Fitch Ratings placed the BBB-minus rating of Puerto Rico's general obligation bonds on rating watch negative Thursday afternoon.
Fitch analyst Karen Krop cited Puerto Rico's "unexpected deterioration in its capital market access." This threatens the commonwealth's financial flexibility, she wrote.
"The commonwealth had planned to issue long-term debt to both take out short-term borrowings that funded last year's operating deficit and fund the smaller deficit in the current year's budget," Krop said.
Due to the high yields that market participants are demanding on Puerto Rico debt, "the commonwealth has become more reliant on relatively short-term, privately placed borrowing to meet its funding requirements," she said.
"Just as Puerto Rico bond prices have stabilized, Fitch's rating watch action yesterday could reverse some of the recent positive momentum, hours after a Puerto Rico Treasury announcement of enhanced tax evasion measures," Municipal Market Advisors managing director Robert Donahue said Friday.
"Fitch's rating release spotlights the island's central challenge: maintaining sufficient near-term liquidity to finance both core governmental responsibilities and maturing debt obligations," Donahue continued. "The agency warns investors that neither the GDB, nor the bond market, have an unlimited capacity or willingness to continue lending to Puerto Rico's government and public agencies."
In connection with the GO action, Fitch also placed its BBB-minus ratings of the Puerto Rico Building Authority commonwealth-guaranteed government facilities revenue bonds, the Puerto Rico Aqueduct and Sewer Authority commonwealth guaranteed revenue bonds, and the Employee Retirement System pension funding bonds on rating watch negative.
Fitch had dropped the ratings on these bonds to BBB-minus from BBB-plus on March 20, 2013. At the time the rating action affected $15.6 billion in debt.
In the March action Fitch put a negative outlook on the bonds, which meant that the agency might take a negative action in the following year or two.
On Thursday it said the agency expects the credit watch negative to be resolved by June 30, 2014.
Also on Thursday, Fitch affirmed Puerto Rico Sales Tax Financing Corporation (COFINA) bonds, confirming $6.7 billion of senior lien sales tax revenue bonds at AA-minus and $8.9 billion first subordinate lien sales tax revenue bonds at A-plus.
The rating outlook for both the senior and subordinate lien COFINA bonds is stable.
Puerto Rico has enough liquidity to avoid the long-term bond markets for the short-term, Krop said.
Krop also raised concerns about recent Puerto Rico's economic weakness.
However, since the March downgrade, "the commonwealth has made substantial progress in addressing several of its credit challenges and Fitch believes the commitment of management to achieving fiscal balance and honoring its commitments to bondholders remains strong," Krop said. "The administration took steps to close a significant budget gap in fiscal 2013, raised taxes to support a fiscal 2014 budget that reduces the size of the operating gap while increasing funding for pensions, and passed significant pension reform that was validated by the commonwealth supreme court."
Fitch will make its decision about the credit watch during the next several months based on whether the government's budget targets are met, the economy stabilizes, and the commonwealth's access to the bond markets improves, Krop said.
Government Development Bank Interim President José Pagán Beauchamp responded to the Fitch action on Thursday by saying tax revenues for September and October are strong on a year-over-year basis, demonstrating that actions Puerto Rico has taken to increase revenues are working well.
"The Treasury is continuing to make progress on its initiatives to increase the capture rate and reduce tax evasion regarding the remittance of the sales and use tax, and today announced additional measures to ensure that collection efforts will be reinforced from all angles," he said.
The Puerto Rico government is also working to improve the economy, Pagán Beauchamp said.
In October both Moody's Investors Service and Standard & Poor's affirmed their ratings on Puerto Rico's GO bonds at Baa3 and the equivalent BBB-minus. Both have negative outlooks on their ratings and do not have negative ratings watches.
Also in October Moody's lowered its rating on the COFINA senior bonds to A2 from Aa3 and revised its outlook from stable to negative.
Robert Slavin is a reporter for The Bond Buyer.
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