August 17, 2018
With its authority recently upheld by the courts, Puerto Rico’s Federal Management and Oversight Board (known simply as “the Board”) continues to impose harsh austerity measures on the people of Puerto Rico. But while residents face pension cuts, school closures, massive layoffs, and a continued recession, the same austerity does not apply to the Board itself, which is spending hundreds of millions on its own expenses and a myriad of consultants, advisers, and lawyers. Nor does the austerity appear to apply to some of Puerto Rico’s bondholders either.
Last week, the Board, along with the government of Puerto Rico, announced they reached a deal with owners of bonds in Puerto Rico’s Sales Tax Financing Corporation (COFINA), proudly claiming it would save the commonwealth $17.5 billion in debt service. While technically true, the claim obscures the fact that the deal will still see Puerto Rico use its scarce resources to pay these creditors some $33 billion over the next 40 years on what was initially $17 billion in principal. Overall, the bondholders will recover nearly 75 percent of the initial value of their investment, a fairly generous settlement from a bankrupt entity still trying to recover from a lost decade — without economic growth — followed by the devastation of Hurricane Maria.
In fact, judging from the Board’s most recent fiscal plan, Puerto Rico won’t even have the money to pay for the bonds that would be issued as part of the settlement. The board projects the island to have about a $4 billion surplus over the next 40 years, leaving authorities at least $28 billion short of satisfying this deal with creditors. The settlement is actually based on revenue projections from an earlier version of the Board’s fiscal plan, which were revised down in June when the newest version of the plan was certified. This mistake, rather than the overall generosity of the offer, now puts in question the future of this deal. Will the Board revise its fiscal plan yet again to demand even greater austerity in order to satisfy these creditors’ claims?
To make matters worse, a close look at who the current COFINA bondholders are reveals a series of vulture funds that bought the bonds at steep discounts after the initial default, and immediately after Hurricane Maria. Investors now stand to make huge profits from that move, while most Puerto Ricans suffer through continued austerity. One of the largest investors in COFINA bonds, GoldenTree Asset Management, more than doubled its holdings in the aftermath of Hurricane Maria. Court filings show that as of August 1, 2018, GoldenTree owned $1.5 billion in COFINA bonds, up from $587 million in August 2017. The bonds in question traded as low as 20 cents on the dollar during this time period, which means a 75 percent recovery rate could amount to an enormous profit.
GoldenTree is far from the only vulture fund that stands to benefit though. Initially, one of the loudest voices against reaching a deal with COFINA bondholders was the group representing General Obligation (GO) bondholders, who claimed that they had priority over other creditors for repayment. However, two of the biggest GO bondholders, Aurelius Capital Management, and Monarch Alternative Capital have recently started buying up COFINA bonds, and now stand to benefit from this agreement themselves. Since the storm, court filings show how the two funds have increased their holdings of COFINA securities to $488 million from $39 million.
Given that even its own projections show the island cannot afford such a deal, it seems reasonable to wonder why the Board would approve this generous offering to the vulture funds. Some Board’s members’ connections to those who profited from the initial bond offerings, and now stand to profit from this agreement, might provide some clues.
Board chairman José B. Carrión has family ties to the leadership of Banco Popular, one of the island’s largest banks and an underwriter on much of the debt in question. Carlos M. García, another board member, was president of the Government Development Bank when billions in COFINA debt was issued. At the time, he had just finished a stint at Santander Securities, another of the debt’s underwriters that had previously been led by José Ramón González, another Board member. The revolving door can be hard to keep up with. Though financial disclosures indicate that those board members who held Puerto Rican bonds sold their assets upon joining the Board, the network of banks, lawyers, and officials who pushed Puerto Rico into its current state are the same ones now benefiting from the proposed resolution.
The new bonds will be issued by Citi, another underwriter of the initial offerings. And here is where the web gets even more tangled. Citi has been brought on by the Board as an advisor and has itself hired lobbyist Manny Ortiz, “Puerto Rico’s go-to guy in Washington,” who has close ties to Governor Rossello and active contracts with Puerto Rican government institutions. Until last year, Ortiz was also a registered lobbyist for Ambac, one of the largest insurers of COFINA bonds, with an exposure of $7.3 billion. Ambac’s stock immediately shot up when the deal was announced. Everyone seems to be making money off Puerto Rico’s crisis.
Perhaps worst of all, the same players seem to be making the same mistakes, pushing Puerto Rico into unsustainable debt obligations and continuing the use of a complex financial instrument designed by Goldman Sachs, that has proven devastating to the island. The new bonds will include a type of security called a “Capital Appreciation Bond,” which rather than paying out the interest over the life of the bond, accrues the interest over the years, generating huge returns for investors — and a massive payout down the road for Puerto Rico. On an initial principal of just $2.7 billion, the CAB bonds’ total value is over $15.4 billion.
The timing of the deal also raises questions, since the legality of the bonds in question is being reviewed by the courts, who have yet to issue their ruling. Further, the Board’s investigation into the accumulation of debt in Puerto Rico has also yet to be released (it is scheduled for August 20). Given the involvement of so many of the same players in the original issuances, there could be good reason to reach a deal before the messy details of how these bonds came to be are made public.
Those who initially profited from issuing unsustainable amounts of debt through underwriting and advising fees are now profiting from the restructuring of the same debt. While the actors who pushed Puerto Rico into its current crisis avoid accountability, the island’s residents are left to suffer the consequences, enduring harsh austerity measures imposed upon them for the benefit of those who created the island’s economic ? not natural ? disaster.