Wall Street Settlements Bring N.Y. Record Surplus: Muni Credit

Aug 12, 2014 8:36 am ET

(For more credit-market news, click on TOP CM. For Municipal Credit Markets column alerts, see SALT MUNCREDIT.)

Aug. 12 (Bloomberg) -- New York state is poised for a record surplus fed by legal settlements with Wall Street banks, creating a buffer against a $1.3 billion Medicaid bill from the U.S. government.

The state, which has its highest credit rating in four decades, won $3.6 billion in a June deal with BNP Paribas SA after the French bank admitted to evading U.S. sanctions against Sudan, Cuba and Iran. It’s the biggest chunk of a $4.2 billion windfall that New York is counting on as a budget cushion after closing more than $12 billion in deficits since Governor Andrew Cuomo took office in 2011.

It’s more than enough to offset the $1.3 billion that the Centers for Medicare & Medicaid Services says the state owes after it over-billed for services for the disabled in fiscal 2011. As the Cuomo administration prepares to appeal the bill, it’s winning accolades from James Iselin, head of municipal bonds at Neuberger Berman in New York.

“The state has put itself in a position to have greater strength, greater financial flexibility when something unexpected like this potential Medicaid clawback takes place,” said Iselin, whose firm manages $9.6 billion in munis, including New York debt. “The financial settlements with the big banks are one-off items, but underneath that is a meaningful surplus from fiscal restraint.”

Silver Lining

The surplus, along with upgrades this year from the three major rating companies, provide Cuomo a political boost after a rough patch. The 56-year-old Democrat is caught in a scandal over his early shutdown of an anti-corruption commission he created. The election-year mess has led to an investigation by U.S. Attorney Preet Bharara in Manhattan, forcing Cuomo to play defense in what was supposed to have been a smooth ride to a second term.

New York, the third-most-populous state, has the second- highest credit grade from Standard & Poor’s, Moody’s Investors Service and Fitch Ratings. The $3.7 trillion municipal market, though, is treating its bonds like they’re close to top-rated.

State general obligations that mature in March 2024 and are callable one year earlier traded Aug. 7 with an average yield of 2.1 percent, comparable with benchmark munis, data compiled by Bloomberg show.

‘Interesting Reading’

Investors are paying more attention to Cuomo’s financial stewardship than his political troubles, said Charles Grande, head of muni research in New York at UBS Global Asset Management, which oversees about $14 billion.

“It makes for interesting reading, but I’m not going to invest based solely on that,” Grande said by phone.

The surplus includes the cash from BNP, $715 million from Credit Suisse Group AG for helping clients conceal assets offshore to avoid U.S. taxes and $92 million from Citigroup Inc., part of a $7 billion federal settlement over claims the bank misled investors about the quality of some mortgage backed- bonds, according to a budget update released last week.

The update also showed tax collections were $1.3 billion ahead of projections in the first quarter of the fiscal year, which began April 1. That’s the same amount the federal government says New York owes Medicaid, the health-care program for the poor, a tab that is credit negative, Moody’s said in a report this month.

‘Unwelcome Drain’

The repayment “would result in an unwelcome drain on the state’s cash balances,” Moody’s said.

New York said in budget documents that it’s appealing the Medicaid decision because the federal government had approved the rates.

Even if the state ends up paying, the Cuomo administration has built a cushion beyond the bank settlements: a 2 percent cap on annual spending growth. New York ended last fiscal year with its first surplus since 2008. Over the next five years, the cap is set to create a $2.2 billion surplus that Cuomo plans to spend on tax cuts for property owners and businesses.

The governor’s “commitment to 2 percent spending growth is an insurance policy against an economic downturn or an unforeseen expense,” Morris Peters, spokesman for Cuomo’s budget division, said by e-mail.

The surplus from the banks may be spent on bolstering reserves, one-time capital costs and reducing debt, budget documents show. The legislature will have to agree.

Cuomo’s Republican challenger, Westchester County Executive Rob Astorino, said the money should be spent on infrastructure, including to help keep down toll costs on a new $4 billion Tappan Zee Bridge across the Hudson River.

“This is a one-shot windfall,” Astorino said in an interview. “This is not meant for operating costs.”

--With assistance from Brian Chappatta in New York.