Home MTA Economics Clearing up an economic mea culpa

Clearing up an economic mea culpa

by Benjamin Kabak

On Monday morning, when I ran a piece on the MTA’s global investments, I leveled some fairly serious charges at MTA CFO Gary Dellaverson and his investment strategy. Relying on information from an article in The Times, I questioned the MTA’s decision to pursue some high risk, high reward investments and in doing so, overstepped my bounds without discovering the full story.

I wrote, as my analysis:

Basically, in a nutshell, the MTA got greedy…All of this economics mumbo-jumbo leads me to believe that perhaps the MTA needs some new fiscal leadership. Perhaps Dellaverson, the man who invested the MTA into this mess, needs to go. Perhaps he just needs new economic advisers who don’t play fast and loose with rather important public infrastructure funds.

Yesterday, the MTA rightly accused me of spouting forth on a topic about which, at the time, I knew little. Jeremy Soffin, MTA spokesman, wrote me a correction in the form of a letter submitted to — but not yet published by The Times. It reads:

To the Editor:

While it is important to your readers to know how the global credit crisis is impacting government services, the November 2 article “From Midwest to M.T.A., Pain From Global Gamble” confuses the issue by comparing the MTA’s successful use of variable rate bonds to riskier investment schemes.

The story implies that the M.T.A. was “wooed by bankers” to pursue variable rate bonds, but the agency has used these bonds to diversify its traditional fixed-rate debt since the 1980s. This mix provides the most cost effective financing for the MTA’s capital program of over $23 billion, with variable rate bonds saving the agency nearly $44 million just this year alone.

The M.T.A. did what was prudent for any governmental issuer of its size – it compiled a list of qualified banks, selected not on the quality of the sales pitch, but on market acceptance and ratings of the institution. The M.T.A. currently uses fourteen major domestic and international banks in its variable rate portfolio, of which Depfa is but one.

As the MTA continues to grapple with the volatility in the financial sector as well as the impact of the economic slowdown on the ‘real’ economy, it will keep its riders interests first and foremost by managing risk with supplier and product diversification.

In my post, I didn’t take the full economic picture into account. What the MTA did in investing in variable rate bonds was what millions of Americans do with their 401(k) plans. They diversified their holdings to spread out the risk in an effort that should have achieved maximum growth. If this one investment didn’t work — and that is a point I’ll get to soon — it has nothing to do with irresponsible investing or greedy officials and everything to do with the fact that, sometimes, investments don’t work out.

But on the other hand, while The Times article didn’t focus on this, as the MTA stresses, these investments works. The variable rate bonds saved the agency $44 million alone.

The other piece of this post and The Times article focused on concerns about the MTA’s debt payments, but these payments aren’t increasing because Depfa — the bank holding just one of the MTA’s many investments — is suffering. The debt is increasing because the MTA has had to borrow to finance its much-needed capital campaign.

While the article mentions a potential $12 million in fees to Depfa, the MTA believes this figure represents a worst-case scenario, and authority officials do not believe it will come to that. The MTA’s financial team is much more concerned with higher interest rates on their recent bond issue and the current disruption in the credit market than with what figures to be a relatively small payout to Depfa, if it even comes to that.

So in the end, I have to issue an apology to the MTA and Gary Dellaverson. I took the information from The Times’ article at face value when the MTA had a story to tell about their investments too that doesn’t make the authority look nearly as bad as I made it out to be. In reality, Dellaverson has done an admirable job spreading the risk at a time when the MTA really needs an outside infusion of cash. Monday’s post represented sloppy reporting by me, and my readers and the agency about which I write deserve better.

You may also like


Matt Singleton November 6, 2008 - 9:35 am

I think it’s important to realize that the MTA wasn’t investing in variable rate bonds, but it used them to finance its growth. To understand how a variable rate bond works, you have to understand that the interest rate is set in an auction process, and the interest rate that is the lowest prevails as the rate the MTA would pay its investors. However, if the auction fails and there are no bidders (what happened in the credit crunch), the interest rate goes up to a very high ‘default rate’ and MTA gets stuck paying that out. The variable rate market was a very efficient way to finance long term debt with short term interest rates (which are usually lower). Bankers typically offered an implicit guarantee that even if nobody else wanted to buy an agency’s bonds, they would step in and purchase the bonds for them, guaranteeing that the MTA would never have to pay these higher rates. However, even though the banks wanted to help their clients when the auctions began to fail, banks had their own problems and couldn’t commit capital to these investments. The MTA and almost every other municipal issuer in the country got stuck with ballooning debt payments. Nobody is ‘at fault’ here, but I think both sides learned their lessons about issuing and trusting implicit guarantees. The variable rate bond market is pretty much destroyed, and I think we’ll be lucky if it ever comes back in the form we knew it. Unfortunately, this means that financing public projects will be much more expensive.

Angus Grieve-Smith November 6, 2008 - 11:31 pm

Ben, you may have overstated your criticism of the MTA, but I think your general point is still valid. There’s no such thing as risk-free financing, but there’s a range of risk. For consumers, for example, it runs from Freddie the Shark to fixed-rate mortgages, passing through payday loans, option ARMs and bait-and-switch credit cards on the way.

The MTA issued those variable-rate bonds knowing that there was a significant chance that they’d have to pay higher interest rates than with fixed-rate bonds. They took a bet that it wouldn’t happen. For a while they won the bet, but then they started losing. Which means we started losing, because interest rates cut into operating costs.

In essence, they crossed a line and took on too much risk. They were gambling with our future fares. Just because they won the first few hands doesn’t make it right. They’re a public institution, and they have an obligation to be prudent with public funds, and limit our exposure to high interest rates.


Leave a Comment