Detroit Bonds Downgraded to Junk Status

[Red Devil]

Hey where can I buy some of these junk bonds w/ swaps? I remember from 2008 that bondholders are always made whole. That Monet would look great in my living room...

[JBMcB]

Hey where can I buy some of these junk bonds w/ swaps? I remember from 2008 that bondholders are always made whole. That Monet would look great in my living room...

It depends - see if you hold secured debt, and one of the unsecured debtors is a friend of the current federal administration like, say, the UAW, you get screwed and the UAW gets equity, even though the law says you should get paid first.

You could try suing the government for not following their own laws, but you can't sue the government unless they allow you, and in this case they won't.

The only way around this is a CDS, but the premiums on a CDS for Detroit debt would probably equal the value of the instrument, if anyone would sell you one at all, so it would be a wash.

[corktownyuppie]

It depends - see if you hold secured debt, and one of the unsecured debtors is a friend of the current federal administration like, say, the UAW, you get screwed and the UAW gets equity, even though the law says you should get paid first.

You could try suing the government for not following their own laws, but you can't sue the government unless they allow you, and in this case they won't.

The only way around this is a CDS, but the premiums on a CDS for Detroit debt would probably equal the value of the instrument, if anyone would sell you one at all, so it would be a wash.

I wasn't in the room when all the deals were made, so I will stop short of saying that I know what happened. The thing is that in a negotiated bankruptcy or where all the parties "workout" how all the debts [[and how the new ownership) will be restructured, just about everything is fair game.

I agree that the UAW should've been below the secured debt. But the problem is that the debt holders needed the UAW to agree to stay on board in order to keep the company running. You essentially get a Mexican Standoff and then all bets are off.

[JBMcB]

But the problem is that the debt holders needed the UAW to agree to stay on board in order to keep the company running.

No they didn't - the judge had the power to nullify the union contracts. The only leverage the unions had in the negotiations, by law, was the secured GM debt they held in their pension funds.

And yet, somehow, they got to keep their [[modified) contracts, and got a chunk of equity in the new GM. The secured debt holders got pennies on the dollar.

The same thing happened to Delphi pensioners, by the way. UAW members were given deference though they had no standing for it [[again, contracts don't have a lot of bearing here, it's up to the judge to make sure that assets are distributed equitably - that didn't happen.)

[corktownyuppie]

No they didn't - the judge had the power to nullify the union contracts.

Well, yes, in a legal perspective, I agree. But from a practical perspective, even if the judge nullifies the union contracts, what happens? GM takes 6-9 months training their replacements?

[Coaccession]

...in a negotiated bankruptcy or where all the parties "workout" how all the debts [[and how the new ownership) will be restructured, just about everything is fair game.

True enough, CY, if everyone agrees. If memory serves, GM as well as Chrysler had significant holdouts that should have made the judge stick to the rules. That the judge didn't was another step away from the rule of law to the rule of men.


The City Charter gives the Mayor and City Council the power to sell personal property, so unless the Operating Agreement for the DIA overrode the City Charter, financial distress was always a choice for the City, rather than a condition. Choosing financial distress just added $350 million to Detroit's debt, per these news reports, and dithering until an EFM's appointed will add another $400 million according to other new reports. There are those who say a Chapter 9 bankruptcy doesn't give the judge the power to liquidate assets, but hey!... who says bankruptcy law constrains what a judge can do? If a judge does liquidate non-essential Detroit assets, that will put Monet's Gladioli [[City of Detroit Purchase) and Church's Cotopaxi [[Founders Society Purchase, Robert H. Tannahill Foundation Fund, Gibbs-Williams Fund, Dexter M. Ferry Jr. Fund, Merrill Fund, Beatrice W. Rogers Fund, and Richard A. Manoogian Fund -- turned over to Detroit if the rules apply) in play. Given the downgrade's consequences, you may just have your chances to bid, Red Devil, Gistok.

[Novine]

Coaccession, you have a distorted view of Detroit's debts and the threat that those pose to Detroit's assets. A large part of Detroit's debts are owed by the water and sewer department. Those debts are an obligation of the users of the system and those users across SE Michigan are responsible for paying those debts. The next largest chunk of debt are general obligation bonds. Under Michigan law, property taxes are levied to whatever level is required to pay off those debts. Those debts will get paid no matter what. Much of the remaining "debt" is nothing more than future obligations that the city has no requirement to pay today and depending on the performance of the stock market, changes in health care and pension plans, etc. may not have to pay in the future or not the amounts that are currently projected. Even if the city eventually has to pay those obligations, it doesn't have to pay them today and a judge isn't going to force the sale of assets to pay for obligations that aren't due for 20 years.

Unlike many private companies that have fallen into bankruptcy, Detroit has the ability to generate revenue through property and income taxes and state revenue sharing dollars from the state and funding from the federal government. While the elected officials may not have the wherewithal to cut the city's expenditures to match revenues, an Emergency Financial Manager would have a mandate to do so which would quickly eliminate the operating deficit that the city has today. You love to peddle doomsday financial scenarios but they have no connection to the reality even with Detroit's very strained financial situation.

[Coaccession]

...a judge isn't going to force the sale of assets to pay for obligations that aren't due for 20 years.

Bankruptcy accelerates debts to get everything settled at one time, Novine. Creditors have to take what they can get then -- cash and securities -- because there's no going back to the well later. If liquidated assets cover everything, then the debtor was illiquid but not insolvent, and the creditors can walk away with cash. That's the standard deal in such a bankruptcy, and that may be Detroit's situation... choosing financial distress rather than mobilizing assets that more than cover its liabilities. The way, though, that penalties from financial distress keep adding more liabilities -- $350 million here, $400 million there -- Detroit may face true insolvency soon [[it would take a LOT of penalties with all Detroit owns over at the DIA, but then, bond indenture writers have known about Detroit's financial problems for a LONG time).

... [Your] doomsday financial scenarios ... have no connection to the reality even with Detroit's very strained financial situation.

No one really knows how a Detroit EFM or bankruptcy will play out... this really is uncharted territory, whether precedents and statutes apply [[rule of law) or not [[rule of men). Even if precedents and statutes do apply, a Detroit bankruptcy or EFM court review would be a court of first instance for many decisions. That court will explore just how the statutes apply in context with prior law -- perhaps strictly, perhaps not -- and perforce set lots of new precedents along the way -- perhaps in line with current law, perhaps out of line. When it's done, then come the appeals. Red Devil and Gistok may not end up competing with Zacha341, Lowell, and the Sheik of Araby for everything the Detroit Arts Department has, but don't be so sure. I think Det_ard has a point about just how effectively this process has protected the City's jewels so far. They're at risk.

Raising property taxes may not save them. With Detroit's property values so low that people can and do maintain control over many properties simply by paying the minimum bid every time it comes up for tax auction, rather than paying the assessments along the way, Michigan municipal bond law doesn't really matter. The property taxes and other revenues the City can actually raise can't keep up with essential services plus the interest on the bonds, much less generate additional funds to retire the principal as promised. Raising property tax and income tax rates, especially with any additional funds going to interest and principal and pensions rather than current municipal services, can drive more and more people out of Detroit in a vicious cycle [[will the last Detroiter please pay off the city's bonds and turn out the lights before leaving town?). That's where Detroit's assets can come into play to satisfy creditors, leaving taxes to pay for services. What assets does the city need for essential municipal functions -- e.g., police cars, fire trucks, and ambulances -- and what non-essentials can it sell off without harming public safety and health? What assets generate cash to pay related bonds -- e.g., sewer and water plants -- and what assets don't generate cash?

Some folks here want to portray me as a bad guy here. I just wanted to point out -- in time! -- that ways exist so that Detroit's artworks can generate cash while Detroit still retains some form of ownership. If Detroit wants cash along with cultural rights to its artworks, keeping them on permanent exhibition or bringing them back to the DIA at times of the DIA's choosing for temporary exhibitions, research, conservation, etc., I'd be happy to help, but that's not the only alternative that could generate cash from artworks the city still owns in some way [[the smartest alternative, but not the only alternative). I'd hoped Detroit would choose some alternative -- not necessarily mine -- to just plowing straight ahead into a series of defaults and turning control of its assets over to a judge or EFM who'd likely liquidate Detroit's artworks as non-essential, non-cash-generating assets. It looks to me now like Detroit may not avoid more defaults and more associated penalties... it's already on the hook, or so the papers say, for that $350 million penalty for letting its bond ratings slide, and that first $50 million annual payment will hurt... a lot!

Maybe you're right, Novine, that Detroit can avoid a financial doomsday. I wish Detroit luck threading that needle. It just seems awfully late in the day for Detroit to keep bickering with Outstate over who runs the City's finances. If Detroit wants to keep running its own finances, it can mobilize its own assets. It's got assets -- the downgrade's a mistake with all the assets Detroit has -- but it looks to me like it's time to either use 'em or lose 'em to its creditors via EFM or bankruptcy. We'll see pretty soon, one way or another. I think my own scenario is more connected with reality than yours -- it takes into account the City's ability to collect taxes, not just the rates it levies on taxpayers -- but it's quite possible, even likely, something will happen that neither of us anticipate.

And that, Richard, is indeed the art thing again. If anybody's aware of other assets the city owns with financial value on a scale that can turn around the vicious cycle of its financial problems, now would be a good time to introduce them to the discussion. That could just lead us to that eventuality that neither Novine nor I anticipate.

[Novine]

Again, you must not understand the nature of the obligations. The obligations that Detroit has over a 20-year time period are for current employee pensions and health care. They exist on paper but the city has no obligation to pay them today nor would a judge force the city to pay them today. As for the city's ability to pay its current debts through property taxes and income taxes, those get paid first before anything else. Even at Detroit's current depressed property values, it's made those debt payments and will continue to make those debt payments. The rest of your argument is based on scaremongering and baseless speculation.