” write Hagerman and Greene.
The downgrades were never going to sink Puerto Rico’s economy – default risk was already priced in to Puerto Rican paper, but taking the immediate pressure off gives the local government time to pull the territory out of recession, and eventually pull its credit rating back out of junk status.