Wall Street Bets on Cities and States Failing

Tuesday, April 27, 2010

Some of the biggest financial players on Wall Street have been helping California’s government sell its general obligation bonds and municipal debt issuances—while at the same time betting against the very same bonds. By participating in credit default swaps (CDS), banks and firms like Bank of America, Barclays, Citigroup, Goldman Sachs, JPMorgan Chase and Morgan Stanley have been gambling that California’s state and city governments will fail to honor their bond obligations—and that has the state’s treasurer, Democrat Bill Lockyer, upset. At the end of March, Lockyer’s office sent letters to the financial institutions asking about their CDS practices.

The bankers claim they can play “both sides of the street” without compromising their commitments to California. They can do this because of the “Chinese Wall,” a term which means one side of their business helps sellers, such as cities, unload their bonds while the other side assists buyers take risks on default swaps. To Wall Street, there is no conflict of interest with the two different efforts that critics say are at cross purposes.
Just four weeks after he took office, President Barack Obama signed into law the American Recovery and Reinvestment Act, commonly known as the “stimulus package.” One provision of this act was the creation of Build America Bonds, an attempt to lure investors into putting their money into taxable bonds for cities and states that give a yield higher than tax-exempt municipal and treasury bonds and closer to those of corporate bonds.
According to the Wall Street Journal, Wall Street firms have earned more than $1 billion connecting cities with lenders in the past year. The number one seller of Build America Bonds has been Goldman Sachs, followed by JPMorgan Chase, Citigroup and Barclays.
-Noel Brinkerhoff, David Wallechinsky
Investment Banking and California's Municipal Bonds (by Dennis Santiago, Huffington Post)
Should You Start Buying Build America Bonds? (by Marc Lichtenfeld, Smart Profits Report)
Build America Pays Off on Wall Street (by Ianthe Jeanne Dugan, Wall Street Journal)


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