There are certain words and phrases that can bring up a lot of emotion.
People use them in songs, put them in poetry, and whisper them to each other.
Hallmark made an entire industry of finding just the right words and then printing them on zillions of cards so that people didn’t have to come up with the language themselves… or go through the effort of writing “the right words” down.
However, among all the word combinations out there, one particular set of three holds special meaning.
It has been known to bring grown men to tears…
While you might be thinking of that other important phrase (I love you), I’m referring to one more business related: “Paid in full.”
While this phrase doesn’t involve a lifelong commitment, or bring to mind visions of building a family and white picket fences… it does have a certain ring to it that can put a bounce in your step.
When the bank tells you that your mortgage is paid in full, it’s definitely a joyous occasion. Paying off a car loan, while not as big as a home loan, can also make you smile.
On the other side of the fence — lending instead of borrowing — receiving back all of your money is a big deal as well, particularly when you thought the borrower was a deadbeat.
In the city of Detroit, creditors of all sizes are poring over the restructuring plan set out by Emergency Manager Kevin Orr. As I’ve discussed before, pensions and retirees are scheduled to receive 40 cents on the dollar, while city bondholders are expected to receive 20 cents on the dollar. (There’s a caveat here about the Detroit Institute of Art, but that’s a topic for another day.)
And then there’s that special class of bondholder, the ones who lent money to Detroit, specifically to bolster the pensions, who will potentially receive only 10 cents on the dollar.
These plans by the city keep creditors up at night, since they clearly aren’t receiving all of their expected money.
But tucked away in the restructuring plan is a small discussion of a certain kind of bondholder, one who bought debt that is backed not by the city of Detroit, but by the Detroit Water and Sewer Department (DWSD).
These bondholders didn’t lend money to the city. They lent it specifically to the DWSD, which guaranteed repayment of the bonds from the operations of the department.
The structure of the bonds clearly identifies the bondholders as the senior lienholders on the revenues of the department.
Throughout all of the turmoil in Detroit, during all of the struggles, some things consistently happened. People flushed their toilets, ran their showers and baths, and otherwise used the services of the DWSD. They also paid their water and sewer bills.
Because of this, the bondholders that have a claim on the revenue of DWSD are set to get back all of their money. They will be paid in full. I’m certain those investors are very pleased with this development.
This is a topic we have discussed for years.
When investing in municipal bonds, avoid general obligation (GO) bonds, and instead opt for the revenue bonds that are backed by essential services. That way, if the taxing authority goes bust, you’ll still have a claim on the revenue from the services people continue to use.
In many a speech and article, I’ve told investors that municipals can be a great investment, as long as you’re willing to do the work of researching who’s ultimately responsible for repayment.
As the example above illustrates, the difference can be dramatic.
With Detroit in the news and tax day coming, now is a good time to revisit municipal bonds. The situation in Detroit should be making municipal bonds cheaper as investors worry over what city or state is waiting in the wings with their own bankruptcy, while the tax man keeps finding ways to take more of our income, making muni’s more attractive.
To paraphrase Warren Buffet: We should be buying when others are selling, but we need to be very careful that we’re buying the right investments.
Remember: “Forty cents on the dollar” doesn’t have quite the same ring as “paid in full.”
P.S. Harry is holding a live Twitter event on April 8, from 4 p.m. to 4:45 p.m. During this time, he will answer any questions you have regarding his latest book, The Demographic Cliff. Make a note of this on your calendar, write down your questions, and then on the 8, use #democliff to ask what you want @harrydentjr.
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