Citing concerns about investments in sub-prime mortgage backed securities, Florida local governments have withdrawn billions of dollars from a State of Florida investment fund, including withdrawals of $3.5 billion in one day. The run on the State Board of Administration operated Local Government Investment Pool has resulted in a freeze on withdrawals from the fund.
The Orlando Sentinel reports:
The State Board of Administration -- the governor, attorney general and chief financial officers -- voted unanimously to at least temporarily halt a run on the fund, which has reported withdrawals totaling $10 billion in the past several weeks. That's more than one-third of the fund's assets of $28 billion.
This could put local governments who "park" money in the investment pool in a bind:
Alarmed local officials said the move by the SBA could jeopardize local governments' payrolls, if they are not able to take money out of the fund to pay employees.
The freeze on withdrawals may be partly in reaction to a Bloomberg report yesterday that said the fund had invested $2 billion in "sub-prime tainted debt" and that $900 million (5%) of the fund's asset-backed securities were in default. The article noted that Orange County (Orlando) had withdrawn its entire $370 million from the fund. Pinellas County (St. Petersburg/Clearwater) withdrew its entire $300 million, and Miami-Dade County and Pompano Beach have also withdrawn funds.
The Florida State Board of Administration responded with a "recommendation to the Board of Trustees to formally adopt a plan to provide investors in the Local Government Investment Pool (Pool) with assurance that the Pool will continue to provide safety of principal in the midst of an unprecedented absence of market liquidity."
The plan would seek protection from default for $1.5 billion in securities, including securities issued by Countrywide Mortgage, and restructure the plan to be "more liquid and conservative."
The Florida SBA also noted that the Bloomberg article was incorrect with regard to securities being in default:
"It is important that every investor in the Pool has an accurate understanding of the facts regarding our holdings, not misinformation" said Stipanovich. A November 28, 2007 article by Bloomberg News erroneously stated that: "The Florida pool's $900 million of defaulted asset-backed commercial paper now amounts to almost 5 percent of its holdings." In fact, certain Pool investments have been downgraded below purchase credit rating guidelines, but they have continued to pay principal and interest. The Pool has collected approximately $64 million in principal and interest payments since August on these downgraded investments.
Earlier in the month, the FSBA issued a report entitled "Update on Sub-Prime Mortgage Meltdown and State Board of Administration Investments" which outlined the sub-prime exposure of the various funds managed by the FSBA. The report states:
The SBA can take pride in the fact that its investments have held up well through periods of financial crisis and economic downturns. This report lays out our current exposures and responses to date dealing with the sub-prime meltdown. Although past performance is no guarantee of future results, and the financial environment may become even more challenging, we believe the SBA is positioned to deal with the current financial stress at least as well as we have with prior events."
One of the funds managed by the SBA is the Florida Retirement System Pension Plan.
An expert contacted by Bloomberg stated:
Should the withdrawals continue, Florida's [Local Government Investment Pool] may have to consider filing for bankruptcy protection, says John Coffee, a securities law professor at Columbia Law School in New York. "A bankruptcy could handle these kinds of problems if they feel they'll become insolvent," he said.
Coffee predicts the pool will likely file lawsuits to recover losses. "I'd expect the pool is going to sue the people who sold them the commercial paper, saying the risks were hidden," he said.
Lehman Brothers Holdings Inc. sold Florida most of its now- default-rated asset-backed commercial paper. Lehman spokesman Randall Whitestone declined to comment.
Bloomberg also quotes Joseph Mason, professor of finance at Drexel University:
"The first people in the withdrawal line get 100 percent of their money,'' he said. "The loss is suffered by the people behind them in line. Since nobody wants to be at the end, you get a run on the pool."
Mason says while the state of Florida has a moral duty to cover any losses suffered by the pool participants, its own shaky finances will make that difficult. The fourth most- populous state, hurt by the housing slump, cut its revenue projections by 3.9 percent for the fiscal year ending June 30, and 5.2 percent for the following year.
"The state appears to have breached the trust of the investors by putting money in new kinds of debt its managers didn't fully understand, in their search for higher yields," Mason said.
It sounds as though Florida local governments and taxpayers are the latest victims in the ongoing sub-prime lending scandal.