Uh-oh. The only thing propping up Chicago may be that which is alluded to in their nickname: wind. Here is a recent headline from the Chicago Sun Times on the city’s predicament:
City of Chicago’s cash cushion plummets, debt triples, arrests drop, water use rises.
That puts it in a nutshell doesn’t it? Moody’s didn’t help things in the optimism department as it downgraded Chicago’s debt rating by a whopping three notches. And they weren’t too shy in explaining why:
…citing Chicago’s “very large and growing” pension liabilities, “significant” debt service payments, “unrelenting public safety demands” and historic reluctance to raise local taxes that has continued under Emanuel.
Now, none of this comes as a surprise to anyone paying attention of course. But as I, and others here at PrimeRates often preach it is imperative to assess the risk level of one’s portfolio on a regular basis. And as I wrote here, just a few weeks ago, general obligation bonds’ rock solid reputation as the king of the hill for credit worthiness may be in jeopardy if some people in the now bankrupt Detroit has anything to say about it. And the main reason for that is pensions. You may have already seen many stories of retired workers in Detroit who are naturally terrified that their income is about to be severely reduced. It is impossible not to have sympathy for them as the bankruptcy is clearly not their fault. And this will certainly be same situation of any possible bankruptcies in the future. Invariably it is cities’ (and states for that matter) pension obligations that, either now or in the not too distant future, that is killing them. Whether it was due to delaying the payments toward the pensions (under funding), promising benefits that were too generous for its fiscal health, or all too often, both, cities are going to have to face the consequences. Or to use a phrase made infamous by a certain Chicago resident: The chickens are coming home…to roost.
Now, there are, of course various timetables until things get out of hand depending on each individual city’s fiscal health. And more will still be attempted even if it might seem to be the same formula politicians always talk about:
But, aldermen warned that it was the calm before the storm: a painful solution to the city’s pension crisis that will require both new revenues and concessions from city employees.
That’s right, more taxes! Gee, why hadn’t they thought of that before? (Yes, sarcasm). Combine that brilliant idea with the usual blather about getting the unions to cut pay and benefits that they themselves negotiated in the first place, and I think that one could be forgiven for feeling less than optimistic.
As you may know, I am not a big believer in predictions and I am always stating that it is important to have a mix of investments so as to be prepared for whatever happens next. I still feel that way, but it is also very important to be aware of all of the risks involved and how they can occasionally shift. Major cities going bankrupt is not a usual risk, in that it is a rare occurrence in the history of the United States. Yet, we are in the midst of one now with Detroit and plenty of others, like Chicago, going wobbly. Municipal bonds may carry more risk today than at anytime in our lifetimes. And with rates near historic lows the risk of holding muni paper is even greater. Of course, it is always possible that this is the nadir for the fiscal health of our cities and everything will turn out just fine. Yes, that could be true, but on the other hand many people lump their municipal bonds (and funds) in with their “safe” money. Historically, that made sense, but do those investments still pass for “safe” investments. Only time will tell that of course, but it never hurts to take a cold look at your portfolio and make sure that your “safe” section is just that.