California Debt Climbs on
Build America Bonds
Research for Online Investors

by John Dalt

11/09/10

Bernanke’s printing money and California is spending it.  The Sacramento Bee reports that the state’s unemployment fund has an estimated $10.3 billion deficit.  California has borrowed $8.3 billion from Uncle Sugar (federal gov) to continue paying benefits.  Now they are looking at a $362 million dollar interest payment due in 2011.

California raised benefits, and has one of the nation’s highest unemployment insurance tax rates.   Governor elect Moonbeam Brown promised voters he would not raise taxes without a public vote.

California requires a two-thirds vote in the legislature to raise taxes.  This is a good law as it makes it difficult to raise taxes, but the legislature never cuts spending.

Voter referendums are attractive, but California has used them in a show of ‘direct democracy’ to limit the ability of the legislature to address funding for specific programs.  Last week, California voters approved Proposition 22.  This bans the use of funds destined for transport (fuel taxes) and local governments from being diverted to other uses.

The intent of this is spot on; it keeps the legislature from playing games with the big honey pot.  Bloomberg points out the problem.  Fund use restrictions reduce the moneys that rating agencies and investors can count to pay debts.  Rating agencies must discount the parts of the budget that are have restricted use.

California is planning to sell $14 billion dollars in debt this month.  The state is issuing $2 billion in 35-year Build America bonds for hospital construction.  Bill Lockyer, state treasurer, anticipates issuing $10 billion in “revenue-anticipation” notes next week.  These notes are to help the state pay bills until tax money is collected.

Build America bonds are a taxable bond issued by states with a 35% interest subsidy from the federal government.  This program was created in the spring of 2009 to assist states in lowering their interest rates.  Even with the Federal Government subsidy previous California issues of Build America bonds are trading at 220 basis points premium above Treasuries.

The Build America bond program is set to end in December.  The House passed a bill last spring to renew the program with a smaller interest rate subsidy, but the Senate did not take it up.  President Obama proposed reducing the subsidy to 28%.

It is just a matter of time before California’s debt ratings make it impossible for the state to borrow money.  When the Federal government stops paying part of the interest, and making outright loans to the state, there will be a crisis akin to Greece or Italy to deal with.

PowerShares offers the Build America Bonds ETF (BAB).  It pays a monthly dividend, and nets a little over 5.4% at present.  Investors should be cautious as the bond program may end, and the price of the etf can change and erase any interest dividend received.  Since California bonds make up a significant portion of the holdings we would also be careful of default.

To the mailbag:
Comment on what you like, as long as your stock recommendations make me money, I am happy.---paid up subscriber R.A.

John’s reply:  They don’t all make money!  But to beat our chest a little, today our SwingTrader subscribers closed LDK for a 31% profit in seven days!

I like to understand the connections about the Fed.  It seems like a conspiracy?---paid up subscriber T.M.

John’s reply:  This was the bankers grabbing control of the money supply.  They operate independent of the government, but with their blessing.  They pull the levers to make sure they make money, if they don't make money...they control the money supply and can print more and put it into their banks.  Profits are private, losses are socialized.  No risk if you own one of big banks.

California is like a kid following dad’s behavior in a dysfunctional family.--- paid up subscriber D.F.

The information presented in this newsletter is based on generally available news releases, corporate filings, current events, interviews and the editor’s opinions.  It may contain errors and you should not make investment decisions based solely on what you believe you have read here.  Do your own research, it is your money.  If you lose it, it is your responsibility, not ours or your grandmothers!  The editor may or may not have a position in any securities discussed.  The editor may have held a position in a security earlier, or in the future.

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