According to Bloomberg News Puerto Rico’s general obligation bonds were cut one step to speculative grade, otherwise known as “junk” status, by Standard & Poor’s citing reduced access to liquidity. The territory has $16.2 billion of debt as of June 30, according to the Government Development Bank for Puerto Rico. Investors nationwide are expected to be effected as about 70 percent of U.S. municipal mutual funds own Puerto Rico securities according to Morningstar Inc. However, investors in Puerto Rico bond funds that were heavily invested in Puerto Rico debt are expected to be hit the hardest.
As we previously reported, a credit rating agency downgrade followed by a default or restructuring of Puerto Rico’s debt seems inevitable. How did Puerto Rico end up here? Unfortunately, its the same familiar Wall Street drama that is now perfectly mirroring the mortgage securities crisis experienced only six years ago. Wall Street firms sell Puerto Rico bonds as safe, tax-free, high-yielding investments and politicians and policy makers take no interest in stopping the underwriting, issuance, and debt selling machine. Moreover, firms know that by packaging unloved and unwanted municipal bonds and other assets into mutual funds the firms can sell speculative assets to retirees and other investors seeking income as conservative and diversified bond funds.
Firms such UBS, sold proprietary bond funds to customer such as the Puerto Rico Fixed Income Fund and the Puerto Rico Investors Tax-Free Fund series that invested up to 140% of their assets in Puerto Rico debt through the employment of leverage. While UBS recommends that Puerto Rico residents should, in some cases, invest up to 100%+ of their assets in the Funds, UBS secretly recommends that UBS Puerto Rico, the firm’s island subsidiary, liquidate its own UBS bond fund holdings due to UBS the overconcentration risk. Thus, according to complaints filed against the firm, UBS’ recommendation to clients to invest in the funds was a conflict of interests with the firm’s own internal analysis that found the funds to be too risky.
Many clients and potential clients have contacted our firm concerned about the effect of a default on their UBS Puerto Rico municipal bond funds. While it is impossible to predict how Puerto Rico’s debt crisis will come to an end all signs now point that some modification to the island’s debt finances will have to occur. First, Puerto Rico has been shut out of traditional debt markets and cannot raise funds as it has in the past. This has put enormous pressure on the yields for Puerto Rico municipal bonds as the island continues upon the current path of ever higher and more difficult to sustain interest rates. Second, a 9% interest rate on Puerto Rico’s $70 billion of debt is $6 billion a year of interest for a country with only a $10 billion annual budget, an amount that is clearly unsustainable long term.
The attorneys at Gana Weinstein LLP are experienced in handling claims involving the UBS bond funds. Our consultations are free and we welcome all inquiries.