Puerto Rico will default for the second time in five months, but will pay the bulk of $1 billion due on Jan. 4, including its most senior debt, Governor Alejandro Garcia Padilla said on Wednesday.
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The Caribbean island's biggest payment, $328.7 million due in general obligation debt, will be paid, the governor told reporters at a press conference in San Juan. More than half of that payment was made by taking revenues from other commonwealth agencies, he added.
A default on general obligation debt would have been seen as a more serious move because those bonds have the strongest legal protections of any of the island's obligations.
However, it also keeps alive the drama surrounding its deteriorating finances and $70 billion debt load as investors wait for the next shoe to drop. The governor said he is meeting with creditors in early January, though he did not give a specific date.
When asked about the shutdown of key government services, Garcia Padilla told reporters at a press conference: "We have to do all we can to avoid that situation."
David Tawil, co-founder of hedge fund Maglan Capital, said the governor did the right thing given the difficult circumstances, but warned that Puerto Rico is still in the very early stages of dealing with its massive fiscal challenge.
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“What the governor did today was the most prudent move,” Tawil said. “His citizens need to know that necessary infrastructure and services are there and there is not going to be a government shutdown.”
The island will default on a $35.9 million payment due to its Infrastructure Finance Authority (PRIFA). It will also default on $1.4 million due to its Public Finance Corp, but will make payments to most other authorities. The island was facing a bill of about $1 billion had it made all payments.
Padilla said about $163 million of the GO payment came from clawing back revenues from several agencies, including the highway authority, the convention center authority and the island's busing authority. Garcia Padilla on Dec. 1 granted the U.S. territory power to take revenues from those agencies to keep payments on GO debt current.
"They have selectively found a way that they cannot pay on bonds where there is no legal means of enforcing payment," said Michael Comes, portfolio manager at Cumberland Advisors.
The U.S. Commonwealth, suffering from a near decade-long recession with a 45 percent poverty rate and a shrinking tax base due to people leaving the island, first defaulted in August when it failed to make the full payment on its Public Finance Corp (PFC) bonds.
This announcement now opens the door to litigation from holders of defaulted bonds. Garcia Padilla, at the press conference, says while some funds say he is in non-payment, he argued that the island's constitution allows for this action to "protect Puerto Ricans."
“Any bondholder that does have standing is going to want to file a suit because matters are coming to a boil,” Tawil said.
Tawil said that while a default of GO bonds is probably inevitable, there is a slim possibility that either Congress will take action or a settlement could be reached with creditors ahead of a default. Puerto Rico has been negotiating with creditors to try and persuade them to take a reduction.
"The use of over $100 million in reserved funds to make debt service payments for several of the Commonwealth’s issuers should underscore that the Commonwealth is running out of options to pay its debt," said Melba Acosta Febo, president of the Government Development Bank.
Puerto Rico's plight has gained increasing attention in Washington D.C., where the U.S. Treasury has been pushing Congress to allow the island to restructure its debts under U.S. bankruptcy law. The House is expected to hold a Jan. 5 hearing on Puerto Rico's financial problems.
At his press conference, Garcia Padilla urged Congress to act soon.
Some of Puerto Rico’s general obligation bonds rose. General obligation bonds with an 8 percent coupon and maturing in 2035 traded at an average price of 73 cents of the dollar compared to 71.726 when they last traded on Tuesday. The average yield fell to 11.501 percent from 11.716.
Maintaining the GO payment avoids the messy possibility of defaulting on debt backed by constitutional guarantees and considered the class with the strongest legal protection for investors. Its next test on GO debt is not until July, when it faces a about $1.9 billion payment.
The island owes about $400 million due February 1, most of which is due to Puerto Rico Sales Tax Financing Corp, or COFINA. The monies for this payment are already held in reserve, Garcia Padilla said.
(Reporting by Megan Davies in New York and Nick Brown in San Juan; additional reporting by Ed Krudy in New York and Rory Carroll in San Francisco; Writing by David Gaffen; Editing by Diane Craft; Editing by W Simon and Diane Craft)