[ArmchairActivist] subprime effects: Fund Frozen, Florida Towns Feel the Pinch
- The Crash of '29 provides a lesson. Once a crash has been initiated, the decimation of the economy proceeds slowly, in ways akin to ripples from a rock thrown into a toxic pond.
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January 1, 2008
Fund Frozen, Florida Towns Feel the Pinch
By KIRK SEMPLE and MARY WILLIAMS WALSH
PORT ST. LUCIE, Fla. — On Nov. 28, Marcia L. Dedert, finance director of this rapidly growing city, called the administrators of Florida’s state-run investment pool to ask whether it was still safe to park her city’s money there. She was hearing talk of urgent withdrawals by others worried about the pool’s investments in debt related to subprime mortgages.
After the pool’s manager told her the money would be all right, Ms. Dedert recalled, she deposited $135 million in bond proceeds. But less than 24 hours later, the administrators froze the pool and blocked withdrawals to halt a full-blown run.
Now the city cannot touch the money. And rest of the $371 million it has in the pool is also off-limits unless the city pays a 2 percent penalty.
Port St. Lucie is among hundreds of local governments in Florida that were drawn to the pool by its air of reliability and the promise of higher returns than banks offered. They now find themselves grappling with the consequences of having their money frozen.
Some have had to borrow money to meet day-to-day obligations. Others have had to shift money around for the time being or consider postponing long-planned projects.
For Port St. Lucie, the timing of the freeze could not have been worse. The city is trying to recreate itself as a center of the biotech industry and had just issued $155 million worth of bonds to lay roads, water pipes and sewer lines in a planned “jobs corridor,” where it hopes to house the companies it is courting from out of state.
“These are projects that we can’t afford to stop dead in their tracks,” Mayor Patricia P. Christensen said.
The pool’s managers said they had been compelled to freeze the pool to save it. Until the run, it was the largest of more than 100 such pools around the country, with $32 billion in investments. Because of withdrawals, it now has about $14 billion.
The pool has not suffered any actual losses on its investments in securities tied to subprime mortgages because it has not sold them. While it is unclear how much money, if any, the fund may lose from subprime investments, state officials say they have quarantined over $2 billion in assets from the fund because they no longer meet the pool’s investment guidelines or have some other problem.
The state has hired an interim investment manager to restore stability to the pool, and Gov. Charlie Crist has called for a review of the pool’s operations by outside lawyers.
The problems rippling out from the investment fund are the latest in a series of economic setbacks for Florida, which is already coping with a weakening housing market and slowing population growth.
The economic malaise forced lawmakers in the fall to trim $1.1 billion from the state’s $71 billion budget, and economists are predicting that the state might have to cut an additional $2.5 billion over the next 18 months. Given those cutbacks, local officials said they do not expect the state to bail out the investment pool, meaning they are likely to bear the losses.
None said they were facing imminent financial collapse. Mercifully, the freeze occurred just as end-of-the-year property tax revenues were starting to come in. But officials in many places said they were still scrambling for alternative sources of cash for the coming months — and burning with indignation at officials in Tallahassee, the state capital.
“I get the impression that they don’t see this as the taxpayers’ money,” Mayor Christensen said of the State Board of Administration, which operates the pool, along with Florida’s $140 billion pension fund and more than two dozen other big blocks of public money. The three-member board consists of the governor, the treasurer and the attorney general.
The chief financial officer of the Leon County school district, Merrill Wimberley, said he was in the hospital recovering from surgery on the day of the freeze and was shocked to emerge and find the district’s $46 million out of reach.
“I tell you, I felt like Rip Van Winkle,” Mr. Wimberley said. The school district had to borrow $10 million the same day to pay its 4,600 teachers and other staff members, a costly stopgap.
“We don’t relish the thought of having to pay $13,000 in interest,” Mr. Wimberley said.
Leslie Rocha, who oversees finances for the small town of Oakland, said that with the freeze, her town had to shift money from other sources to cover a bond payment of about $200,000 for a new school. “It’s even a bigger burden since we’re so tiny,” Ms. Rocha said.
Hillsborough County left $871 million in the pool, fearing it would worsen the run if it withdrew such a big amount. Its comptroller, Pat Frank, said that the county could tap reserves elsewhere for the time being, but that its budget would go out of balance because the pool had stopped paying interest on the frozen money.
Many officials said they believed they could get through the coming months but were bracing for crippling shortfalls should the pool remain frozen well into 2008, as they expected.
Ms. Dedert, the Port St. Lucie finance director, said that by revising the budget and realigning sources of money and payments, the city would stay ahead of its bills for the next few months. But unless the restrictions on the money in the pool are loosened, she said, the city will run out of cash by summer.
“June 1 is when I start crying,” she said. At that point, she said, the city would be forced to consider borrowing money or paying the 2 percent penalty for withdrawals.
Many local officials expressed outrage at the penalty. They said they were duty-bound to protect their communities’ principal and resented being expected to pay for what they consider inappropriate risk-taking at the state level.
“I can’t afford a mistake with the public’s money,” said Monti Larsen, chief operations officer for the Children’s Services Council of Broward County, which has $17 million frozen in the fund.
This is not the first time the State Board of Administration has had to explain unusual investment losses. After the collapse of Enron in 2002, it came to light that the state pension fund had acquired big blocks of Enron stock just as other investors were dumping it. The fund lost $280 million.
Coleman Stipanovich, then the board’s deputy executive director, blamed an outside investment adviser, Alliance Capital Management. “We didn’t understand why they were buying it,” he told a Congressional hearing. “Even my mother was watching on TV and knew about Enron.”
Now angry depositors are asking much the same questions about Mr. Stipanovich, who was promoted to executive director in 2002 by then-Gov. Jeb Bush, and who worked closely with Lehman Brothers, the firm that sold Florida more of the subprime-tainted securities than any other firm.
Some of the purchases were in July and August, after the risks of subprime-mortgage related securities were widely known and most investors were shunning them. The timing of Florida’s purchases was first reported by Bloomberg News Service.
Mr. Stipanovich resigned on Dec. 4 and has declined to discuss his decisions.
Some local officials said in interviews that they were also eager to learn what role Mr. Bush might have played. A month after finishing his second term as governor last January, he formed a consulting firm, which in June was engaged by Lehman Brothers. Mr. Bush also sits on the board of Lehman Brothers’s private equity unit.
Spokesmen for Mr. Bush and Lehman Brothers said Mr. Bush’s consulting work had nothing to do with the sales of the securities to the Florida investment pool.
The State Board of Administration has begun an investigation of the pool’s internal decision-making. The inspectors general of the governor, the treasurer and the attorney general have said they intend to hire outside lawyers and auditors to conduct the investigation.
Government investment pools operate much like money-market mutual funds, but they are specifically exempted from the federal laws that cover mutual funds.
The last time such a pool made headlines was in 1994, when one in Orange County, Calif., blew up, causing the county to file for bankruptcy. The disaster set off talk of whether the pools should be subject to federal regulation. But the idea faded after state and local officials promised reforms.
Now local officials in Florida are again wondering whether self-regulation is adequate, and whether federal oversight might be better.
Florida is not the only government investment pool to have acquired assets linked to subprime mortgages, but it is the only one to have suffered a run, for reasons unlikely to be clear until the investigation is completed.
Nor did Florida’s pool officials move swiftly to stem the withdrawals. After the Orange County debacle, some governments imposed restrictions on withdrawals. Arizona, for example, requires five days’ notice for withdrawals over $10 million. But Florida did not have any such restrictions.
Calls for accountability are particularly loud in Port St. Lucie.
City officials are pressing for a federal investigation into the state’s handling of the fund and what they regard as deception in the advice they say Ms. Dedert received from Michael Lombardi, the pool’s manager, to deposit the $135 million. “He assured me that it was solid,” she said.
Roger Orr, the city attorney, said, “It’s bad faith at best and fraud at worst.”
But Michael McCauley, senior corporate governance officer for the State Board of Administration, said there had been no discussion about freezing withdrawals until an emergency board meeting at midday Nov. 29.
“We had no idea it was going to be frozen,” Mr. McCauley said in a telephone interview. The board members decided to act after a morning of enormous withdrawals.
“It was a particularly bad day,” Mr. McCauley said.
Kirk Semple reported from Port St. Lucie, and Mary Williams Walsh from New York.
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