Trump jolts markets with remarks about erasing Puerto Rico's massive debt

US President Donald Trump walks past hurricane wreckage as he participates in a walking tour in areas damaged by Hurricane Maria in Guaynabo, Puerto Rico. PHOTO: REUTERS

NEW YORK (BLOOMBERG, REUTERS) - Puerto Rico's debt crisis re-emerged with a bang on Wall Street on Wednesday (Oct 4).

Shares of bond insurers tumbled and the price of a tranche of the island's bonds sank to levels equal to those in Venezuela after US President Donald Trump suggested the debt may need to be "wiped clean," while bonds issued by the US Virgin Islands also came under pressure.

MBIA Inc, Assured Guaranty and Ambac Financial Group - bond insurers with exposure to the US territory - were likewise hit, though they pared losses after Mick Mulvaney, director of the Office of Management and Budget, said not to take the president's remarks "word for word."

Isaac Boltansky and Lukas Davaz, analysts at Compass Point Research & Trading, suggested investors should take Trump's remarks "seriously, but not literally," echoing remarks made by billionaire investor Peter Thiel during the presidential campaign.

"Our sense is that President Trump's comments were meant to empathize and possibly catalyze, but we do not believe his statements represent an actual threat to extrajudicially wipe out bondholders," they added.

While that may be the case, they're helping to weigh on the prices of bonds from the Virgin Islands, the other US territory in the Caribbean devastated by hurricanes.

Analysts at BTIG also questioned Trump's capacity to affect Puerto Rico's debt restructuring, and advised clients to buy the dip in the bond insurers. Any aid provided by the administration and Congress in the wake of the catastrophe could prove a boon to Puerto Rico's creditors, they added.

Puerto Rico's bond due in July 2035, the island's most recent benchmark debt issue, dropped by 6.5 cents to 37.5 cents on the dollar in late trade on Wednesday. Trading volumes surged to US$183 million, nearly three times the combined volume of the prior nine days of activity. The price fell as low as 30.25 cents on the dollar at the start of the day.

The 2035 bond has tumbled by more than 25 cents on the dollar since Hurricane Maria devastated the US territory last month.

The bonds are in default and behave more like an equity as no change in yield accompanies their price movements. They carry a coupon of 8 per cent.

Puerto Rico in May filed a form of bankruptcy under the federal 2016 rescue law known as PROMESA. The island's capital structure has 18 public agencies owing a combined US$120 billion in bond and pension debt.

Last year, in a rare show of bipartisanship, the US Congress passed the PROMESA law that created the Financial Oversight and Management Board to help the island negotiate with creditors.

The law also created a mechanism known as Title III that allowed US territories such as Puerto Rico to enter a form of bankruptcy, a financial tool the island did not have access to previously.

"The status of the bonds that you heard the president mention this morning are actually inside the bounds of the PROMESA proceedings right now," Mulvaney said.

"So those bonds are being dealt with, were being dealt with before the storm, will be dealt with after the storm through the PROMESA process," he added.

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