Buyers and issuers may be cheering the arrival of Build America Bonds (BABs) but, like many new programmes introduced by the $787 billion American Reinvestment and Recovery Act, there is much uncertainty about their future.
For one thing, while municipalities are free to issue as many BABs as they please, they can only do so until the end of 2010, when their federal authorisation expires. Few would guess what the government will do then. But if its success continues, some think the government could expand the programme beyond its current limitation to publicly-funded projects.
“I think in the future there may be some opportunities to combine BABs with private equity,” says Tyler Duvall, the top policymaker at the Department of Transport (DOT) during the Bush Administration, now a senior advisor at consultancy McKinsey & Company.
The reason behind Duvall’s bullishness is the Private Activity Bond programme, which the DOT introduced while he was the assistant secretary for transportation policy. This programme allows municipalities to issue tax-exempt bonds and use the proceeds to finance privately-financed projects.
“We always took the view . . . ‘what is the project and is the project delivering a public benefit?’ And if the answer is yes, the federal government shouldn’t be biased in terms of one source of financing versus another”, says Duvall. “That was the main argument for Private Activity Bonds and I think the same policy arguments would hold for BABs.”
Another big “if” concerns the trillions of dollars of capital held by US pension funds. Because they are exempt from paying income taxes, US pensions have never had a reason to buy tax-exempt municipal bonds. BABs changed that, and some think that pensions’ asset managers may be tempted to use more of these securities in the future as a way to get exposure to transportation projects.
“We believe, based on what we’re hearing, that you will start to see certain public pension funds look to make significant investments in transportation-related infrastructure projects. And in lieu of doing a typical PPP transaction with an asset manager providing an equity investment, they may opt for a fixed-income play via the BABs market directly,” says Gary Hall, executive director in tax exempt capital markets at JP Morgan in San Francisco. “I think we are only in the embryonic stages of this phenomenon,” he adds.
Another unknown, as far as pensions are concerned, is the role of organised labour. Thanks to their potential to spur job creation, American labour unions have stood roundly in favour of these new securities. The Labourer’s International Union of North America (LiUNA), for example, has been a strong backer of BAB’s because “investments that help build America and create family supporting jobs are a win-win,” said spokesperson Jacob Hay. Importantly, unions have been influential voices in shaping public pensions’ investment programmes. A push into the BAB market at the behest of pensions’ labour representatives is therefore not out of the question.
In this context it was instructive that, at a 21 May 2009 meeting of the New Jersey State Investment Council, James Marketti, a member of the pension board appointed by the state’s governor from a list of AFL-CIO labour union nominees, presented the council with an alternative to alternative investments: Build America Bonds.
Investors will be wise to continue to keep an eye on these securities. Whether they continue or conclude, go private or remain public, they are sure to leave their mark on US infrastructure.