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Bond Returns

Friday, January 25, 2013
By Jean Gruss

When Fort Myers developer Joe Cameratta decided to develop two residential communities on Corkscrew Road in Estero, he turned to the kind of financing that few people thought would ever see daylight again.

Cameratta sold more than $13 million in community development district bonds to investors. These CDD bonds were popular during the boom when many developers sold them to finance the roads, sewers and other expensive infrastructure in new communities sprouting everywhere during the boom.

After the real estate collapse, most industry observers never expected investors to ever buy these bonds again. According to the Florida Community Development District Report, there are 600 community development districts in Florida, 438 of which were begun in 2003 through 2008. They have issued $6.5 billion in municipal bonds to finance their infrastructure. Since the collapse of the housing market, more than 168 of these districts are in default on $5.1 billion of bonds. But with the help of underwriter FMS Bonds in Boca Raton, Cameratta sold more than $13 million worth of CDD bonds recently. Since then, another development in Collier County called Hacienda Lakes also plans to issue CDD bonds.

“The rumors of our death are greatly exaggerated,” says Bill Rizzetta, president of Rizzetta& Co., a Tampa-based company that has been providing management and financial advice to CDDs for 25 years.

Rizzetta says he knows of two undisclosed CDD-financed residential projects, one in Pasco County and the other in the Sarasota-Venice area. “There are six or seven districts we’ve been involved in various stages of discussion,” he says.

One challenge is that state law caps the yields that new CDD bond issues can offer investors. They’re based on interest-rate indices that are exceptionally low today. “That’s one of the things that’s holding the market back,” says Harry Lerner, president of Lerner Real Estate Advisors in Tampa.

Gov. Rick Scott recently ordered a study of the laws that govern CDD bonds. “There’s some talk about fixing that legislatively,” says Lerner.

Another challenge is the Internal Revenue Service is reviewing the tax-free status of some CDD bonds that were issued for a commercial development in central Florida. “Now the bond counsels are hesitant to write an opinion until this issue is straightened out,” says Michael Rosen, director of business development for Special District Services in Bonita Springs, a company that manages 75 CDDs. “It’s kind of putting a wrench in the gears.”

Still, Rosen says there’s renewed interest from both developers and investors in CDD bonds. “We’re working right now with a half-dozen new ones around Florida,” he says. “There are two in the Tampa-to-Naples area, and they’re large.”

Investors dip in

Plenty of CDD bond investors got hurt in the real estate crash and some are still negotiating the return of a portion of their principal. So you have to wonder: Will they ever look at another bond offering?

The answer is yes, though it’s conditional on each deal. “If we can lend on fully developed lots at a significant discount to fire-sale-value five years ago, then that’s a good risk-adjusted return,” says Andrew Sanford, chief investment officer with ITG Holdings in Naples, one of the investors in the Cameratta deal.

Sanford says investors like ITG Holdings are scrutinizing every deal. They can afford to, because not a lot of investors are seeking these bonds, and mutual funds that were big buyers of these bonds during the boom have shied away. “There’s not much of a market out there,” says Sanford. “It’s good for us in that we can drive the deal and drive the terms. I don’t see the traditional mutual funds hopping into that now.”

But because new CDD bond issues are capped by statute, yields on new issues aren’t as high as existing bonds sold on the secondary market. “The ones that we’ve seen are not priced attractively enough,” says Michael Schroeder, president and chief investment officer of Wasmer, Schroeder & Co. in Naples, which manages $4.5 billion in fixed-income assets.

Wasmer, Schroeder has a small stake in CDD bonds in its high-yield funds. “Most people recognize that the CDD instrument is not without its risks, but has its advantages,” Schroeder says. “If you do your homework, there’s still some value out there.”

The challenge is that the investment homework is time-consuming and requires an understanding of real estate finance. “You can’t just blindly buy each deal that comes along,” says Schroeder. “Most of them don’t have ratings, so you’re not going to have companies like Moody’s and Fitch looking at them.”

What’s more, many of the large investment banks that underwrote CDD bond offerings decided to leave the market. Now, industry participants say there are two underwriters left in Florida: FMS Bonds and MBS Capital Markets in Orlando, formerly called Prager, Sealy. Neither firm returned requests for comment.

A new structure

Clearly investors will demand more security in the new CDD bond deals, and developers have to put more equity or collateral in the deals they’re offering.

“It’s not underwritten the old way,” says Ron Weaver, a land-use attorney in Tampa with Stearns, Weaver. “CDD bonds can play a humbler, smaller share of the financing of the roads and sewers.” Rosen says CDD financing is still a valid vehicle to help raise money to pay for costly infrastructure. “What we see now is the bond buyers are scrutinizing the developers more than they did, which makes perfect sense,” he says. “There’s plenty of money on the bond-buyer side.” Certainly, the alternatives don’t look appealing. The Federal Reserve’s push to lower short-term interest rates has pushed yields down throughout the bond universe.

Still, the memory of the real estate crash won’t fade soon. Richard Lehmann, president of Investor Securities Advisor in Miami Lakes and author of the CDD Report, says mutual funds aren’t likely to repeat the mistakes they made investing in CDDs during the boom. “Those [mutual fund] families are more worried about being sued for buying these things in the first place,” he says. Lehmann says state law should force developers to put more of their assets as collateral, which help the bonds regain some credibility he says they lost. “The big vulnerability is that the builder had no money in the projects,” Lehmann says. “What is Tallahassee doing to remedy this problem?”