CIO WM Research 25 September 2013

Transcription

1 CIO WM Research 25 Sepember 2013 Municipal Brief Puero Rico credi & marke updae Crossover invesors seeking higher yields have exhibied more ineres in he Commonwealh's bonds in recen weeks. If he municipal marke coninues o rally, and Puero Rico bonds show some improvemen, individual invesors should remain aler o he opporuniy o rebalance and diversify heir porfolios. Recen economic daa has been discouraging. The labor force paricipaion rae has declined and unemploymen raes have increased. Recen financial resuls have been mixed. General fund ne revenues for Augus lag monhly collecions on a year-overyear basis bu Treasury Secreary Acosa repors beer resuls for he firs half of Sepember. As we go o press, Treasury Secreary Acosa and GDB Inerim Presiden Pagán announced he filing of a bill o amend Ac o expand he abiliy of he Sales Tax Financing Corporaion (COFINA, by is Spanish acronym) o issue bonds hrough an increase in he sales and use ax percenage allocaed o COFINA from 2.75% o 3.5%. According o he press release, COFINA's borrowing capaciy would increase by approximaely USD 2bn and bonds issued under he proposed ransacion would be subordinae o ousanding COFINA deb. The USD 2bn in addiional capaciy doveails wih he Commonwealh's refinancing needs for an esimaed defici of USD 1.2bn associaed wih FY13 and permanen financing of he projeced USD 820mn FY14 budge gap. A number of shor-erm privae placemens compleed earlier his year have bolsered liquidiy in he inerim. We will monior developmens as hey progress. Marke updae Credi spreads on he Commonwealh s general obligaion 10-year deb spiked o reach levels as high as 525bps by 19 Sepember and have hovered in he +500bps range for over a week following 17 sraigh weeks of ouflows from municipal bond muual funds. The wider spreads persised despie a rally in he broader municipal bond marke las week following he FOMC announcemen ha i would coninue quaniaive easing measures. (See Municipal Marke Guide, 19 Sepember 2013). By comparison, spreads on Puero Rico s 10- year GO bonds sood a 290bps in early January. (See Fig. 1). Thomas McLoughlin, analys, UBS FS homas.mcloughlin@ubs.com, Krisin Sephens, analys, UBS FS krisin.sephens@ubs.com, Fig. 1: YTD credi spreads for Puero Rico GO bonds In bps Jan-13 2-Feb-13 2-Mar-13 2-Apr-13 2-May-13 2-Jun-13 2-Jul-13 2-Aug-13 2-Sep-13 PR GO 10 yr - GM GO Aaa/AAA 10 yr PR GO 30 yr - GM GO Aaa/AAA 30 yr Source: MMD, UBS CIO WMR, as of 24 Sepember 2013 This repor has been prepared by UBS Financial Services Inc. (UBS FS). Please see imporan disclaimers and disclosures ha begin on page 4.

2 From a oal reurn sandpoin, Puero Rico is underperforming he broad based municipal bond marke on a monh-o-dae and yearo-dae basis. According o Barclays, his monh's oal reurn on an index of Puero Rico credis is slighly negaive a -0.03% hrough 24 Sepember. By comparison, he overall marke has delivered a posiive reurn of +2.05% over he same ime frame. Year-o-dae, Puero Rico issues (-14.38%) are underperforming he broad-based municipal bond marke (-2.97%) by a margin of over 11%. Some changes o he mix of Puero Rico bondholders is likely underway, wih a shif away from radiional invesors o high-yield buyers. We have deeced greaer ineres in Puero Rico bonds from non-radiional buyers, wih some credi compression occurring a he long-end of he curve. For example, MMD spreads on 30-year Puero Rico GO deb declined by 23 bps o sand a 395bps as of 24 Sepember from a high of 418bps on 13 Sepember. Also, credi spreads on long-daed senior lien COFINA zero coupon bonds due in 2054 improved by 36bps o 256bps as of 24 Sepember from 292bps on 4 Sepember. If he muni marke coninues o rally, and begins o pull Puero Rico credis along, here may be an opporuniy o rebalance porfolios under beer marke condiions. And, as new invesors surface, i may creae opporuniies for he Commonwealh o access he capial markes, albei a a much higher cos. The Commonwealh has indicaed ha i plans o issue somewhere in he range of USD 500mn o USD 1.2bn of deb by year-end. For Puero Rico, he prospec of greaer demand from non-radiional buyers is no doub a welcome possibiliy. We believe individual invesors sill holding Puero Rico bonds should be prepared o rebalance heir porfolios if he municipal marke shows signs of furher srenghening on a reversal in fund flows. Marke echnicals are beginning o look a bi beer. High yield fund flows have reversed in he las week and he low forward supply should be supporive for invesmen grade bonds. Tha said, he window may be a narrow one, and we encourage bondholders o be prepared o ac quickly. Credi updae Puero Rico faces numerous economic challenges, many of which we have noed in prior repors. These include populaion loss, a growing deb burden, and a slow economic growh oulook. Mos recenly, he Bureau of Labor Saisics (BLS) pu he Commonwealh s unemploymen rae a 13.9% in Augus 2013, he highes reading since 14.2% recorded in March. Agains his backdrop, Governor Garcia pledged o creae 50,000 jobs in his firs 18 monhs in office (by July 2014). Looking a he BLS daa for he firs 8 monhs of 2013, he labor force declined by 22,996 (2%) o 1,182,431, represening 11,005 fewer employed individuals and a decrease of 11,991 in he unemployed populaion. Job growh effors mus herefore ramp up dramaically in he nex en monhs. The BLS daa shows he greaes job losses on a year-over-year percenage basis (Aug 2013 vs. Aug 2012) in he following secors: consrucion (-24.4%), manufacuring (-8%), professional and business services (-6.4%), and governmen (-5.9%). In conras, financial aciviies experienced some modes growh (0.7%), as did leisure and hospialiy (+1.5%). Fig. 2: Price rends, selec PR issuers Las price Price /15/2012 8/15/ /15/2012 2/15/2013 5/15/2013 8/15/2013 PUERTO RICO SALES TAX FING COR FIRST SUB-SER A-1 PUERTO RICO ELEC PWR AUTH PWR SER A PUERTO RICO CMWLTH REF-PUBLIC IMPT-SER A PUERTO RICO SALES TAX FING COR SER C PUERTO RICO CMWLTH AQUEDUCT &S SR LIEN-SER A Noe: Daa perains o he following cusips JLY9, 74526QA28, 74514LB89, 74529JNX9, RC7. Source: MSRB rade daa, Bloomberg, UBS CIO WMR, as of 24 Sepember 2013 Fig. 3: GDB Economic Aciviy Index % yoy change Nov-12 Dec-12 Jan-13 Feb-13 Mar-13 Apr-13 May-13 Jun-13 Jul-13 Source: GDB, UBS CIO WMR, as of 4 Sepember 2013 UBS CIO WM Research 25 Sepember

3 Recen economic repors have been discouraging, posing a risk o revenue esimaes made on he basis of 0.2% growh. The Governmen Developmen Bank s Economic Aciviy Index for he monh of July 2013 declined by 5% relaive o July The Index had reurned o posiive year-over-year growh in November 2011 for he firs ime since Puero Rico s recession began in Posiive yearover-year growh coninued for welve monhs bu hen reurned o negaive erriory a he end of 2012, a rend which has acceleraed in (See Fig. 3). General fund ne revenues for he monh of July (he firs monh of FY14) exceeded budge esimaes for he monh. Resuls for Augus were less favorable. Ne general fund revenues for July oaled USD 495mn, roughly fla o he same monh he prior year and above budgeed esimaes, bu Augus collecions declined o USD 473mn, approximaely 8% below he USD 513.5mn colleced in he same monh he prior year. Aggregae collecions for he firs wo monhs of FY14 of USD 968mn are down roughly 4% from he same period in FY13 bu sill exceeded FY14 budge esimaes by USD 12mn. The Garcia Adminisraion aribues he weakness o he deliberae implemenaion of he new revenue measures as par of he FY14 budge. Officials expec ha financial resuls will improve in he monhs ahead as he new axes ake effec and ax compliance improves. To his poin, Treasury Secreary Acosa announced las week ha collecions for he monh of Sepember oaled USD 520mn compared o USD 484mn during he same period he prior year, an increase of 7.5%, as of 19 Sepember. UBS CIO WM Research 25 Sepember

4 Appendix Saemen of Risk Alhough hisorical defaul raes are very low, all municipal bonds carry credi risk, wih he degree of risk largely following he paricular bond s secor. Addiionally, all municipal bonds feaure valuaion, reurn, and liquidiy risk. Valuaion ends o follow inernal and exernal facors, including he level of ineres raes, bond raings, supply facors, and media reporing. These can be difficul or impossible o projec accuraely. Also, mos municipal bonds are callable and/or subjec o earlier han expeced redempion, which can reduce an invesor s oal reurn. Because of he large number of municipal issuers and credi srucures, no all bonds can be easily or quickly sold on he open marke. Terms and Abbreviaions Term / Abbreviaion Descripion / Definiion Term / Abbreviaion Descripion / Definiion GO General Obligaion Bond TEY Taxable Equivalen Yield (ax free yield divided by 100 minus he marginal ax rae) MMD Municipal Marke Daa Raing Agencies Credi Raings I n v e s m en G ra d e N on Ī n ve s m en G ra A1 A2 A3 Baa1 Baa2 Baa3 Ba1 Ba2 Ba3 B1 B2 B3 Caa1 Caa2 Caa3 Ca S&P Moody's Fich/IBCA Definiion AAA Aaa AAA Issuers have excepionally srong credi qualiy. AAA is he bes credi qualiy. AA+ AA AA- Aa1 Aa2 Aa3 AA+ AA AA- Issuers have very srong credi qualiy. A+ A A- BBB+ BBB BBB- BB+ BB BB- B+ B B- CCC+ CCC CCC- CC C A+ A A- BBB+ BBB BBB- BB+ BB BB- B+ B B- CCC+ CCC CCC- CC+ CC CC- Issuers have high credi qualiy. Issuers have adequae credi qualiy. This is he lowes Invesmen Grade caegory. Issuers have weak credi qualiy. This is he highes Speculaive Grade caegory. Issuers have very weak credi qualiy. Issuers have exremely weak credi qualiy. Issuers have very high risk of defaul. d e D C DDD Obligor failed o make paymen on one or more of is financial commimens. his is he lowes qualiy of he Speculaive Grade caegory. UBS FS and/or is affiliaes rade as principal in he fixed income securiies discussed in his repor. UBS CIO WM Research 25 Sepember

5 Appendix Disclaimer In cerain counries UBS AG is referred o as UBS SA. This publicaion is for our cliens informaion only and is no inended as an offer, or a soliciaion of an offer, o buy or sell any invesmen or oher specific produc. I does no consiue a personal recommendaion or ake ino accoun he paricular invesmen objecives, financial siuaion and needs of any specific recipien. We recommend ha recipiens ake financial and/or ax advice as o he implicaions of invesing in any of he producs menioned herein. We do no provide ax advice. The analysis conained herein is based on numerous assumpions. Differen assumpions could resul in maerially differen resuls. Oher han disclosures relaing o UBS AG, is subsidiaries and affiliaes, all informaion expressed in his documen were obained from sources believed o be reliable and in good faih, bu no represenaion or warrany, express or implied, is made as o is accuracy or compleeness. All informaion and opinions are curren only as of he dae of his repor, and are subjec o change wihou noice. This publicaion is no inended o be a complee saemen or summary of he securiies, markes or developmens referred o in he repor. Opinions may differ or be conrary o hose expressed by oher business areas or groups of UBS AG, is subsidiaries and affiliaes. Chief Invesmen Office Wealh Managemen Research Americas (CIO WMRA) is wrien by Wealh Managemen & Swiss Bank and Wealh Managemen Americas. UBS Invesmen Research is wrien by UBS Invesmen Bank. The research process of Excep for economic forecass, CIO WMRA is independen of UBS Invesmen Research. As a consequence research mehodologies applied and assumpions made by CIO WMRA and UBS Invesmen Research may differ, for example, in erms of invesmen horizon, model assumpions, and valuaion mehods. Therefore invesmen recommendaions independenly provided by he wo UBS research organizaions can be differen. The analys(s) responsible for he preparaion of his repor may inerac wih rading desk personnel, sales personnel and oher consiuencies for he purpose of gahering, synhesizing and inerpreing marke informaion. The compensaion of he analys(s) who prepared his repor is deermined exclusively by research managemen and senior managemen (no including invesmen banking). Analys compensaion is no based on invesmen banking revenues, however, compensaion may relae o he revenues of UBS as a whole, of which invesmen banking, sales and rading are a par. A any ime, invesmen decisions (including wheher o buy or hold securiies) made by UBS AG, is subsidiaries and employees hereof, may differ from or be conrary o he opinions expressed in UBS research publicaions. Some invesmens may no be readily realizable since he marke in he securiies is illiquid and herefore valuing he invesmen and idenifying he risk o which you are exposed may be difficul o quanify. UBS relies on informaion barriers o conrol he flow of informaion conained in one or more areas wihin UBS, ino oher areas, unis, groups or affiliaes of UBS. Some invesmens may be subjec o sudden and large falls in value and on realizaion you may receive back less han you invesed or may be required o pay more. Changes in foreign currency exchange raes may have an adverse effec on he price, value or income of an invesmen. Pas performance of an invesmen is no a guide o is fuure performance. Addiional informaion will be made available upon reques. This repor is for disribuion only under such circumsances as may be permied by applicable law. The securiies described herein may no be eligible for sale in all jurisdicions or o all caegories of invesors. Disribued o US persons by UBS Financial Services Inc., a subsidiary of UBS AG. UBS Securiies LLC is a subsidiary of UBS AG and an affiliae of UBS Financial Services Inc. UBS Financial Services Inc. acceps responsibiliy for he conen of a repor prepared by a non-us affiliae when i disribues repors o US persons. All ransacions by a US person in he securiies menioned in his repor should be effeced hrough a US-regisered broker dealer affiliaed wih UBS, and no hrough a non-us affiliae. The conens of his repor have no been and will no be approved by any securiies or invesmen auhoriy in he Unied Saes or elsewhere. Version as per Sepember UBS specifically prohibis he redisribuion or reproducion of his maerial in whole or in par wihou he prior wrien permission of UBS and UBS acceps no liabiliy whasoever for he acions of hird paries in his respec The key symbol and UBS are among he regisered and unregisered rademarks of UBS. All righs reserved UBS CIO WM Research 25 Sepember