Big hit on the municipal bond market

Local governments with low or no credit ratings may purchase bond insurance to pull up their ratings and thus save borrowing cost. However, the Los Angeles Times (12/20) reports that "[b]illions of dollars of municipal bonds insured by ACA Financial Guaranty Corp. were cut to 'junk' status Wednesday after Standard & Poor's downgraded the insurer itself because of its exposure to losses on mortgage-backed debt." The firm's rating went to CCC from A, which already "was the lowest rating among bond insurers."

For municipalities that had provided their own ratings to shield bonds insured by ACA, the S&P took the step only of cutting the bond's rating "to match those of the municipality." However, "[r]atings on other ACA-insured bonds fell to CCC to match ACA's rating."

For these public entities, the downgrade may not affect borrowing cost of the debt really issued, and some officials claim that there "wouldn't be any major impact on cities' ability to issue more debt" as well, just that they will "look to obtain insurance from another bond insurer next time it seeks to issue more debt."

Nevertheless, as Bloomberg (12/19, Quint, Cooke) reported, the involvement of municipal bond issues in the spreading credit crisis meant, "Wall Street's three-year love affair with debt sold by U.S. states and cities is over."