Bankruptcy Bloodbath May Hit Municipal Bond Owners Next

February 10, 2010 by · Leave a Comment
Filed under: Stock Market News 

This is one of the great questions, will the U.S. federal government let the states default or will they bail them out?  Investors are betting they will be made whole if the states default and if they aren’t, we will see a major backlash especially after the bailout of Fannie Mae and Freddie Mac.  It will be interesting to see who is right in the end.

Public officials shouldn’t think about filing for Chapter 9 municipal bankruptcy to solve mounting labor costs and pension liabilities.  Even talking about this action will invite an inquiry from Fitch Ratings, the company said in a report published Jan. 27.

“The more bankruptcy is publicly discussed as an option for financial relief, the more its tarnish wears off, increasing the likelihood of its actual use,” Fitch said.

The biggest financial crisis since the Great Depression is squeezing municipalities across the country. Since Vallejo, California, successfully petitioned for bankruptcy protection in May 2008, California’s towns, Detroit’s schools and Pennsylvania’s capital city of Harrisburg have all talked about Chapter 9.

That should make bondholders nervous because it “questions whether a local government’s labor contracts would be surgically undone with bondholders’ rights left intact,” Fitch said.

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