Bond crisis

Hospitals and health systems, unable to secure rates to make refinancing worthwhile, have pulled bonds from the market in recent weeks.

For months, hospitals that borrowed using tax-exempt bonds had enjoyed interest rates so attractive that some refinanced old debt to cut costs. But in recent weeks, the municipal market that favored borrowers has eroded. Interest rates for stable, long-term tax-exempt bonds—a financing option increasingly in favor with healthcare borrowers after the credit crisis—rose abruptly. Rates hit a 15-month high in mid-November, said Pierre Bogacz, a managing director for healthcare financial advisers HFA Partners.

As a result, deals have been delayed or canceled.

Aurora Health Care withdrew more than half of the $380 million in bonds the Wisconsin system planned to refinance as rates began to rise. The 12-hospital system, based in Milwaukee, issued $153 million of shorter-term bonds that earned lower interest rates.

The MetroHealth System in Cleveland scuttled its plan to refinance $75 million and borrow another $25 million. New Hanover Regional Medical Center, Wilmington, N.C., canceled its $96.5 million bond deal, as well.

Others with deals scheduled to enter the market in coming weeks are now uncertain. “We will be ready to go to market in the middle of December,” said Vincent Capece Jr., president and CEO of Middlesex Hospital in Middletown, Conn. “The question is: will it be worth it?”

Behind the rise in rates, said financial advisers and analysts, are the Federal Reserve's recent efforts to boost the economy and the fast-approaching end to the form of credit relief for municipal borrowers that was created during the recession, known as Build America Bonds (Nov. 15, p. 10). Also contributing to the shift is uncertainty over whether Congress will let tax cuts expire as scheduled in December.

“It's more negative than positive,” said David Johnson, managing director and head of the healthcare and higher education group for BMO Capital Markets Corp., of the combined forces that have raised tax-exempt rates.

MetroHealth executives began to prepare in August to refinance $75 million, when a more favorable market would have likely delivered an interest rate of 5.15% for 30-year bonds and reduced the hospital's borrowing costs, said Sharon Kelley, the hospital's chief financial officer. To prepare, MetroHealth approached all three major ratings agencies and received an upgrade from Standard & Poor's to A- and an identical first-time rating from Fitch Ratings. Moody's Investors Service affirmed its A2 rating for the hospital.

But projected savings had largely disappeared late in the week before MetroHealth's scheduled Nov. 15 bond sale, said Jeff Kerkay, the hospital's treasurer. Rates for the 30-year bond reached 5.75% days before the hospital went to market, the “ragged edge” of MetroHealth's threshold for savings necessary to refinance. Kerkay said once MetroHealth abandoned its $75 million refinancing, it no longer made financial sense to enter the market to borrow another $25 million.

The $25 million was expected to finance renovations, said Kelley, who called the market's recent shift swift and disappointing. As November began, the deal appeared on track, she said. “It was that quick,” Kelley said.

Investors began to retreat from the long-term municipal bond market in early November, when municipal bond funds reported assets dropped by $115 million during the week that ended Nov. 10, according to the Investment Company Institute, a trade group for investment companies. The exit came as borrowers flooded the market ahead of the end of the year, when the popular Build America Bond program is scheduled to expire. Analysts with Citigroup noted borrowers were scheduled to bring $14 billion to market the week of Nov. 19, more than any other week this year, in part because of concerns the Build America Bonds would end as scheduled in December.

Build America Bonds, created under the American Recovery and Reinvestment Act of 2009, gives state and local governments a financial incentive to borrow taxable debt, thereby reducing the supply of traditional municipal bonds. The option proved popular; between April 2009 and October, governments swapped Build America Bonds for tax-exempt debt for a total of $150 billion in financing, according to the Treasury Department. That accounts for roughly one-fifth of the municipal market.

Supply of tax-exempt bonds would increase once the Build America Bonds alternative ends in December. Efforts in Congress to continue the temporary financing option have failed so far. Some members of Congress reportedly are working on a last-minute extension of the program, according to the Wall Street Journal. President Barack Obama called for the bonds to be made permanent and expanded to the entire tax-exempt market. “I think that the markets are drawing their own conclusion” that the program will lapse as scheduled, Bogacz said.

The municipal market's benchmark interest rate, known as the 30-year Municipal Market Data index, did recede a bit after reaching its peak Nov. 17 of 4.62%. As of Nov. 23, the benchmark rate was 4.31%, though still higher than the 3.86% on the first day of the month, according to Thomson Reuters.

At Middlesex Hospital in Connecticut, executives have seen a projected $2 million savings, at its present value, evaporate in recent weeks, Capece said. The hospital's deal to refinance $39.2 million is scheduled for Dec. 14. Susan Martin, the hospital's vice president of finance, said because the deal does not include any new debt considered necessary for construction projects, Middlesex can wait until after the new year to see if markets improve, if necessary.

“We're just watching and waiting,” Capece said. “There's not much we can do.”