The Ross Retort
February 20, 2004
From Municipal Bonds to Bail Bonds
The Feds are back at City Hall, sifting through records for the third time since the 2000 elections--another humiliating event for the class of Y2K who said they would make city government more accountable.
Since that election, three council members have been indicted for alleged misdoings with strip club operators. One hold-over from the old guard was ushered out of office in a plea bargain for engaging in a financial tete a tete with Padres owner John Moores while the city was negotiating terms for the ballpark.
This time the Federal investigation is not about strip clubs or sports team influence peddling, but about a failure by the City Managers office to disclose important financial information to investors when the city issued a sewer bond last September.
That $500 million bond, along with one to finance the ballpark, was put on hold after pension board trustee Diann Shipione noticed that the bond prospectus failed to fully discuss the multi- billion dollar employee pension deficit threatening the city’s fiscal health.
In January, after she blew the whistle several times to the city council and then to a bond rater, the city admitted in papers filed with the Municipal Securities Rulemaking Board to a lengthy list of errors in the prospectus.
Now, reportedly the Securities and Exchange Commission and the FBI want to know who knew what when and what did they do about it. So do us all.
Since 1995. the SEC has required issuers of municipal bonds to provide continuing disclosure of material facts that investors need to make informed decisions for the life of the bonds. The omission or misstatement of material information exposes whoever signed off on the disclosure to potential liability for securities fraud.
Simple observation of the Mayor and City Council’s priorities might support the view that they did not believe the pension system had any material effect on the city’s financial future. Just a year ago they voted to increase benefits without making similar increases in contributions.
Even with public concern growing, with the exception of Donna Frye, they continued to reject suggestions that a fiscal tsunami created by chronic under funding and rising benefits was roaring toward the shores of San Diego.
So much were they in denial that the Mayor in his 2004 State of the City address assured us again that our pension problems were no different than those experienced by a lot of other city’s impacted the stock market downturn.
And, Councilman Scott Peters in the midst of a campaign for reelection, announced proud support for another park bond for the 2006 ballot—hey, man, when the credit card is full, just apply for another one.
Then, Moody’s Investment Service downgraded the financial outlook for San Diego general obligation bonds from stable to negative, largely because of the pension deficit, but also because of a small reserve compared with similar municipalities.
We now know that if the growing pension deficit continues unabated, payment on the debt alone will consume over a quarter of the general fund without touching the problem.
Municipal bond experts around the country that I spoke with still think that San Diego is in good financial shape. They were unaware of our pension problems.
Still, they said it would take a catastrophe the magnitude of the Orange County bankruptcy to seriously impact our bond ratings.
In the case of our neighboring county to the north, the financial wizards at the helm attracted other agencies into investment pools. They did not tell the agencies that they were dabbling in risky derivatives. The losses led to the County’s bankruptcy.
The SEC censured the members of the Orange County Board of Supervisors by name, their political careers ended there, and the financial officer responsible spent some jail time under California law.
Municipal fund disclosure fraud investigations generally end up with an SEC settlement that requires the offender to provide full disclosure of the material facts from now on and admit to having failed to do so in future prospectuses for a determined length of time. The city gets a black eye, but does not go down for the count.
That is because stringent fines end up hurting taxpayers. And, city officials are viewed as well-meaning people short on bond market knowledge, prone to mistakes, often victims of bad advice and subject to intense political pressure--which begs the question about the role of San Diego’s City Attorney in this mess.
Kevin Olson who runs the watchdog website was amazed that a city known for financial conservatism was living with a pension liability of this magnitude.
He said that if an investigation reveals that San Diego city officials intentionally hid a condition so menacing to the city’s fiscal health from bond investors, he hopes indictments follow. Municipal bonds are far too important as an infrastructure funding mechanism to risk losing public confidence.
It appears that for anyone in San Diego to end up needing a bail bondsman, an investigation would have to uncover evidence that someone personally profited from the omission, that the worth of the city's bonds would have declined if the pension problem was disclosed, and that immediate action was not taken to fix the problem.
Mercifully there is an election on March 2 when the people of San Diego can take the matter into their own wise hands. Why wait for the Feds.