Date post: | 26-Jul-2015 |
Category: |
Documents |
Upload: | nikita-malpani |
View: | 24 times |
Download: | 0 times |
Municipal BondsAshish Agarwal
Gaurav Shah (A056)Jatinder Bir Singh Tuli (A062)
Nikita Malpani (A046)Priya Chhabria (A017)
Urvashi Jha
What are Municipal Bonds?
Cities
Countries
School districts
Special-purpose districts
Redevelopment agencies
Public utility districts
Publicly owned airports and seaports
Any other governmental entity below the state level
Issued by
Exempt from the federal income tax
Exempt from the State income tax
Interest Payment
Free to trade anytime once they are purchased by the investor
Investment in state and local government projects
•Yield usually lower than taxable bond
>> NOT ALL MUNICIPAL BONDS ARE TAX-EXEMPT<<
Working of Municipal Bonds inthe West
Issuer InvestorCash
Promise to Repay
Governed by an extensive system of laws and regulations, which vary by state
Bonds bear interest –fixed/ variable rate, subject to a cap known as the maximum legal limit
Interest & Face value
Repayment period- few months to 20 or 30 yrs, even longer
Bond proceeds to be spent on one time capital projects within 3-5 yrs of issuance
Tax exempt status- investors accept lower interest payments
Attractive source of financing for municipal entities as borrowing rate- lower
Municipal Bonds
Principal + Interest
Project Cash Flows
Investors
Sp
ecia
l G
uar
ante
e R
ole
of T
rust
ees
ULBs
Escrow Debt Reserve Fund
Guarantee by DFIs / MDBs
Counter Guarantee
Municipal Bond Structure in India
Principal Municipal Interest Bonds Bonds Principal + Interest Project Cash Flows
Investors
AMC
ULBs Loan/Bonds
Escrow Debt Reserve Fund
Guarantee by DFIs/MDBs
Municipal Bonds With AMC as an Intermediary
Types of Municipal Bonds
General Obligation Bonds
• ‘P’& ‘i’ secured by faith & credit & taxing power of issuer
• Issued by municipal entities to fund variety of expenses
Revenue
Bonds
• ‘P’ & ‘i’ secured by the revenue derived from tolls, charges or rent
• Issued by special authorities created for particular purpose
Issued in minimum denominations of $5000 or multiples of $5000
Insured bonds• Insured by policies written by commercial insurance
companies• Intended to provide for the insurer to pay P & ‘i’ payment in
the event the issuer defaults• Creditworthiness of both the insurer and the issuer
Taxable municipal bondsInterest is taxable
• Build America Bonds (BABs) ,introduced in 2008 financial crisis
• 35% federal rebate on interest costs • BABs only subsidize an issuer's borrowing cost• No implied backing from the federal government
Zero-coupon bonds Issued at a discount, with the full value, including accrued interest, paid at maturity.
• Interest income may be reportable annually
Original-issue discount bondsIssued at a price below face value (par) which qualify for special treatment under federal tax law.
Pre-refunded bondsResult from the advance refunding of bonds that are not currently redeemable
• Goal to provide present-value savings to the issuer• The escrow account is most often funded with U.S. Treasuries
considered relatively safe
Escrowed-to-maturity (ETM) bonds• When the proceeds of a refunding issue are deposited in an
escrow account for investment in an amount sufficient to pay the principal and interest on the issue being refunded.
Housing bonds• Securities backed by mortgages and mortgage loan
repayments. • Can be called at any time from the prepayment of principal on
the underlying mortgages
Municipal notes• Short-term debt obligations that usually mature within a year
or less• Municipalities issue notes to generate stable cash flow while
they wait for other expected revenues.
Conduit bonds• Revenue bonds issued by state agencies called "conduit
issuers“ that act on behalf of the actual borrowers• Issued for projects such as non-profit hospitals, housing
developments etc.• The third-party, conduit borrower—not the issuing agency—is
responsible for interest payments and principal repayments
U.S Bond Market1st general obligation bond was issued by the City of New York for a canal in 1812
The US Municipal Bond market is $2.2 trillion strong
Forms nearly more than 12% of the total debt market
One of the highest yielding debt instruments
Urban infrastructural projects are funded through issue of municipal bonds
Secondary market – active with sufficient liquidity
Tax exempt lower the cost of borrowing
The credit rating mechanism is very robust
Municipal Bond Market In India
How did it start??Bangalore Municipal Corporation was first to issue municipal bonds in 1997
Ahmedabad Municipal Corporation issued these bonds in 1998
Pune Municipal Corporation followed later.
Current ScenarioRaised merely Rs. 850 Crore since its inception
Forms nearly 10% of the debt market in the US
Only Tamil Nadu and Karnataka have raised funds through pooled finance route.
Municipalities have tapped the bond market only 13 times
Credit Rating•Finances•Operations
CRISIL
•Finances, Accounting, expenditure, liquidity•Major Revenue heads•Service delivery and funding arrangements
ICRA
•Fiscal profile of the government and its administrative capability•Profile of project•Risk factors
CARE
Credit Ratings for the municipal corporations of 63 JNNURM are released regularly and 40% of them have been rated as investment grade.
Need for Municipal Bonds
Increasing Population and Urbanization leading to rising demand for basic amenities
• Jawaharlal Nehru National Urban Renewal Mission estimates an investment of more than Rs. 1.2 trillion
Fiscal deficit control, budgetary allocations to municipal bodies, concessional funding
• Share of local expenditure in total government expenditure about 40-50%
Concerns …
Municipal Bonds
• The urban expenditure so far has been financed significantly out of the budgetary support
• Financing needs will be met by Urban local body (ULB) own revenues and the external financing needs through debt financing.
Potential of Development of bond markets in India
The savings rate in India is high, close to 33%
The household savings are roughly 25%
Over 10% of household savings are invested in gold or currency
An integrated set of actions is required to convert gold/currency based saving into financial saving.
The Constraints..
Weak balance sheets:• The Urban local bodies depend largely on the transfers from
government.
Measures to strengthen the own revenues of India’s local bodies:
• a) Empowering ULBs to levy exclusive taxes, most importantly property tax
• b) A more broad based revenue sharing by states with ULBs
• c) Formula based devolution of state revenues based on recommendations of State Finance Commissions.
Benchmark and yield curve discovery:• Some of the biggest and richest municipal corporations
run a surplus and therefore do not need to access the debt market.
• Mumbai’s BMC, New Delhi Municipal Corporation, or various other big corporations rely on loans or grants.
• Consequently, there are no benchmark securities that may guide the investors regarding the associated risk premiums and against which the smaller municipal corporations may borrow.
Credit Enhancement:
• Institutional investors (e.g. Pension Funds, Insurance) are stipulated to not invest in bonds below a certain credit rating.
• This calls for specialized credit enhancement institutions
• The Government instituted the Pooled Finance Development Fund with the aim of providing credit enhancement to a pool of ULBs
Pooled Finance Route• • To attract urban infrastructure investments - pooled
financing mechanism by GOI.
• A Pooled Finance Development Fund (PFDF) of Rs 400 Cr ($100 mn) for the 10th Five Year Plan period - set up to help ULBs finance their investment needs.
• Ratings enhancement facility through a Credit Rating Enhancement Fund (CREF)
• Expected to reduce the costs of capital and encourage ULBs enter the Municipal debt market
• . Access the market through a State Pooled Finance Entity (SPFE)
• Purchase guarantees from financial institutions willing to underwrite the risk of a cash-flow shortfall.
Credit protection : mitigate the risks lower the cost of capital encourage the growth of Municipal debt market in
India
• Advantages of Pooled Financing mechanism:
1. Helps risk diversification
2. Less economically viable, but socially useful projects, can bandwagon on the more bankable projects
3. By pooling together a number of projects, it can help finance more projects
• Measures to enhance disclosures on behalf of borrowers
• Market infrastructure to enhance secondary market liquidity need to be taken.
Need of the Hour….
State Government
Borrowing restrictions
Prescriptions regarding interest and principal payment
Specification of purposes for bond issue