1. business and industrial
2. company
3. bankruptcy

NOTES
Investing in Detroit: Automobiles, Bankruptcy, and
the Future of Municipal Bonds
ANNA M. RICE*
TABLE OF CONTENTS
INTRODUCTION . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
1336
I. THE HISTORY OF DETROIT . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
1337
A.
AUTOMOBILES
...................................
1338
B.
MUNICIPAL BONDS
................................
1340
C.
BANKRUPTCY
....................................
1343
II. MUNICIPAL BOND REGULATION . . . . . . . . . . . . . . . . . . . . . . . . . . .
1348
A.
DEVELOPMENT OF MUNICIPAL BOND REGULATIONS
...........
1349
B.
THE DODD–FRANK ACT AND MUNICIPAL BONDS
.............
1350
III. THE FUTURE OF MUNICIPAL BONDS . . . . . . . . . . . . . . . . . . . . . . . .
1351
A.
WHY REGULATE MUNICIPAL BONDS?
.....................
1352
B.
BANKRUPTCY LAWS
................................
1353
C.
PROPOSED SEC DISCLOSURE REQUIREMENTS
................
1354
1.
Calls to Action . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
1354
2.
Modifying Initial Disclosure Guidance . . . . . . . . . . . . .
1355
3.
Modifying the Rule for Continued Disclosure . . . . . . . .
1357
4.
Price Transparency . . . . . . . . . . . . . . . . . . . . . . . . . . .
1357
CONCLUSION . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
1358
* Georgetown Law, J.D. 2015; Harvard University, A.B. 2009. © 2015, Anna M. Rice. I would like
to thank Professor Heidi Li Feldman for getting me started, Professor Eloise Pasachoff for encouraging
me to keep working, and Professor Guy Neal and his colleague Peter Canzano for their invaluable
advice. Thank you also to my family for their constant support. Finally, thank you to The Georgetown
Law Journal editors and staff for their help and hard work. All errors are my own.
1335
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INTRODUCTION
The Michigan constitution does not single out the obligations of municipal
bonds for protection in the same way it protects pension rights. Bond obligations can no longer be the only first-budget municipal obligations.
–Bankruptcy Judge Steven Rhodes1
On July 18, 2013, Detroit, Michigan became the largest municipality in
United States history to file for bankruptcy.2 Since the days of Henry Ford,
Americans have been investing in Detroit by buying its most famous product—
automobiles.3 They have also been investing directly in Detroit itself, buying a
financial product called municipal bonds. Detroit, along with many other cities,
sells municipal bonds to raise money for city projects.4 Holders of those
municipal bonds were major creditors in the city’s bankruptcy case.
Many municipal bonds are held by retail investors because bonds have long
been considered a relatively safe investment on the theory that cities are not
likely to default or go bankrupt.5 The bankruptcy of a city as large as Detroit,
coming on the heels of other Chapter 9 municipal bankruptcies, has made
investors question the bonds’ stability. Although Detroit’s bankruptcy has not
undermined bonds’ overall safety, the treatment of municipal bond debt in
Detroit could affect the future of the $3.7 trillion municipal bond market6 and
the savings of many people outside the Motor City. The ability of cities to
finance their projects could also be affected—the riskier municipal bonds are
seen to be, the more difficult it will be for cities to sell them at high prices,
leaving them stuck in a cycle of municipal poverty.7
One mission of the Securities and Exchange Commission (SEC) is to protect
investors;8 municipal securities have historically escaped stringent regulations
because they are stable investments. As worries about bond defaults and munici-
1. Oral Opinion on the Record at 42, In re City of Detroit, Mich., 504 B.R. 191 (Bankr. E.D. Mich.
Nov. 7, 2014) (No. 13-53846), available at http://www.mieb.uscourts.gov/sites/default/files/notices/Oral_
Opinion_on_Detroit_Plan_Confirmation_Judge_Rhodes_FINAL_for_Release.pdf.
2. See, e.g., Nathan Bomey et al., Judge Rules Detroit Eligible for Historic Chapter 9 Bankruptcy,
Says Pensions Can be Cut, DETROIT FREE PRESS (Dec. 3, 2013, 2:22 PM), http://www.freep.com/article/2
0131203/NEWS01/312030084/Detroit-bankruptcy-eligibility-Steven-Rhodes-Chapter-9-Kevyn-Orr.
3. See Our History, FORD, https://corporate.ford.com/company/history.html (last visited Mar. 16,
2015).
4. See, e.g., U.S. SEC. & EXCH. COMM’N, REPORT ON THE MUNICIPAL SECURITIES MARKET i–ii (2012),
available at https://www.sec.gov/news/studies/2012/munireport073112.pdf [hereinafter SEC REPORT].
5. Id. at 1–2.
6. See, e.g., Louis Basenese, Why Detroit’s Bankruptcy Could Detonate a $3.7-Trillion Muni Bond
Bomb, WALL ST. DAILY (July 24, 2013), http://www.wallstreetdaily.com/2013/07/24/detroit-bankruptcymuni-bond-default/.
7. Objection of Ambac Assurance Corp. at 5, In re City of Detroit, Mich., 504 B.R. 191 (Bankr. E.D.
Mich. May 12, 2014) (No. 13-53846), 2014 WL 4425704.
8. The Investor’s Advocate: How the SEC Protects Investors, Maintains Market Integrity, and
Facilitates Capital Formation, SEC. & EXCH. COMM’N, http://www.sec.gov/about/whatwedo.shtml (last
visited Mar. 16, 2015).
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pal bankruptcies surfaced during the Great Recession, the federal government
started to reassess the regulation of municipal securities. Although a complete
overhaul of municipal securities regulation may take decades, this Note suggests two proposals to implement in the short term. The proposals address
growing concern about the rights of municipal bondholders in Chapter 9
bankruptcy: first, the SEC should issue interpretive guidance detailing the
bankruptcy law and risk information to be disclosed in the initial bond-offering
documents; second, the SEC should modify Securities Exchange Act Rule
15c2-12 to ensure ongoing review of municipal bankruptcy laws and risks
throughout the term of the bond.9
SEC Commissioners from both sides of the aisle have expressed concern
about how the “opacity” of pricing in the bond market makes it difficult for
individual investors to access accurate price information.10 This Note’s proposal
to clarify complex municipal bankruptcy law in online filings accessible to all
investors would help individual investors participate in the market without
prohibitive research costs. In addition, the proposed federal guidance and
disclosure rules do not interfere with the rights of states to regulate their own
economies and pass their own municipal bankruptcy authorization laws. Transparently incorporating the risk of bankruptcy into bond prices will be a crucial
first step in making the bond market safe for all investors while leaving the
federal–state balance intact.
Municipal bondholders, who are primarily retail investors, should be protected by the SEC and provided with easily accessible information on municipal
bankruptcy law and precedent. This Note proposes specific bankruptcy-related
disclosure requirements to enable these investors to properly price in the risk of
bankruptcy. Part I of this Note traces the history of Detroit, with a focus on its
municipal bond issuances and descent into bankruptcy. Part II describes the
history and current state of municipal bond regulation. Finally, Part III proposes
two important initial regulatory steps that will improve disclosure of bankruptcy
risks and potential outcomes for bondholders in bankruptcy.
I. THE HISTORY OF DETROIT
The history of Detroit is a history of its major industry—automobiles. The
economy of the city rises and falls with the industry. Throughout its history,
Detroit has been issuing municipal bonds to finance auto plants, transportation,
and more. In July 2013, with Detroit’s major industry struggling and the
massive debt owed to city workers’ pension funds and municipal bondholders
stifling economic growth, Detroit was forced to file Chapter 9 bankruptcy. A
9. See infra sections III.C.2–3.
10. SEC REPORT, supra note 4, at 123–24 (report overseen by former Democratic Commissioner
Elisse B. Walter); Bob Pisani, SEC’s Gallagher: Market Regulation Overhaul Needed, CNBC (Oct. 1,
2014, 4:51 PM), http://www.cnbc.com/id/102050921# (interview with Republican Commissioner Daniel M. Gallagher).
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federal judge approved Detroit’s plan to exit bankruptcy in November 2014.
The disparate treatment of unsecured creditors in Detroit’s plan, which elevated
pensioners’ rights above bondholders’ rights, should concern bondholders in
future municipal bankruptcies.
A. AUTOMOBILES
During World War II, George W. Romney headed the Automotive Council for
War Production, encouraging the industry to produce military equipment.11
Romney, who later became Michigan’s governor, had a vested interest in the
auto industry as the chief executive of American Motors.12 In a state that
already idolized Henry Ford and the big auto companies, the increased wartime
production only cemented the industry as Michigan’s primary source of revenue. In the first two years of the war, half a million people moved to Detroit,
the “Arsenal of Democracy,” to work.13
The auto factories shaped Detroit’s culture and population.14 Ford Motor
Company was the first company to start advertising assembly-line jobs in 1914.
By 1925, there were thirty-seven car factories in Detroit.15 The AfricanAmerican population of Detroit increased more than twenty-fold between 1910
and 1930 as new autoworkers flooded into the city to fill the jobs.16
Racial tensions after this migration added to Detroit’s financial problems.
White city-dwellers started moving en masse to the suburbs in the 1950s and
11. See RAPHA HOLDING, GOVERNORS OF THE UNITED STATES: POWERS AND LIMITATIONS 86 (2010).
12. See David E. Rosenbaum, George Romney Dies at 88; A Leading G.O.P. Figure, N.Y. TIMES
(July 27, 1995), http://www.nytimes.com/1995/07/27/obituaries/george-romney-dies-at-88-a-leading-gopfigure.html.
13. Nathan Bomey & John Gallagher, How Detroit Went Broke: The Answers May Surprise
You—And Don’t Blame Coleman Young, DETROIT FREE PRESS (Sept. 15, 2013, 2:10 AM), http://www.freep.
com/interactive/article/20130915/NEWS01/130801004/Detroit-Bankruptcy-history-1950-debt-pensionrevenue; see also FRED KAPLAN, 1959: THE YEAR EVERYTHING CHANGED 213–14 (2009). The “Arsenal of
Democracy” phrase is used by multiple sources. See, e.g., Nick Carey, Detroit Files for Bankruptcy,
Stage Set for Court Fight, REUTERS (July 18, 2013, 7:55 PM), http://www.reuters.com/article/2013/07/
18/us-usa-detroit-bankruptcy-idUSBRE96H16O20130718.
14. Even in tiny Portland, over a hundred miles from Detroit, the automobile industry was the
lifeblood of the community. There were no college prep classes at the local high school, and only about
a tenth of students in the mid-1970s went on to higher education. However, the high school included a
state-of-the art automotive shop half as large as the classroom building. As Portland native Julie Rice
remembered: “Higher education wasn’t necessary for a lifetime of working in the automobile factories.” E-mail from Julie Rice (ne´e Bauer) to author (Mar. 12, 2014, 10:39 AM) (on file with author).
15. KAPLAN, supra note 13, at 214; see also ELIZABETH ANNE MARTIN, DETROIT AND THE GREAT
MIGRATION, 1916–1929, at 4 (1993).
16. KAPLAN, supra note 13, at 214. Influenced by black musical traditions, the Motown Records
“assembly line” produced so many hit records starting in 1959 that Motown—short for Motor
Town—became a genre. See Top 5 Motown Singles: 1963, CURVATURE (July 20, 2012), http://thecurvature.
com/2012/07/20/top-5-motown-singles-1963/. Motown was just one example of a cultural “outgrowth
of the car industry, specifically of the black migration spurred by the industry’s swift rise and seemingly
endless demand for labor.” KAPLAN, supra note 13, at 213.
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1339
especially after race riots in the 1960s,17 abandoning entire sections of Detroit,
eroding the tax base, and leaving behind a segregated city rife with slums and
crime.18 Citizens of all races have been fleeing the city ever since—Detroit has
lost 60% of its population since 1950.19 As the Detroit Free Press succinctly
summarized: “People leave, taxes go up, more people leave.”20 In 2012, Detroit
had the highest income tax rate and the highest property tax rate in the state, yet
income tax revenue had fallen 40% since 2000.21
Michigan continued to rely heavily on automobile production, its economy
suffering with each industry setback. Extensive federal auto safety regulations
were passed in the 1960s, putting a costly burden on the entire industry.22 In the
1970s, gas prices rose and compact foreign cars flooded the market; Detroit’s
automakers struggled to keep up.23 The politically powerful United Auto Workers (UAW) union kept labor costs high.24 Although this helped Michigan
workers, it further slowed the big American automakers competing with the
smaller, cheaper cars built by foreign companies with low-cost labor.25 American companies started releasing compact cars in response, including the Ford
Pinto in 1971; a rash of lawsuits followed when Pintos started exploding in
otherwise minor accidents.26
Coleman Young was elected mayor in 1973.27 To rebuild the city, Young
raised taxes and cut spending, encouraged auto companies to build factories in
Detroit, and developed downtown.28 Young started reducing the city’s own
17. How Detroit Lost Its Way: White Flight, TIME, http://content.time.com/time/specials/packages/
article/0,28804,1925897_1925903_1925880,00.html (last visited Mar. 16, 2015).
18. See Bomey & Gallagher, supra note 13. Julie Rice remembers that “riding through the
slums . . . looked like black and white television: all the scenery was in shades of gray. Walking into the
[Detroit Tigers] ballpark was a remarkable contrast; like entering the Land of Oz, in full color with
green grass and blue skies.” E-mail from Julie Rice (ne´e Bauer) to author (Mar. 12, 2014, 10:39 AM)
(on file with author).
19. See Bomey & Gallagher, supra note 13; see also KEVYN D. ORR, CITY OF DETROIT OFFICE OF
EMERGENCY MANAGER, FINANCIAL AND OPERATING PLAN 22 (2013) [hereinafter FINANCIAL AND OPERATING
PLAN], available at http://www.detroitmi.gov/Portals/0/docs/EM/Reports/City%20of%20Detroit%20-%
20Final%20Financial%20&%20Operational%20Plan%20_45%20Day%20Pl.pdf.
20. Bomey & Gallagher, supra note 13.
21. Id.; FINANCIAL AND OPERATING PLAN, supra note 19, at 24.
22. See generally LISA SCHULTZ BRESSMAN ET AL., THE REGULATORY STATE (2d ed. 2013).
23. James Sherk, The Union Difference: A Primer on What Unions Do to the Economy, CAPITAL RES.
CTR. (Jan. 3, 2012), https://capitalresearch-zippykid.netdna-ssl.com/wp-content/uploads/2012/01/LW01
12.pdf; see also David Kiley, Small Cars Rising: This Time Detroit Is Prepared, AUTOBLOG (Mar. 22,
2011, 3:00 PM), http://autos.aol.com/article/detroit-small-cars/.
24. Sherk, supra note 23, at 2.
25. Id.
26. The 50 Worst Cars of All Time: 1971 Ford Pinto, TIME (Sept. 7, 2007), http://content.time.com/
time/specials/2007/article/0,28804,1658545_1658498_1657866,00.html.
27. Bomey & Gallagher, supra note 13. Young was the first African-American mayor of Detroit. See
Coleman A. Young, 79, Mayor of Detroit and Political Symbol for Blacks, Is Dead, N.Y. TIMES (Dec. 1,
1997), http://www.nytimes.com/1997/12/01/us/coleman-a-young-79-mayor-of-detroit-and-politicalsymbol-for-blacks-is-dead.html.
28. Bomey & Gallagher, supra note 13.
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workforce, aware of the ballooning pension obligations Detroit was incurring.29
Young improved the city’s finances so much, however, that Detroit was able to
issue highly rated bonds with abandon, increasing the city’s debt by 72%
between 1987 and 1994.30 After he left office in 1994, pension obligations
“skyrocket[ed].”31
The city was hit hard by the financial crisis in 2008. Many Americans no
longer had the money to buy new cars, and auto manufacturers’ stock plummeted. Government bailouts and bankruptcy filings by Chrysler and General
Motors—two of the “Big Three”—followed.32 Since 2000, unemployment has
tripled in Detroit.33 And now, the city is bankrupt.34
B. MUNICIPAL BONDS
American municipal bond issuances have been taking place for over two
centuries, beginning with a canal-financing bond offering in 1812 in New York
City.35 The SEC explains municipal bonds succinctly: “Investors who buy
municipal bonds are in effect lending money to the bond issuer in exchange for
a promise of regular interest payments, usually semi-annually, and the return of
the original investment, or ‘principal.’”36 In short, bond buyers give the municipality money to help finance certain operations or projects, in effect buying
pieces of the municipality’s debt. In exchange for this loan, the municipality
pays out set returns to the bondholders, often financed by taxes or other city
revenues. Because taxes are seen as a steady revenue stream, investors expect
consistent payments.37
General obligation bonds are paid off with taxes or other general revenues,
backed by the full faith and credit of the municipality. In addition, general
obligation bonds usually include a promise from the municipality to levy ad
29. Id.
30. Id.
31. Id.
32. Timothy J. Sturgeon & Johannes Van Biesebroeck, Effects of the Crisis on the Automotive
Industry in Developing Countries: A Global Value Chain Perspective 7 (World Bank Pol’y Research,
Working Paper No. 5330, 2010). Chrysler and General Motors (GM) filed for bankruptcy and were
bailed out by the federal government. Id.; see also Tim Higgins et al., GM Bailout Ends as U.S. Sells
Last of ‘Government Motors,’ BLOOMBERG (Dec. 10, 2013, 12:01 AM), http://www.bloomberg.com/news/
2013-12-09/gm-bailout-ends-as-u-s-sells-last-of-government-motors-.html.
33. FINANCIAL AND OPERATING PLAN, supra note 19, at 19.
34. See infra section I.C.
35. Basenese, supra note 6. Detroit has also been issuing bonds since the 1800s, including streetcar
bonds issued in 1899. See Charles Moore, Municipal Ownership of Street Railways in Detroit, 13 Q.J.
ECON. 453, 454 (1899).
36. Municipal Bonds, SEC. & EXC. COMM’N, http://www.sec.gov/answers/bondmun.htm (last visited
Mar. 16, 2015).
37. Darrell Preston et al., Detroit Case Scrutinized by $900 Billion G.O. Market, BLOOMBERG (July
19, 2013, 11:45 AM), http://www.bloomberg.com/news/2013-07-19/detroit-scrutinized-by-900-milliong-o-market.html.
2015]
INVESTING IN DETROIT
1341
valorem property taxes in an amount sufficient to repay the bonds.38 There are
both limited tax general obligation (LTGO) bonds, which carry the promise only
to raise taxes to a certain point (limited by the state constitution), and unlimited
tax general obligation (UTGO) bonds, which do not have that ceiling.39 Bonds
can also be issued to finance specific projects, or on behalf of private entities
such as colleges or hospitals (“conduit borrowers”).40 Many of the bonds at
issue in Detroit’s bankruptcy are general obligation bonds, including both
LTGO and UTGO bonds.41
The SEC found that “[i]ndividuals, or ‘retail’ investors, directly or indirectly
hold more than 75% of the outstanding principal amount of municipal securities.”42 Households are the single largest owner of municipal securities and
have been for the past six years.43 Mutual funds are also heavily invested in
these bonds.44 The bond market was, and despite recent developments still is,
viewed as a safe place to invest.45 Municipalities have defaulted on bonds
in the past, and Detroit is not the first to declare bankruptcy.46 But defaults on
investment-grade municipal bonds between 1970 and 2007 comprised only
0.1% of issuances; in comparison, 2.1% of investment-grade corporate bonds
defaulted during that time.47 Municipal bonds are popular investments for
risk-averse investors due to consistent income payments, tax breaks,48 steady
tax revenue backing the bonds,49 and the possibility of state statutory
protections.50
38. General Obligation Bond or Go Bond, MUN. SECS. RULEMAKING BD., http://www.msrb.org/glossary/
definition/general-obligation-bond-or-go-bond.aspx (last visited Mar. 16, 2015).
39. Limited Tax General Obligation Bond, MUN. SECS. RULEMAKING BD., http://www.msrb.org/glossary/
definition/limited-tax-general-obligation-bond.aspx (last visited Mar. 16, 2015); Unlimited Tax Bond,
MUN. SECS. RULEMAKING BD., http://www.msrb.org/glossary/definition/unlimited-tax-bond.aspx (last visited Mar. 16, 2015).
40. Municipal Bonds, supra note 36 (internal quotation marks omitted).
41. Preston et al., supra note 37; FINANCIAL AND OPERATING PLAN, supra note 19, at 34.
42. SEC REPORT, supra note 4, at v.
43. See id. at 12–13 (graphing the primary holders of municipal securities).
44. See id. at 1.
45. Conrad de Aenlle, After Setbacks, Municipal Bond Sector Is Looking Up, N.Y. TIMES (Feb. 10,
2014), http://www.nytimes.com/2014/02/11/your-money/after-setbacks-municipal-bond-sector-is-lookingup.html.
46. SEC REPORT, supra note 4, at 23 (noting that 917 bonds defaulted in the 1990s); id. at 23 n.117
(claiming that the actual monetary losses from defaults have been tiny in comparison to the size of the
defaults).
47. Jason Saylor, Note, Credit Rating Agencies and Municipal Bonds: How a Misunderstood
Industry Has Cost Taxpayers, 4 GEO. MASON J. INT’L COM. L. 259, 264 (2012).
48. See 26 U.S.C. § 103(a) (2012).
49. Preston et al., supra note 37.
50. Objection of Ambac Assurance Corp., supra note 7, at 5. (“[M]unicipal finance is constrained by
state constitutions and legislation. . . . Specifically, the statutory restrictions operate to create a structure
establishing the seniority of specified obligations that will produce a low risk profile and thereby ensure
credit is available at a low cost.”).
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Mayor Coleman Young’s fiscal program gave Wall Street some reassurance.
In 1986, twelve years into Young’s twenty-year tenure as mayor, the rating for
Detroit’s bonds was increased to “investment-grade,” allowing the city to
borrow even more from investors at a lower interest rate.51 Detroit was still
putting all its eggs into the auto-industry basket and using bonds to help keep
the industry healthy; in 1990, $130 million in general obligation bonds was
issued to finance Chrysler’s Jefferson North Assembly Plant.52 Jefferson North
was not the first time auto companies had supported the city’s accumulation of
debt on their behalf. As early as 1929, Ford supported a ballot measure for a
bond issuance meant to finance rail transportation so workers could commute
more easily to the automaker’s River Rouge Plant.53
The Detroit Free Press concluded that in 2001 “the city still could have
avoided disaster. Bankruptcy was not inevitable. But under the [Mayor Kwame]
Kilpatrick and [Mayor Dave] Bing administrations, the city started borrowing
aggressively to cover its operating expenses, enabled by Wall Street’s irresponsible lending of the 2000s.”54 In 2005, Kilpatrick received the Bond Buyer’s
Midwest Regional Deal of the Year award for his $1.44 billion deal involving
borrowing to fund pensions. However, the massive borrowing ended up hurting
the city—in September 2013, that deal accounted for nearly 20% of the city’s
debt.55
By issuing bonds to pay for fiscal stabilization and pension obligations,
Detroit slid deeper into debt. The Free Press calls the 2000s a decade-long
“borrowing binge” that doubled the city’s debt between 2000 and 2012.56
Kilpatrick issued fiscal stabilization bonds in 2002; Bing issued more in 2009,
both just to “keep the city budget afloat.”57 Corruption further depressed the
city’s finances. Kilpatrick is now serving a twenty-eight-year sentence in federal
prison for racketeering, extortion, and other offenses.58
51. Bomey & Gallagher, supra note 13.
52. Id.
53. Charles K. Hyde, Planning a Transportation System for Metropolitan Detroit in the Age of the
Automobile: The Triumph of the Expressway, 32 MICH. HIST. REV. 59, 73–74 (2006) (noting that this
ballot measure failed in favor of expressways).
54. Bomey & Gallagher, supra note 13.
55. Id.
56. Id.
57. Id.
58. Heather Catallo, Kwame Kilpatrick Leaves Michigan as a Federal Prisoner with a 2037 Release
Date, WXYZ DETROIT (Jan. 16, 2014, 7:28 AM), http://www.wxyz.com/news/local-news/investigations/
kwame-kilpatrick-leaves-michigan-as-a-federal-prisoner-with-a-2037-release-date. His corruption is estimated to have harmed the city to the tune of $20 million. Tresa Baldas, How Corruption Deepened
Detroit’s Crisis, USA TODAY (Oct. 6, 2013, 8:03 AM), http://www.usatoday.com/story/news/nation/2013/
10/06/how-corruption-deepened-detroits-crisis/2929137/.
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C. BANKRUPTCY
In April 2012, Michigan Governor Rick Snyder subjected Detroit to greater
oversight by the state government.59 A state-appointed review team determined
in February 2013 that Detroit was in a state of “financial emergency” and had
“no satisfactory plan” to remedy it.60 The findings allowed Snyder to announce
the state was taking full control of Detroit’s government. Snyder appointed
Kevyn Orr as the city’s Emergency Manager in March 2013,61 giving him broad
powers such as the ability to rewrite contracts and liquidate city assets, and a
mandate to turn the city’s finances around.62 At the time, five smaller cities in
Michigan were under the control of Emergency Managers, including Pontiac
and Flint—both long-time homes of General Motors plants.63
On July 18, 2013, Detroit became the largest U.S. municipality to file for
Chapter 9 bankruptcy, which “provide[s] a financially-distressed municipality
protection from its creditors while it develops and negotiates a plan for adjusting its debts.”64 Sitting at the wheel of the city when the filing was made in the
Eastern District of Michigan was Emergency Manager Orr.
Orr attended the University of Michigan, just forty-five miles from Detroit,
graduating with a B.A. in 1979 and a J.D. in 1983.65 Orr’s work at Jones Day in
Washington, D.C., brought him back to Michigan decades later, right in the
middle of the auto industry’s decline—Orr represented Chrysler during its 2009
bankruptcy proceedings.66 His broadly acclaimed67 restructuring of the giant
auto manufacturer, which allowed many Michigan workers to retain their jobs,
59. Michigan Gov. Rick Snyder Takes Over Detroit’s Finances Amid Financial Emergency, CTV
NEWS (Feb. 20, 2013, 6:41 AM), http://www.ctvnews.ca/world/michigan-gov-rick-snyder-takes-overdetroit-s-finances-amid-financial-emergency-1.1163889.
60. Id. (internal quotation marks omitted).
61. Monica Davey, Bankruptcy Lawyer Is Named to Manage an Ailing Detroit, N.Y. TIMES (Mar. 14,
2013), http://www.nytimes.com/2013/03/15/us/gov-rick-snyder-kevyn-orr-emergency-manager-detroit.
html.
62. See Emergency Manager, MICH.GOV, http://www.michigan.gov/documents/snyder/EMF_Fact_
Sheet2_347889_7.pdf (last visited Mar. 16, 2015).
63. See id.; see also Michigan Gov. Rick Snyder, supra note 59; Joseph Szczesny, Workers: Pontiac
GM Plant Left to Die, OAKLAND PRESS (Feb. 15, 2012, 12:00 AM), http://www.theoaklandpress.com/
general-news/20120215/workers-pontiac-gm-plant-left-to-die (noting that both Flint—currently—and
Pontiac—formerly—have been the homes of GM plants).
64. Municipality Bankruptcy, U.S. CTS., http://www.uscourts.gov/FederalCourts/Bankruptcy/
BankruptcyBasics/Chapter9.aspx (last visited Mar. 16, 2015).
65. Facts on Kevyn D. Orr, DETROIT FREE PRESS (Mar. 24, 2013), http://www.freep.com/article/
20130324/NEWS01/303240236/KEVYN-D-ORR. In a twist of fate, the Michigan Innocence Clinic at
the University of Michigan Law School earned freedom for Dwayne Provience, wrongfully convicted
of murder in 2000. He earned a settlement of $5 million from the city, which he now will not receive
due to the bankruptcy. Imran J. Syed, Doubly Wronged in Detroit, SLATE (Dec. 12, 2013, 10:01 AM),
http://www.slate.com/articles/news_and_politics/jurisprudence/2013/12/dwayne_provience_won_t_get_
5_million_in_compensation_for_a_wrongful_conviction.html.
66. Brian Dickerson et al., New Detroit Emergency Financial Manager Kevyn Orr Takes on
Challenge of a Lifetime, DETROIT FREE PRESS (Mar. 24, 2013, 10:21 AM), http://www.freep.com/
article/20130324/NEWS01/303240246/New-Detroit-emergency-financial-manager-Kevyn-Orr-takes-onchallenge-of-a-lifetime.
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put him on the short list for the Emergency Manager job in Detroit.68
Six weeks after his appointment, Orr described just how dire things were in
Detroit in a Financial and Operating Plan filed with the State Treasurer on May
12, 2013.69 He wrote, “[w]hat is clear . . . is that continuing along the current
path is an ill-advised and unacceptable course of action if the City is to be put
on the path to a sustainable future.”70 The first item on his list was the
“long-term debt issuances”—bonds—used for years to cover shortfalls in the
budget.71 He recognized that issuing municipal bonds had created significant
debt, and that borrowing would not save the city this time. Detroit bonds were
rated “junk status” by ratings agencies, and debt limits meant “the City [had]
effectively exhausted its ability to borrow.”72 In addition to bond obligations,
pension obligations to former city employees (including medical benefits) made
up most of what was then estimated to be $15 billion in debt.73
Shortly after his report was issued, Orr stopped making payments on some of
Detroit’s debts, including pension payments and certain bond payments. He
created a comprehensive restructuring proposal to avoid bankruptcy and presented it to bondholders and other creditors, but they did not accept his
settlement suggestions, instead offering what Orr called “untenable ‘counterproposals.’”74 The dispersed nature of the bondholders and the low payments Orr
was offering made it difficult to negotiate; Orr noted that “in many instances the
City is unable to negotiate with a single contact with the authority and willingness to bind its bondholders.”75
On July 17, 2013, city pension funds filed suit in state court to prevent Orr
from cutting retiree benefits.76 Orr would say later that these legal tactics forced
him to declare bankruptcy early; he did not want the state courts to preemptively block the bankruptcy before he had a chance to bring his case in federal
67. See, e.g., Micheline Maynard, Chrysler: From Bankrupt to a $6 Billion Company, FORBES (Mar.
28, 2013, 8:41 PM), http://www.forbes.com/sites/michelinemaynard/2013/03/28/chrysler-from-bankruptto-a-6-billion-company/.
68. See Dickerson et al., supra note 66.
69. See FINANCIAL AND OPERATING PLAN, supra note 19.
70. Id. at 2.
71. Id.
72. Id. at 3.
73. Id. The debt was later estimated to be over $18.5 billion. See, e.g., Carey, supra note 13.
74. Letter from Kevyn D. Orr, Detroit Emergency Manager, to Richard D. Snyder, Mich. Governor,
Exec. Off. of Governor, and Andrew Dillon, State Treasurer, Mich. Dep’t of Treasury, Re: Recommendation Pursuant to Section 18(l) of PA 436, at 9 (July 16, 2013), available at http://michigan.gov/documents/
snyder/Detroit_EM_Kevyn_Orr_Chapter_9_Recommendation_427831_7.pdf.
75. Letter from Kevyn D. Orr, supra note 74 (“Certain parties rejected the City’s proposals
altogether. In other cases, creditors made untenable ‘counterproposals’ suggesting that they should not
be materially impaired or should not be impaired at all.”).
76. Joe Guillen, Detroit’s Pension Boards File Suit Against Orr, Snyder to Block Cuts in Workers’ Benefits, DETROIT FREE PRESS (July 18, 2013, 7:57 AM), http://www.freep.com/article/20130718/
NEWS01/307180061/detroit-pension-board-detroit-lawsuit-kevyn-orr.
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court.77
The next day, Detroit filed for Chapter 9 bankruptcy in the U.S. Bankruptcy
Court in the Eastern District of Michigan.78 Filing bankruptcy created an
automatic stay on pending court actions, allowing Orr and the city some
breathing room to work out a plan of reorganization.79 Governor Snyder wrote
in his authorization letter that bankruptcy is a “necessary step as a last resort to
return this great City to financial and civic health.”80 Protests followed despite
public officials’ reassurances that city services would continue.81
Ratings agencies downgraded Detroit’s bonds even further after the filing,
making it more difficult for Detroit to borrow.82 Richard Larkin, Herbert J. Sims
& Co.’s director of credit analysis, stated that “Detroit’s name in the muni[cipal
bond] market is probably mud.”83
On July 19, the day after Detroit’s bankruptcy filing, Judge Rosemarie
Aquilina of the Ingham County Circuit Court ruled that by impairing pension
payments, the bankruptcy filing violated the Michigan Constitution.84 While
Judge Aquilina’s decision was being appealed, on July 23, the Michigan Court
of Appeals ruled to stay the other pending state court actions, keeping the
pension fund and union cases on hold until the bankruptcy question was
77. See, e.g., Emergency Manager Kevyn Orr, State Treasurer Andy Dillon Address Detroit Bankruptcy, WXYZ-TV DETROIT (July 19, 2013), http://www.youtube.com/watch?v⫽5quOcu5W4kY; Hundreds Protest Detroit Bankruptcy, WXYZ-TV DETROIT (Oct. 23, 2013), http://www.youtube.com/
watch?v⫽TF8uMdNPOvg; What Bankruptcy Means for Detroit, N.Y. TIMES (Dec. 4, 2013), http://www.
youtube.com/watch?v⫽Ew-4PPjKVEk; see also Jack M. Beermann, Resolving the Public Pension
“Crisis,” 41 FORDHAM URB. L.J. 999, 1006 (2014).
78. See Carey, supra note 13.
79. See 11 U.S.C. § 362(a) (2012).
80. Letter from Richard D. Snyder, Mich. Governor, to Kevyn D. Orr, Detroit Emergency Manager,
and Andrew Dillon, State Treasurer, Mich. Dep’t of Treasury, Re: Authorization to Commence Chapter
9 Bankruptcy Proceeding, at 1 (July 18, 2013), available at http://www.michigan.gov/documents/snyder/
Governor_Snyder_Chapter_9_Authorization_427830_7.pdf.
81. See, e.g., Detroit Has Filed for Chapter 9 Bankruptcy, WXYZ-TV DETROIT (July 18, 2013),
https://www.youtube.com/watch?v⫽K0vbQ8WWTBY; Union Workers Protest Detroit Bankruptcy Ruling, ASSOCIATED PRESS (Dec. 3, 2013), http://www.youtube.com/watch?v⫽iYhQve_DTD0.
82. See Carey, supra note 13; Moody’s: Detroit Bankruptcy Filing Credit Negative, REUTERS (July
18, 2013, 9:01 PM), http://www.reuters.com/article/2013/07/19/us-usa-detroit-moodys-idUSBRE96I02
D20130719.
83. Preston et al., supra note 37 (internal quotation mark omitted).
84. See Paul Egan, Michigan AG Challenges Judge’s Ruling that Detroit Bankruptcy Is Unconstitutional, DETROIT FREE PRESS (July 19, 2013, 2:56 PM), http://www.freep.com/article/20130719/NEWS06/
307190075/detroit-bankruptcy-ingham-county-rosemarie-aquilina-pension. For Detroit’s arguments, see
Pre-Trial Brief for City of Detroit at 14, In re City of Detroit, Mich., 504 B.R. 191 (Bankr. E.D. Mich.
2013) (No. 13-53846). The city argues that a “[s]tate’s authorization of municipal bankruptcy does not
impair pensions or any other contractual obligations,” and thus does not violate the Pensions Clause or
the Contracts Clause of the U.S. Constitution. Id. Detroit also argues it does not violate the Michigan
Constitution because the purpose behind the filing is simply restructuring. Id. at 69. The UAW brief
argues that the bankruptcy violates the Michigan Constitution’s Article 9 Section 24, which says that
the legislature may not reduce pension benefits that have accrued. See Objection of International Union,
UAW at 19, In re City of Detroit, 504 B.R. 191 (No. 13-53846).
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resolved.85
Of Detroit’s approximately $18 billion in debt, $369 million was owed to
holders of unlimited tax general obligation bonds (UTGOs) and $163 million to
holders of limited tax general obligation bonds (LTGOs).86 Although those
bonds represented less than 3% of the city’s liabilities,87 the payouts on the
bonds could influence how much bondholders recover the next time a city files
for bankruptcy. In bankruptcy, creditors are paid off according to their priority,
and frequently receive only a percentage of the money owed to them; where
bondholders are deemed to fall in that priority scheme could determine how
much of their investment can be recovered.88
Orr decided to treat UTGO and LTGO bonds as unsecured, giving those
bondholders a low priority among creditors.89 Bondholders had assumed general obligation bonds received “significant protections and rights that are superior to all unsecured creditors,”90 including a lien on ad valorem tax revenues.
One LTGO insurance company creditor explained that “[t]he State of Michigan
has dictated a structure for municipal debt, pursuant to which LTGOs . . . have
seniority for repayment.”91 According to the creditor, the bonds should be
senior to unsecured obligations such as pensions, and deserve more than the
10% recovery Orr originally proposed for bondholders: “A plan that takes a
senior debt instrument and throws it to the very bottom of the barrel, while
elevating other debt [such as pensions] to recoveries some five or six times
greater, cannot be confirmed.”92
In December 2013, U.S. Bankruptcy Judge Steven W. Rhodes ruled Detroit
eligible for bankruptcy protection, against the protests of 110 opposing parties.93 His ruling that pension payments could potentially be reduced under
85. Karen Pierog et al., Michigan Court Stays Challenges to Detroit Bankruptcy Filing, REUTERS
(July 23, 2013, 6:03 PM), http://www.reuters.com/article/2013/07/23/us-usa-detroit-lawsuits-idUSBRE9
6M0XX20130723.
86. Preston et al., supra note 37.
87. Id.
88. See MARK S. SCARBERRY ET AL., BUSINESS REORGANIZATION IN BANKRUPTCY: CASES AND MATERIALS
22–29 (4th ed. 2012); see also Overview of Creditor and Bankruptcy Types, THOMPSON L. GROUP,
http://www.thompsonlawgroup.com/Bankruptcy/ForCreditors/OverviewofCreditorandBankruptcyTypes.
aspx (last visited Mar. 16, 2015).
89. See supra note 88. “In his June 14, 2013 proposal for creditors, Emergency Manager Orr rattled
bondholders (and markets) by categorizing these obligations as unsecured, such that all UTGO
bonds . . . would be treated . . . with all general fund obligations, then proposing a plan of reorganization that would have meant a substantial haircut for bondholders.” Christine Sgarlata Chung, Zombieland/
The Detroit Bankruptcy: Why Debts Associated with Pensions, Benefits, and Municipal Securities
Never Die . . . and How They Are Killing Cities Like Detroit, 41 FORDHAM URB. L.J. 771, 837 (2014).
90. Objection of Ambac Assurance Corp., supra note 7, at 10.
91. Id. (citing the Revised Municipal Finance Act, MICH. COMP. LAWS ANN. § 141.2103(l) (West
2012), which requires municipal bonds to be secured by a revenue stream).
92. Id.
93. In re City of Detroit, Mich., 504 B.R. 191, 204 (Bankr. E.D. Mich. 2013); see also Daniel Fisher,
Detroit Bankruptcy Ruling Good News for Muni Bonds, Insurers, FORBES (Dec. 4, 2013, 3:20 PM),
http://www.forbes.com/sites/danielfisher/2013/12/04/detroit-bankruptcy-ruling-good-news-for-munibonds-insurers/.
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federal bankruptcy law—as contracts that can be impaired in bankruptcy
proceedings—was a serious blow to pension-fund participants that had believed
they would be first in line to receive Detroit’s meager tax revenue.94 However,
bondholders also found themselves undermined by the same contractual argument. Since bonds are contractually based, like pensions, they can be impaired
by bankruptcy.95 Although the court agreed with the pensioners and unions that
“[t]he City did not negotiate in good faith,” the opinion went on to say Detroit
“was not required to because such negotiation was impractical” with so many
creditors, including the dispersed bondholders.96
Orr proposed a plan to exit bankruptcy in February that suggested cutting
various groups of pension obligations by between 4% and 34%, while cutting
80% of obligations to the now-unsecured bondholders.97 The Financial Guaranty Insurance Company (FGIC) is one of Detroit’s largest bond creditors.
Steve Spencer, advisor to FGIC, said “[w]hile we understand that favoring
pensioners and discriminating against bondholders and other creditors might be
politically popular, we believe this is contrary to bankruptcy law and will result
in costly litigation that will hamper the City’s emergence from bankruptcy.”98
By July 2013, Orr settled with some of the large UTGO bond-insurance
companies for a much more favorable 74% of their claims.99 Bankruptcy Judge
Steven Rhodes approved Detroit’s plan of reorganization on November 7,
2014.100 He approved the separate treatment of pension creditors and municipal
bond creditors, even though Orr had named them both unsecured creditors.
Rhodes wrote that the Michigan Constitution’s “special protection” of pension
94. Fisher, supra note 93; see also Ed White, Bankruptcy Judge Puts Kevyn Orr on the Spot over
Detroit Pension Remark, HUFFINGTON POST (Nov. 4, 2013, 2:50 PM), http://www.huffingtonpost.com/
2013/11/04/detroit-bankruptcy-remark_n_4214271.html?utm_hp_ref⫽detroit-bankruptcy. Judge Rhodes stated that “[i]mpairing contracts is what the bankruptcy process does.” Adam Santeusanio, Note, In
re Detroit: Consequences of Detroit’s Bankruptcy for Pensioners, 33 REV. BANKING & FIN. L. 430, 433
(2014) (quoting In re City of Detroit, 504 B.R. at 244) (internal quotation marks omitted).
95. Richard M. Hynes & Steven D. Walt, Pensions and Property Rights in Municipal Bankruptcy, 33
REV. BANKING & FIN. L. 609, 647–48 (2014).
96. In re City of Detroit, 504 B.R. at 204.
97. Nathan Bomey et al., Detroit’s Bankruptcy Exit Plan Includes Pension Cuts, Millions for Blight
Removal, Technology, DETROIT FREE PRESS (Feb. 21, 2014, 8:41 PM), http://www.freep.com/article/2014
0221/NEWS01/302220007/Detroit-Chapter-9-bankruptcy-plan-of-adjustment-Steven-Rhodes-KevynOrr.
98. Id. (internal quotation marks omitted); see also Mary Williams Walsh, Detroit in Deal with Its
Biggest Holdout Creditor in Bankruptcy Case, N.Y. TIMES (Oct. 16, 2014), http://www.nytimes.com/
2014/10/17/business/detroit-reaches-settlement-with-remaining-big-creditor.html?_r⫽0.
99. See Matthew Dolan & Emily Glazer, Detroit Reaches Settlement with Some Bond Insurers, WALL
ST. J. (Apr. 9, 2014, 3:43 PM), http://online.wsj.com/news/articles/SB100014240527023038736045794
91460358343956; see also Ambac Announces LTGO Settlement with the City of Detroit, AMBAC.COM
(July 25, 2014), http://ir.ambac.com/releasedetail.cfm?ReleaseID⫽862123; Ronald P. Bernardi, Detroit
Settles with UTGO Creditors, BERNARDI SECS. INC. (Apr. 15, 2014), http://www.bernardisecurities.com/
content/detroit-settles-utgo-creditors-bond-right-side-still-%E2%80%9Cwaiting-godot%E2%80%9D.
100. See Peter Suciu et al., U.S. Judge: Detroit Needs to Put Bankruptcy Plan in Motion, REUTERS
(Nov. 12, 2014, 2:42 PM), http://www.reuters.com/article/2014/11/12/us-usa-detroit-bankruptcy-start-id
USKCN0IW1OU20141112.
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plans is “entitled to substantial deference” in determining plan fairness, while
the lesser treatment of bondholders could be upheld as the product of “negotiated settlements” and “the claimants’ arguments to relative priority and security
under State law.”101 Overall, Judge Rhodes found the plan could be accepted
under 11 U.S.C. § 1129(b) in part because “[t]he City’s proposal of the
differential treatment between Classes of unsecured Claims under the Plan was
made in good faith and was not motivated by personal animosity or antipathy.”102 In the “grand bargain” struck to bring the city out of bankruptcy,
pensioners had their benefits cut by up to 4.5%, with additional cuts in cost-ofliving increases.103 UTGO bondholders—who thought they would have the
right to levy nearly unlimited taxes to be fully paid—recovered 74% of their
claims, and LTGO bondholders recovered just 44%.104 A review commission
was put in place to oversee Detroit’s finances for the next thirteen years and
hopefully avoid another bankruptcy.105
Although the exact percentage recovered by pensioners is hard to calculate
over the long term, some commentators were concerned that “the interests of
general obligation bondholders appear firmly entrenched behind pension and
retirement plans and government services when it comes to who will receive the
most favorable outcome.”106 Even though it will not have official precedential
value, the plan approved in Detroit will certainly be analyzed by bondholders in
future municipal bankruptcies.107
II. MUNICIPAL BOND REGULATION
Former SEC Commissioner Elisse B. Walter wrote, “Despite its size and
importance, the municipal securities market has not been subject to the same
101. Order Confirming Eighth Amended Plan for the Adjustment of Debts of the City of Detroit at
23–24, In re City of Detroit, Mich., 504 B.R. 191 (Bankr. E.D. Mich. Nov. 12, 2014) (No. 13-53846),
available at http://www.mieb.uscourts.gov/sites/default/files/detroit/docket8272.pdf [hereinafter Order
Confirming Plan].
102. Id. at 25.
103. See, e.g., Paul Burton, Ravitch, Spiotto: Use Carrots, Sticks to Avoid More Detroits, BOND
BUYER (Nov. 12, 2014, 9:33 AM), http://www.bondbuyer.com/news/regionalnews/ravitch-spiotto-usecarrots-sticks-to-avoid-more-detroits-1067866-1.html.
104. Order Confirming Plan, supra note 1, at 22.
105. Matt Helms, Board Begins Financial Oversight of Detroit, DETROIT FREE PRESS (Nov. 12, 2014,
1:35 PM), http://www.freep.com/story/news/local/detroit-bankruptcy/2014/11/12/detroit-reviewcommission-meets/18913251/.
106. Benjamin Horney, What Detroit Means for Bonds in Ch. 9 Cases, LAW360 (Nov. 10, 2014, 7:03
PM), http://www.law360.com/articles/594901/what-detroit-means-for-bonds-in-ch-9-cases (citing the
Moody’s report, which estimates the eventual pensioner recovery at 82% and states that “the emerging
picture is one in which pensions have better recovery probabilities than debt in a Chapter 9 case”).
107. See Andrew Scurria, Detroit Settlement Model Looms over Future Chapter 9s, LAW360 (Nov.
10, 2014, 7:57 PM), http://www.law360.com/articles/593709/detroit-settlement-model-looms-over-futurechapter-9s (“Rhodes . . . confirmed a plan that ultimately forced financial creditors to cover most of the
cost of restructuring. The settlements with city stakeholders underscore the political considerations at
the heart of Chapter 9, where flexible legal standards and sparse appellate precedent leave creditors at
the mercy of the presiding judge . . . .”).
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level of regulation as other sectors of the U.S. capital markets.”108 Municipal
securities are exempt from registration under the Securities Act of 1933 (Securities Act) under section 3(a)(2) and thus from the disclosure requirements of the
Securities Exchange Act of 1934 (Exchange Act; collectively, the Securities
Acts).109 The antifraud provisions of the Securities Acts, section 17(a) of the
Securities Act and section 10(b) of the Exchange Act, still apply to municipal
securities, however.110 At the time of their enactment, the broad exemptions
from regulation made sense because they allowed states room to regulate their
own municipalities and they accurately reflected the safety of municipal securities as compared to corporate securities markets.111
Despite statutory limitations, the SEC has found a way to regulate municipal
bond issuances to some extent through its antifraud enforcement capabilities
and by regulating the actions of underwriters in the municipal bond market. The
Dodd–Frank Wall Street Reform and Consumer Protection Act of 2010 (Dodd–
Frank) required research into additional municipal bond market regulation, but
the SEC’s resulting report did not propose specific bankruptcy-related rules.
A. DEVELOPMENT OF MUNICIPAL BOND REGULATIONS
The Securities Act Amendments of 1975 created the Municipal Securities
Rulemaking Board (MSRB) and gave the SEC some oversight powers over
municipal securities dealers.112 But municipal securities issuers still remained
mainly outside of federal control: in 1975, the “Tower Amendment” provisions
“expressly limited the Commission’s and the MSRB’s authority to require
municipal securities issuers, either directly or indirectly, to file any application,
report, or document with the Commission or the MSRB prior to any sale of
municipal securities by the municipal issuer.”113 However, the SEC has since
issued interpretive guidance listing what filings should be made with the
MSRB,114 and has sidestepped the bar on regulating issuer disclosure statements by promulgating rules to regulate underwriters in the market.115
Exchange Act Rule 15c2-12, adopted in 1989, requires certain conditions to
be satisfied before underwriters can participate in municipal securities offerings.116 Rule 15c2-12 requires underwriters to obtain and review specified
108. SEC REPORT, supra note 4, at ii.
109. JAMES D. COX ET AL., SECURITIES REGULATION: CASES AND MATERIALS 434 (7th ed. 2013).
110. See SEC REPORT, supra note 4, at ii.
111. See Municipal Bond Disclosure, WM FIN. STRATEGIES, http://www.munibondadvisor.com/
Disclosure.htm (last visited Mar. 16, 2015).
112. See SEC REPORT, supra note 4, at ii–iii.
113. Id. at iii.
114. See Statement of the Commission Regarding Disclosure Obligations of Municipal Securities
Issuers and Others, Securities Act Release No. 33-7049, Exchange Act Release No. 34-33741, 59 Fed.
Reg. 12,748 (Mar. 17, 1994) [hereinafter Release No. 33-7049].
115. Underwriters help price and sell the bonds to investors; without underwriters, issuers would not
be able to sell their bonds, so the SEC is effectively regulating issuers as well.
116. 17 C.F.R. § 240.15c2-12 (2014); see also SEC REPORT, supra note 4, at 30.
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information and make that information available to potential buyers before they
can underwrite a series of municipal bonds.117 The rule also gives underwriters
an ongoing duty to obtain an undertaking from issuers to disclose their annual
financial statements and reports, and provide notice when the “material events”
listed in the rule occur.118 A 2008 amendment required that all such information
be deposited in a central database; the Electronic Municipal Market Access
(EMMA) database of MSRB filings is now available online for all investors.119
Still, the rule’s only mention of bankruptcy is that a municipal bankruptcy must
be disclosed within ten days of its occurrence.120
B. THE DODD–FRANK ACT AND MUNICIPAL BONDS
The Dodd–Frank Act121 required the SEC to make reforms to protect municipal bond investors. The reforms include ratings agency regulations, increased
regulation of municipal advisors, the expansion of the MSRB’s authority, and a
study of the municipal securities market.122
The shortcomings of the ratings agencies are well-known. They dramatically
overrated junk mortgage-backed securities before the housing bubble popped in
the 2008 financial crisis.123 Congressional testimony as early as 1969 decried
their substantial influence on municipal bond prices.124 Yet, to a great extent,
their ratings are still relied upon today.125 Ratings agencies decided Detroit
bonds were investment-grade even as the city borrowed excessively in the early
2000s, supported by the credit enhancement from the bond insurance such a
risky investment required.126 Ratings agency reforms meant to encourage more
accurate ratings are included in Dodd–Frank, including the adoption of rules
requiring annual reports of internal controls, disclosure of the agency’s performance, and disclosure of the assumptions and data underlying ratings.127
Dodd–Frank also amended the Exchange Act to allow the Commission to bar
bad actors (insider traders, for example) from participating in certain industries.
Included in these new industry bars are municipal advisors, thus demonstrating
117. 17 C.F.R. § 240.15c2-12.
118. Id.
119. See SEC REPORT, supra note 4, at 30; see also Programs and Long-Range Plan, MUN. SECS.
RULEMAKING BD., http://www.msrb.org/About-MSRB/Programs.aspx (last visited Mar. 16, 2015).
120. 17 C.F.R. § 240.15c2-12(b)(5)(i)(C)(12) (2014).
121. Dodd–Frank Wall Street Reform and Consumer Protection Act, Pub. L. No. 111-203, 124 Stat.
1376 (2010).
122. SEC REPORT, supra note 4, at iii.
123. See COX ET AL., supra note 9, at 571–74.
124. See Roy M. Goodman, Municipal Bond Rating Testimony, 24 FIN. ANALYSTS J. 59, 59 (1968).
125. See COX ET AL., supra note 9, at 433–39; Saylor, supra note 47, at 263.
126. See Bomey & Gallagher, supra note 13 (“But even after eventual downgrades, investors
continued to scoop up each new city bond issue. That’s because the lower the credit rating, the higher
the interest paid to investors. The demand was also fueled by Wall Street’s mistaken impression that the
State of Michigan would never allow the city to file for bankruptcy.”).
127. Credit Rating Agencies, SECS. & EXCH. COMM’N, http://www.sec.gov/spotlight/dodd-frank/
creditratingagencies.shtml (last visited Mar. 16, 2015).
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an intent to protect the municipal bond market from bad actors.128 In addition,
section 15B of the Exchange Act now requires municipal advisors to register
with the SEC.129
Dodd–Frank required the SEC to undertake a study of the municipal securities market, created an Office of Municipal Securities at the SEC, and added
registration requirements for municipal advisors, but it did not give the SEC
much additional regulatory power over the market.130 Dodd–Frank marginally
expanded MSRB’s authority to adopt rules regulating transactions in and advice
regarding municipal securities, “explicitly requiring it to protect municipal
entities and obligated persons,” and changed the makeup of its board to include
more public representatives.131
III. THE FUTURE OF MUNICIPAL BONDS
Supreme Court Justice Louis Brandeis famously said, “Sunlight is said to be
the best of disinfectants.”132 The 2012 SEC report required by Dodd–Frank
recognizes that clear and consistent disclosure about municipalities’ finances,
including their pension obligations,133 is necessary to protect investors and
allow them to find a fair price. This Note proposes that the risks and remedies of
municipal bankruptcy must also be fully disclosed in order to shine “sunlight”
on the types of problems Detroit bondholders faced in recovering their
investments.
The SEC needs to provide greater transparency to bondholders—who are
mainly individual investors—than the current case-by-case approach that left
bondholders unsure of their standing in Detroit. State bankruptcy laws authorizing Chapter 9 bankruptcy do not exist in all states and vary widely even among
the states that do have them. States could not be forced by the federal government to enact authorizing statutes without implicating federalism concerns and
complicating the treatment of municipal debt in state constitutions, so the
clearest path to protection of investors is through the SEC’s adoption of
bankruptcy-related disclosure rules. Section III.C.2 proposes new nonbinding
guidance that the SEC could issue to improve initial disclosure by issuers, and
section III.C.3 proposes an amendment to Rule 15c2-12 to ensure ongoing
disclosure of changes in bankruptcy law.
128. See Pub. L. No. 111-203, 124 Stat. 1376 (2010); see also John W. Lawton, Securities Act
Release No. 3513, 2012 WL 6208750, at *5–8 (Dec. 13, 2012).
129. SEC REPORT, supra note 4, at iii.
130. Id.; see also U.S. Financial Reform: Municipal Securities, DUANE MORRIS (Aug. 24, 2010),
http://www.duanemorris.com/alerts/financial_reform_municipal_securities_3773.html.
131. SEC REPORT, supra note 4, at iii, 33–34.
132. See Louis D. Brandeis, What Publicity Can Do, HARPER’S WKLY., Dec. 20, 1913, at 1, available
at http://3197d6d14b5f19f2f440-5e13d29c4c016cf96cbbfd197c579b45.r81.cf1.rackcdn.com/collection/
papers/1910/1913_12_20_What_Publicity_Ca.pdf.
133. SEC REPORT, supra note 4, at 84.
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A. WHY REGULATE MUNICIPAL BONDS?
City pensioners at risk of losing their promised retirement funds constitute
the most vocal, human faces of Detroit’s bankruptcy. Their underfunded plans
were undermined by decades of poor political choices and money management,
including Mayor Kilpatrick’s $1.44 billion deal in 2005.134 Today, Detroit’s
pensioners outnumber city employees two to one, and more is spent on retired
police and fire department employees than on active workers.135
However, the futures of many more retirees are also at stake. Seventy-five
percent of municipal bonds are held by retail investors, such as mutual funds
and individuals.136 The investment accounts of millions of Americans contain
these securities, including those of many people already in retirement, who
chose the regular, guaranteed income of bonds over the higher-risk, higherreturn option of stocks. Protecting the rights of bondholders does not have to be
a political nonstarter. The debate is currently framed as pensioners vs. large
banks, Main Street vs. Wall Street.137 In light of the overwhelming individual
ownership of municipal bonds, the debate could be reframed as Detroit retirees
vs. individual American investors, in the hopes that both constituencies would
be given as much relief as possible.138
The municipal bond market is not about to fail, but stress from the Detroit
bankruptcy has exposed potential problems with blindly presuming the bonds
are safe investments. Florida’s bond finance director, Ben Watkins, explained
that general obligation bonds like those at issue in Detroit “have been the gold
standard of the municipal-bond market,” but that “[i]nvestors and analysts are
going to rethink . . . what it really means when an issuer is under financial
stress.”139 Detroit’s Emergency Manager treated general obligation bonds as
unsecured debt, which leads to lower priority and lower payouts, even though
investors had considered them secured (backed by collateral, in this case tax
revenues).140 The Wells Fargo fixed-income team warned this “plan could
134. See Bomey & Gallagher, supra note 13.
135. Id.
136. SEC REPORT, supra note 4, at v.
137. See Richard Brodsky, Detroit’s Bankruptcy, Wall Street, and Real People: Good News or Bad
News?, HUFFINGTON POST (Feb. 21, 2014, 2:08 PM), http://www.huffingtonpost.com/richard-brodsky/
detroits-bankruptcy-wall_b_4832664.html?utm_hp_ref⫽detroit-bankruptcy. See generally David Waring, The Safety of State Bonds: A Historical Perspective, LEARNBONDS (May 14, 2012), http://www.
learnbonds.com/state-bond-defaults/ (concluding that “investors should be careful to separate their
political views from actionable investment information” when considering the risk of state general
obligation bond default).
138. See Steve Schaefer, Detroit in Bankruptcy: What It Means for the Muni Bond Market, FORBES
(July 19, 2013, 1:21 PM), http://www.forbes.com/sites/steveschaefer/2013/07/19/detroit-in-bankruptcywhat-it-means-for-the-muni-bond-market/ (“‘Then it becomes Wall Street vs. Main Street’ . . . which is
a different argument than saying mom and pop put their faith in the government through what they
thought were tax-efficient, guaranteed securities.”).
139. Preston et al., supra note 37 (internal quotation marks omitted).
140. Caitlin Devitt, No Challenge to Detroit’s Eligibility from Bond Issuers, Investors, BOND BUYER
(Aug. 20, 2013, 3:42 PM), http://www.bondbuyer.com/issues/122_161/no-challenge-to-detroits-eligibilityfrom-bond-insurers-investors-1054817-1.html.
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effectively make [general obligation] bonds purely a moral obligation,”141 and
in a worst-case scenario could lead to lower ratings for bonds elsewhere.142
Undermining the safety of the $3.7 trillion municipal bond market could alter
individual savings across the country.
B. BANKRUPTCY LAWS
Chapter 9 bankruptcy allows municipalities to create a plan to pay off
creditors, and section 903 of the Bankruptcy Code requires deference to a state’s
right to decide whether to authorize its political subdivisions to avail themselves
of federal bankruptcy law.143 Bankruptcy courts are federal courts,144 but for the
federal government to control a municipality’s bankruptcy beyond administering the bankruptcy and approving or disapproving the reorganization plan
violates the states’ constitutional right to administer their internal affairs.145 In
addition, the Bankruptcy Code has priority provisions carefully balancing debtor
and creditor interests, and adopting a uniform federal solution for holders of
municipal bonds with widely varying rights risks undermining the Code’s
general priority scheme.146
State Chapter 9 authorization laws are far from consensus. Eleven states
authorize Chapter 9 filings by municipalities; twelve, including Michigan,
authorize filings only upon certain conditions. Michigan’s authorization statute
was not passed until 2012,147 showing that states are willing to change or pass
141. Jeff Cox, Detroit’s Bankruptcy Gain May Be Others’ Pain, CNBC (Mar. 11, 2014, 2:48 PM),
http://www.cnbc.com/id/101484435.
142. Carey, supra note 13.
143. See 11 U.S.C. § 903 (2012). In addition, “[t]he requirement that states explicitly authorize
access to Chapter 9 before municipalities are eligible to file gave states greater control over their
municipalities and added an extra layer of protection for state control . . . .” Jackson T. Garvey, Note,
Municipal Bankruptcy and Public Pensions: Detroit’s Eligibility for Chapter 9 Relief and Legal
Restraints on the City’s Actions as a Debtor, 89 NOTRE DAME L. REV. 2299, 2308 (2014).
144. Bankruptcy, U.S. CTS., http://www.uscourts.gov/FederalCourts/Bankruptcy.aspx (last visited
Mar. 16, 2015).
145. Seena Foster, Annotation, Eligibility for Chapter 9 Bankruptcy Relief, Applicable to Municipalities, Pursuant to 11 U.S.C.A. § 109(c), 57 A.L.R. FED. 2D 121 (2011); see also Municipality Bankruptcy,
U.S. CTS., http://www.uscourts.gov/FederalCourts/Bankruptcy/BankruptcyBasics/Chapter9.aspx (last visited Mar. 16, 2015).
146. SCARBERRY ET AL., supra note 88, at 228 (“Section 507 of the Bankruptcy Code fixes the priority
order of claims . . . . Creditors within a given class are to be treated equally, and bankruptcy courts may
not create their own rules of superpriority within a single class.” (excerpting Shapiro v. Saybrook Mfg.
Co., 963 F.2d 1490, 1495–96 (11th Cir. 1992))). Academics have discussed the optimal priority scheme
in municipal bankruptcy at length and considered how different constituencies—particularly citizens
and creditors—should be treated under the bankruptcy laws. See, e.g., Michelle Wilde Anderson, The
New Minimal Cities, 123 YALE L.J. 1118, 1122–23 (2014); Beermann, supra note 77, at 1002–03;
Clayton P. Gillette, Bondholders and Financially Stressed Municipalities, 39 FORDHAM URB. L.J. 639,
641 (2012) (describing “the effort to resolve competing claims by bondholders and residents to a
limited municipal treasury”); Hynes & Walt, supra note 95, at 660 (suggesting providing pensions with
statutory priority status); Richard C. Schragger, Citizens Versus Bondholders, 39 FORDHAM URB. L.J.
787, 789 (2012) (“In practical terms, courts should be more willing to impose losses on bondholders
than to demand that a defaulting city raise taxes or decrease services.”).
147. Garvey, supra note 143, at 2316.
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Chapter 9 authorization statutes in response to a municipality in crisis. Three
states allow only specific entities (such as irrigation districts in Oregon) to
declare bankruptcy; the rest have no clear Chapter 9 authorization.148 Rhode
Island established a high priority for bondholders, but their priority remains
unclear in other states.149
The way to effect change in this arena would be with suggestions rather than
requirements: facilitating academic and policy discussion, drafting model legislation, and encouraging state adoption of clear, consistent bankruptcy laws
protecting bondholders’ rights as creditors.
C. PROPOSED SEC DISCLOSURE REQUIREMENTS
It is more realistic to begin by reforming the SEC’s disclosure obligations for
municipal bond issuances. The SEC should (1) pass nonbinding guidance for
bond issuers encouraging disclosure of risks for bondholders in bankruptcy, and
(2) modify Rule 15c2-12 so underwriters must require bond issuers to disclose
changes in municipal bankruptcy law to investors. An SEC disclosure solution
is respectful of federalism concerns—by simply requiring disclosure of state
standards on a federal level, states remain free to set their own Chapter 9
bankruptcy authorization requirements.
1. Calls to Action
In July 2012, Democratic Commissioner Elisse B. Walter led the SEC’s
research and writing of the Report on the Municipal Securities Market required
by Dodd–Frank.150 The report includes recommendations for broadly revising
disclosure obligations and market structure. The report proposes new legislation, including laws focused on disclosure, and suggests an expanded regulatory
approach and improvements to industry best practices.151 The report enumerates
serious issues complicating municipal bond market regulation. There are approximately “one million different municipal bonds outstanding compared to fewer
than 50,000 different corporate bonds.”152 Municipal bonds are traded over the
counter; because there is no central exchange like the New York Stock Exchange providing clear pricing data for the vast number of bonds available, it is
hard for individuals to trade on their own behalf.153
148. Bankrupt Cities, Municipalities List and Map, GOVERNING, http://www.governing.com/gov-data/
municipal-cities-counties-bankruptcies-and-defaults.html (last visited Mar. 16, 2015).
149. R.I. GEN. LAWS ANN. § 45-12-1 (West 2014); see also Beermann, supra note 77, at 1002–03
(“Full payment to bondholders was apparently justified by fear of the negative impact on the ability of
Rhode Island municipalities to sell bonds in the future, referred to as the ‘contagion effect.’”);
Schragger, supra note 146, at 792–93 (discussing another academic’s view that “[b]ondholders are
more appropriate risk bearers . . . because they have been paid ex ante to assume the risk” (citing Kevin
A. Kordana, Tax Increases in Municipal Bankruptcy, 83 VA. L. REV. 1035, 1097–99 (1997))).
150. SEC REPORT, supra note 4, at i.
151. See id. at i, vii.
152. Id. at 5 (footnote omitted).
153. See id. at 19, 112–16.
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In October 2014, Republican Commissioner Daniel Gallagher also expressed
his worry about the “opacity” of the municipal bond markets and called for
“much more information [to be] made available to retail investors about how
bonds are priced and their cost to investors,” as well as increased SEC staff
overseeing the bond market.154
Because municipal securities are still subject to antifraud provisions, existing
interpretive guidance from the SEC reads, “Disclosure documents used by
municipal issuers, such as official statements, are subject to the prohibition
against false or misleading statements of material facts, including the omission
of material facts necessary to make the statements made, in light of the
circumstances in which they are made, not misleading.”155 With the growing
incidence of municipal bankruptcy, a full disclosure of the information necessary to make an offering document not misleading should include details about
the potential outcome for the purchasers in a municipal bankruptcy. I suggest
that when the SEC proposes legislation or rulemakings in connection with the
2012 report, in addition to the proposals in the report, the SEC should make two
specific bankruptcy-related changes to ensure adequate disclosure of bankruptcy
laws and risks on an initial and ongoing basis.
2. Modifying Initial Disclosure Guidance
First, the SEC should issue new interpretive guidance156 ensuring municipal
securities issuers know to disclose to the MSRB what the investor can expect
should the municipality enter into Chapter 9 bankruptcy. The guidance should
suggest including this disclosure in the Official Statement filed on EMMA in
connection with each new bond offering.157 Because of the lack of clarity
surrounding municipal bankruptcy in most states, each such Official Statement
would need to include an accurate and complete summary of (1) federal Chapter
9 law; (2) the applicable state statutory law related to Chapter 9; (3) any state
statutory law prerequisites for a Chapter 9 filing; (4) any additional state
statutory law provisions related to municipal bankruptcy; (5) judge-made precedent addressing the rights of municipal bondholders in bankruptcy in that state;
(6) how bondholders have fared in any prior bankruptcies in the jurisdiction;158
154. Pisani, supra note 10. Walter and Gallagher’s comments are reminiscent of a 1949 article by
Maxine Virtue, the former Assistant Attorney General of Michigan. She wrote about bond issuances
that “despite the lessons learned from costly periods of default, [long-range] predictions are not made,
on the debtor’s side of the transaction, with informed insight.” Maxine Virtue, The Public Use of
Private Capital: A Discussion of Problems Related to Municipal Bond Financing, 35 VA. L. REV. 285,
285 (1949) (footnote omitted).
155. Release No. 33-7049, supra note 114, at 12,750.
156. See id. In the current guidance, the SEC does not address bankruptcy outside of a brief
footnote. Id. at 12,749 n.19.
157. See SEC REPORT, supra note 4, at viii (proposing legislative authorization for additional official
statements throughout the term of the security).
158. See generally SEC REPORT, supra note 4 (discussing the lack of regulation in the current
municipal bonds market).
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and (7) an assessment of the municipality’s pension obligations under appropriate Governmental Accounting Standards Board (GASB) accounting standards,159 so bondholders can easily assess the status of another major group of
the municipality’s creditors. Once these items are written for each state, it will
not be labor-intensive to keep them updated, especially as most states have few
or no municipal bankruptcies to track.
When Detroit was at risk for bankruptcy, an Official Statement for a 2010
bond offering included a lengthy discussion of Detroit’s risk factors and Michigan’s municipal bankruptcy law.160 However, just two years earlier, when
Detroit was already struggling financially, a 2008 Official Statement for bonds
not maturing until 2014 did not include anything more than generalized warnings that bankruptcy could alter the bondholders’ rights.161 Cities not currently
considered bankruptcy risks contain nothing more than a brief mention of
bankruptcy as one of many risk factors, even when describing bonds that do not
mature for years.162 The SEC’s 2012 report mentions that market participants
contacted about the report did in fact want more information on bankruptcy to
be provided to bondholders and potential purchasers.163 However, disclosure
about bankruptcy was not specifically included in the report’s list of final
recommendations.164 I submit that because the treatment of bonds in Detroit’s
bankruptcy has exposed instabilities and uncertainties in the bond market,
municipal bankruptcy should be a primary disclosure objective.
159. Examples of details that could be included here are “annual required contributions” and
“unfunded pension liabilities.” See Gretchen Morgenson, Playing Pension Games, N.Y. TIMES, Dec. 8,
2013, at BU1, available at http://www.nytimes.com/2013/12/08/business/playing-pension-games.
html?pagewanted⫽all&_r⫽0. The GASB improved pension accounting and reporting requirements in
June 2012, which should “increase the transparency, consistency, and comparability of pension information across governments.” GOVERNMENTAL ACCT. STANDARDS BD., NEW GASB PENSION STATEMENTS TO
BRING ABOUT MAJOR IMPROVEMENTS IN FINANCIAL REPORTING 1 (2013), available at http://www.gasb.org/
cs/ContentServer?site⫽GASB&c⫽Document_C&pagename⫽GASB/Document_C/GASBDocument
Page&cid⫽1176160140567. But see Cory Eucalitto, GASB’s Ineffective Public Pension Reporting
Standards Set to Take Effect, ST. BUDGET SOLUTIONS (June 5, 2013), http://www.statebudgetsolutions.org/
publications/detail/gasbs-ineffective-public-pension-reporting-standards-set-to-take-effect (arguing that
the reporting requirements “fall short of bringing about true transparency or real change”).
160. Official Statement, City of Detroit, Mich. 22–25 (Mar. 12, 2010), available at http://emma.msrb.
org/EP404900-EP318575-EP714790.pdf.
161. Official Statement, City of Detroit, Mich. app. D-2 (May 30, 2008), available at http://emma.
msrb.org/MS271587-MS268186-MD531216.pdf (“The rights or remedies of bondholders may be
affected by bankruptcy, insolvency, fraudulent conveyance or other laws affecting creditors’ rights . . . .”).
162. See, e.g., Official Statement, City of Annapolis, Md. 4 (June 26, 2012), available at http://emma.
msrb.org/ER608815-ER472824-ER875894.pdf); Official Statement, City of Minneapolis, Minn. app.
A1 (Nov. 21, 2013), available at http://emma.msrb.org/EP775338-EP601091-EP1002480.pdf; Official
Statement, City of San Francisco, Cal. app. F-2 (Aug. 14, 2012), available at http://emma.msrb.org/EP6
81724-EP531071-EP932309.pdf. Compiling comprehensive data on bankruptcy disclosure in EMMA
documents could be enlightening, but is outside the scope of this Note.
163. See SEC REPORT, supra note 4, at 26 (noting suggestions of “disclosure about whether Chapter
9 bankruptcy is authorized by the state; what rights and remedies the investors may have in the event of
a default; what options the municipality will possess; and what options for assistance the issuer may
have in the event of financial distress”).
164. Id. at 133.
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3. Modifying the Rule for Continued Disclosure
Second, to secure ongoing disclosure of the development of bankruptcy law
or risk factors affecting a municipality, the SEC should task underwriters of
municipal bond issuances with making sure such updated information reaches
the MSRB. To achieve this, the SEC should modify Rule 15c2-12, which gives
underwriters the duty to ensure issuer compliance with a list of notice requirements, by adding the following provision as 15c2-12(b)(5)(i)(C)(15): “(15)
Material change in the municipal bankruptcy law in the jurisdiction within
which the securities are issued; and . . .” The rule modification would require
underwriters to confirm that these material changes had been disclosed to the
MSRB, and therefore to investors, within ten days of their occurrence.
The concept of materiality in the federal securities laws has already been
extensively discussed in seminal cases,165 as well as in the SEC’s guidance on
municipal bonds,166 so the well-understood and oft-used definitions and tests
have already been imported into this rule. Material changes in bankruptcy law
would include statutory changes, such as changes in statutory Chapter 9 authorization requirements (as when Michigan passed a Chapter 9 authorization law in
2012 because Detroit was in danger of needing Chapter 9 protection), as well as
judicial developments, including the filing of new municipal bankruptcy cases
in the jurisdiction and the approval of plans (as in Judge Rhodes’s order).
The combination of these two changes—issuing disclosure guidance and
modifying Rule 15c2-12—would enable initial disclosure of extensive Chapter
9 information to the MSRB and posting of the information on EMMA, where it
will be kept properly updated according to underwriters’ obligations and will be
easily available to all investors.
In a 2014 article, Professor Christine Sgarlata Chung proposed “apply[ing] a
fiduciary standard to . . . stakeholders” including “underwriters . . . [and] state
and local government officials” involved in municipal bond issuances.167 Regardless of whether Professor Chung’s suggestion is practically feasible, it is
important to first establish exactly what is expected of issuers and underwriters
in properly disclosing the risks of bankruptcy. By delineating a clear standard of
conduct through disclosure requirements for issuers and underwriters, regulators
will better be able to determine when duties are breached.
4. Price Transparency
Without disclosure mandated by the SEC, to determine where to invest,
“muni[cipal bond] investors would be forced to sort through which states have
laws and history that support the treatment of [general obligation] bonds as
165. See COX ET AL., supra note 9, at 619–93.
166. See supra note 114 and accompanying text.
167. Christine Sgarlata Chung, Government Budgets as the Hunger Games: The Brutal Competition
for State and Local Government Resources Given Municipal Securities Debt, Pension and OBEP
Obligations, and Taxpayer Needs, 33 REV. BANKING & FIN. L. 663, 767 (2014).
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secured debt.”168 The information disparity can be leveraged by institutional
investors with vast research resources. Including detailed bankruptcy information in the offering document for each bond would allow it to reach the
individual investor in a clear and accessible format, thus addressing the SEC
Commissioners’ worry about lack of price transparency in the municipal market.169 The difficulties in Detroit should inspire regulatory protections, not
increased investigatory burdens for individual investors.
Improved disclosure may well have an effect on the price paid for the
bonds—the riskier the investment, the lower the price of the bonds. Western
Asset portfolio manager Robert Amodeo said, “Detroit has the potential to be
precedent-setting . . . . Looking ahead, people understand that they should be
compensated for the potential additional risk” of municipal bankruptcy.170
Although low prices may make it difficult for certain states’ municipalities to
borrow in the short term, in the long term, they may encourage states to adopt
clearer laws for Chapter 9 proceedings.
CONCLUSION
Detroit is not alone. It is one of eight cities, towns, or counties that have filed
for Chapter 9 bankruptcy since 2010,171 and another large city may be next.172
If municipal bonds are to remain safe for individual investors, it is imperative to
implement disclosure rules so the bond market can accurately price in the rising
risk of municipal bankruptcy, and to require continued disclosure throughout the
term of the bond so all investors have access to the most up-to-date municipal
bankruptcy information when they make investment decisions.
In November 2013, Michigan issued general obligation bonds in the state’s
first municipal bond issuance since the bankruptcy.173 Disclosure reforms should
be implemented soon; it would be dangerous to leave the market opaque for
much longer.
168. Karen Pierog & Tom Hals, Detroit Bankruptcy Bond Fight a Watershed for Municipal Market,
REUTERS (Feb. 17, 2014, 9:17 AM), http://www.reuters.com/article/2014/02/17/us-usa-detroit-bankruptcybonds-idUSBREA1G0OJ20140217.
169. SEC REPORT, supra note 4, at 118–19.
170. Preston et al., supra note 37 (internal quotation marks omitted); see also Chris Christoff &
Brian Chappatta, Detroit Bankruptcy Exit Plan Threatens Munis as Pensions Favored, BLOOMBERG
(Feb. 1, 2014, 12:00 AM), http://www.bloomberg.com/news/2014-01-31/detroit-bankruptcy-exit-planfavors-pensioners-over-bondholders.html.
171. Bankrupt Cities, supra note 148. At least three filings were dismissed. Id.
172. See Will Other U.S. Cities Follow in Detroit’s Footsteps?, PBS NEWSHOUR (July 29, 2013, 12:00
AM), http://www.pbs.org/newshour/bb/nation-july-dec13-fiscalhealth_07-29/; see also Chung, supra
note 167, at 669.
173. Preston et al., supra note 37.