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Summary

  • Puerto Rico's new bond offering signals risk warning.
  • The bonds may not be able to pay.
  • Existing bondholders may need to brace for a potential restructuring.

Puerto Rico's $3 billion bond offering reveals disturbing information that current bondholders should be aware of.

Puerto Rico has made some astounding disclosures regarding the new offering, according to a report by Lisa Lambert of Reuters. A draft of the bond issue's preliminary offering statement warned that a variety of economic and fiscal challenges could place the Island Commonwealth "in a position where it may be unable to honor its obligation to pay principal of and interest on the bonds in full or in a timely manner," Lambert reported.

The risks to current holders of Puerto Rico bonds are plentiful, according to the offering draft.

"Among its list of numerous risks, though, the draft includes actions similar to filing for bankruptcy if Puerto Rico 'is unable to address the lack of sufficient resources through the application of the 'priority norms,'' according to Lambert.

Lambert continued: "Under current law, the Commonwealth is not eligible to seek relief under Chapter 9 of the United States Bankruptcy Code, which is the only chapter under which a 'municipality' can seek relief," the draft notes. "While no specific contingency plan has been adopted to address any such situation, GDB, as fiscal agent to the Commonwealth, is evaluating alternative courses of action."

The GDB, or Government Development Bank, acts as Puerto Rico's central repository, borrower and lender, Lambert noted. "For example, the Commonwealth could seek relief under existing law or under laws enacted in the future regarding restructuring, moratorium and similar laws affecting creditors' rights," according to the draft.

While Puerto Rico's candor is admirable, it may spook the bond markets and terrify current Puerto Rico investors. Yields will be close to 9%, an almost unheard of return on supposedly safe municipal securities. (Remember, bond yields and prices move against each other, so the higher the yield, the lower the value. High yield "junk" bonds kick off higher yields because of their potential to default.)

Puerto Rico's new disclosures also report that Puerto Rico is bracing bondholders for a dreaded "restructuring." This means that Puerto Rico and the various agencies that issued the bonds could change the terms of the debt agreement, in the end potentially hurting Mom and Pop investors. Or, new laws may be created regarding a "restructuring, moratorium and similar law affecting creditors' rights."

Puerto Rico's Government Development Bank, according to another Reuters report, reported that it hired an affiliate of Millstein & Co. as a "restructuring expert to evaluate potential funding sources and financial proposals."

Reuters reports that Robert Donahue of Municipal Market Advisors stated that he didn't see how "this helps demand" for the new $3.5 billion in bonds in any way and that it "seems like a bad idea to disclose this right before a huge deal, especially given Millstein's background."

In other words, why would Puerto Rico hire Millstein if it wasn't bracing for bad news?

This new offering, along with the hiring of the bankruptcy specialist Jim Millstein, certainly gives the appearance that Puerto Rico officials are preparing for the worst. That means Mom and Pop investors who already own Puerto Rico bonds, and already have a case of the jitters, in the coming weeks and months may be pushed to the brink.

Zamansky LLC are securities and investment fraud attorneys representing investors in federal and state litigation against financial institutions. For more information about Zamansky LLC, please visit here.

Source: Is Puerto Rico's Bond Deal Its Last Act?