(Bloomberg) -- Interest rates on $100 million of bonds issued by the Port Authority of New York and New Jersey were set at 8 percent in a weekly auction after surging to 20 percent on Feb. 12.
Rates had soared from 4.3 percent when too few buyers bid for the so-called auction-rate debt and Goldman Sachs Group Inc., which runs the auction, refused to put up its own capital to buy unwanted securities. That caused the yield to be set at a level predetermined in bond documents. Rates fell yesterday as the prospect of high yields enticed investors, according to data compiled by Bloomberg.
Rates in the more than $300 billion market for auction-rate debt are rising after banks including Citigroup Inc. and Goldman stopped bidding for the debt at periodic sales they oversee, prompting hundreds of so-called failures. Some investors, including OppenheimerFunds Inc., see an opportunity in the turmoil and are buying the bonds.
``Twenty percent was such an unusually high number,'' said Judy Wesalo Temel, director of credit research at Samson Capital Advisors LLC, a fixed-income manager in New York. ``I wouldn't say that the whole market has calmed down or has even begun to function normally yet. It hasn't.''
Yesterday, a Citigroup-run auction of $25 million of federally taxable debt issued by Vermont's student loan agency failed, causing the rate to remain at 18 percent for the second week in a row. The debt paid 4.5 percent as recently as Feb. 11.
Port Authority Rates
The 8 percent rate on the federally taxable Port Authority debt is still above the range of 4 percent to 5.70 percent the agency paid until this month. Port Authority Treasurer Anne Marie Mulligan didn't return a call for comment; Goldman spokesman Michael DuVally declined to comment.
Auction-rate bonds are long-term debt with interest rates that reset according to bids submitted through securities firms every seven, 28 or 35 days. When there aren't enough bids, the auction fails and the rate is set at a level spelled out in bond documents. Investors who expected to sell the debt are left holding the securities.
Until the past two weeks, bankers who ran auctions prevented failures by purchasing bonds for their own account, though they weren't required to do so. Investors grew wary of relying on bankers to support auctions as the investment firms reported more than $146 billion of losses and writedowns.
Rising Average
The average rate for seven-day municipal auction bonds rose to a record 6.59 percent on Feb. 13 from 4.03 percent the previous week, according to indexes compiled by the Securities Industry and Financial Markets Association.
Regulators allow dealers to bid when they choose, and to control auction information as long as they disclose that they might submit bids. Bankers don't have to say how often they buy or how much, and aren't required to make public the range of bids or when auctions fail.
Last week, New York Governor Eliot Spitzer cited the high rate on the Port Authority's auction-rate bonds in testimony on bond insurers before a House subcommittee on Capital Markets, Insurance and Government. Insurers such as MBIA Inc. and Ambac Financial Group Inc. that back the debt are struggling to raise capital after taking more than $8 billion in writedowns related to mortgage-linked securities they guaranteed.
``The higher max rate stuff is starting to get some traction,'' said Matt Dalton, chief executive officer of Belle Haven Investments, a money management firm based in Greenwich, Connecticut.
Massachusetts Tolls
Drivers on the Massachusetts Turnpike may face higher tolls after the state was unable to sell auction-rate securities backed by a unit of Ambac, according to state officials. The turnpike is now trying to buy a letter of credit from State Street Bank and Trust Co. and KBC Group NV so it can sell variable-rate demand obligations by mid-March instead of auction-rate securities, an advisor for the Turnpike told the agency's board yesterday.
``That is a very significant financial obligation, probably our biggest short-term problem,'' Alan LeBovidge, the turnpike authority's executive director, said at the state agency's monthly board meeting yesterday.
Auction-Rate Proposal
The Securities and Exchange Commission fined banks in a settlement over bid-rigging two years ago. The U.S. municipal bond market's main regulator, the Municipal Securities Rulemaking Board, plans to propose rules requiring banks to disclose more, including the rate, bidding details and information about failures.
Auction-rate securities were introduced in the corporate market in 1984, when American Express Co. sold $300 million of auction preferred stock. The securities, devised by Ronald Gallatin, a retired managing director at Lehman Brothers Holdings Inc., then Shearson Lehman, were used by banks and other companies before auction difficulties prompted many companies to move away from them.
American Express retired its issue in 1991-1992, and in 1995 Lehman was fined $850,000 by the SEC for manipulating auctions conducted for American Express.
The first failed auction in the municipal market occurred in 1990 for bonds issued by the Pima County, Arizona, Industrial Development Authority for Tucson Electric Power Co., now a unit of UniSource Energy Corp., based in Tucson.
