Unique Market Opportunities.

Since interest rate swaps emerged in the municipal marketplace during the past decade, they’ve become an effective tool in the asset/liability management and debt strategies of both issuers and borrowers. While a swap itself doesn’t represent debt, it is usually tied to one or more debt issuances. Because of this, swaps are used to change the economics of existing or future debt without changing the size or structure of the debt itself.

Swaps can also be linked to assets, though this practice is not common in the public finance sector. When used as part of a coherent strategy, swaps can provide access to different markets and more flexible, cost-effective options than straight fixed-rate or variable rate debt. Swaps can also be entered into for any term, making them useful for near-term cash flow and other liability management needs. An example would be when, during the construction period, an issuer doesn’t want to change the underlying structure of outstanding longer-term debt.

Swap Advisory Services

As an advisor and consultant to hundreds of state and local governments, we’ve assisted our clients with evaluating, analyzing, acquiring and terminating various types of interest rate swaps. Due to the financial, technical and legal complexities of swap transactions, it’s often difficult for a firm to have the required expertise to deliver truly value-added services. But our multidisciplinary resources allow us to analyze and advise issuer clients on a broader and more comprehensive level than most firms practicing in this area.

At BLX, evaluation is based on our technical abilities and a unique understanding of the marketplace. For example, an interest rate swap can be evaluated based on present value modeling methods. But we’ve developed model templates to not only evaluate swaps at current market conditions - but also under artificial conditions for risk assessment purposes, like value-at-risk computations. And while we utilize standardized tools, including Bloomberg’s Swap Manager, we use in-house verification as well.

We’ve developed and use our own proprietary analytical models that incorporate real-time pricing data. While this software was developed in-house, our clients rely on us to use our expertise in breaking down each transaction into its individual parts, and offer explanations of each component. This enables us to provide pricing transparency even for the most complex transactions. By evaluating each component individually, and analyzing the relationship between each component, we’re able to determine the overall pricing from the ground up. Using our real-time access to market data, we can track and monitor the "on-market" price of a swap transaction, both before and after execution.

Why use swaps? The uses and benefit of swaps usually fall into four broad categories:

1. Swaps afford increased flexibility in the design of an issuer’s asset/liability matching strategy, and provide a way to lower borrowing costs;
2. Swaps serve as a way to hedge certain interest rate and market risks;
3. Swaps can enable an issuer to access interest rate markets that are either unavailable or unattractive with traditional cost structures;
4. Swaps can be used to generate cash payments to the issuer in exchange for certain adjusted terms or options sold to a swap counterparty.

There are two approaches for an issuer to acquire or enter into an interest rate swap:

1. Conduct a competitive bid process
2. Negotiate the terms with a pre-selected provider.

Like the sale of bonds or other municipal debt, there are both advantages and disadvantages between competitive and negotiated transactions - which are difficult to quantify given today’s complex financial markets. And while an issuer can acquire a fairly priced swap using either approach, the specific characteristics of a particular financing may lend themselves to using one approach over another.

We monitor our clients’ swaps on a daily basis using our proprietary swap valuation applications that are linked to real-time market pricing. We also generate monthly or quarterly reports describing current market values, counterparty credit ratings, and verification of periodic swap payment amounts, historical cash flow hedge effectiveness, and a summary of collateralization events.

While we monitor our clients’ swaps for compliance and provide assistance with financial reporting, we also work to effectively identify viable market opportunities for favorable restructurings or terminations. This is important - because a key element of swaps is the ease with which they can be terminated or renegotiated, and replaced if appropriate. We also work with our clients’ auditors and accountants to assist in properly accounting for swaps in their financial reporting as required under applicable FASB and GASB rules.

As part of our continuing commitment to educating our clients is our recently published book, "Interest Rate Swaps: Application to Tax-Exempt Financing." This book was co-written with various Orrick attorneys, and was designed to provide tax-exempt borrowers with a basic understanding of interest rate swaps. It’s available to any tax-exempt issuer or borrower at no charge. To request a copy, click here.

To learn more about our Swap Advisory services, please contact:
Eric Chu
Phone: 213.612.2136
Email: echu@blxgroup.com
or call Eric toll-free at 866.342.5259