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Fitch: US Closed-End Funds Remain Cautious on Puerto Rico

By on May 6, 2016

SAN JUAN – In a post on the Fitch Wire credit market commentary page, the rating company says Puerto Rico’s recent default on debt issued by the Government Development Bank (GDB) does not negatively affect any of its rated U.S. closed-end fund (CEFs) obligations “as their exposures to Puerto Rico remain limited.” “However, fund managers exhibit a willingness to take modest, opportunistic exposures even as risks remain as the prospect of a default on the general obligation (GO) payments due on July 1 increases,” according to Fitch Ratings.

The following has been extracted from the aforementioned post:

DSC06494Puerto Rico’s continued fiscal challenges have driven many fund managers mostly out of investments in the commonwealth and Fitch-rated funds have completely divested from the GDB credit. Seventy-five Fitch-rated U.S. CEFs hold some exposure to Puerto Rico totaling $460 million, and averaging 1.7% of total portfolio market value as of March 31.

Over the past six months, some funds have used the price volatility as an opportunity to selectively add to their Puerto Rico holdings. In some cases, managers have increased portfolio allocations to Puerto Rico to as much as 10.3%, albeit primarily in insured bonds and bonds backed by corporate obligors. Managers of rated funds who have increased exposures have been net buyers of $38 million of Puerto Rico bonds since Nov. 30, 2015 across 19 funds.

Current Puerto Rico holdings are concentrated in the sales tax-backed COFINA [Spanish acronym for Sales Tax Financing Corp.] credit and the GO and GO guaranteed credits, which in aggregate account for close to 50% of total Puerto Rico allocations across the funds. Insured and pre-refunded bonds account for 80.4% of the total market value of Puerto Rico holdings.

Fitch’s overcollateralization tests for rated obligations issued by CEFs take into account portfolio assets at market valuations and discount the value of the assets based on the characteristics of the securities and portfolio. Much of the uninsured debt already trades at distressed prices and is reflected in the funds’ NAV [net-asset value]. As a result, Fitch does not expect further price deterioration to affect Fitch overcollateralization tests at the funds’ current rating levels.

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