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More Than $10 Billion in UBS Puerto Rico Bonds Sold, But Investors Continue to Buy Amid Trouble

Posted: Nov 06, 2013 | Posted in:

In recent years, investing in Puerto Rican debt has been big business. More than $10 billion of UBS Puerto Rico funds have been sold to investors, and Puerto Rico has issued more than $70 billion in total debts. The commonwealth is uncertain about how to repay that debt. There is a very real concern that Puerto Rico could default on its debt, and that the unincorporated territory could be the next Detroit and declare bankruptcy.

People who invested in Puerto Rico bonds—some without awareness that they were doing so because the bonds were within mutual funds—have already faced double-digit losses in their investments. If Puerto Rico’s debt is downgraded again, these investors will experience an even greater decline in their bond value.

Yet, even amidst this difficult financial climate, and even at a time when the SEC has launched investigations into whether mutual funds adequately disclosed the grave risk of these investments, some consider the bond funds a bargain.

UBS Puerto Rico Bond Funds Could Be a Bargain, But Risks Exist

MarketWatch has referred to the investors flocking to municipal bonds issued by Puerto Rico as “bargain hunters.” Puerto Rico bonds are priced near record lows due to concerns about the territory’s ability to pay its debt and as a result of an overall weak bond market.

A financial index tracking a variety of bonds from the island paints a clear picture of the massive sell-off within this market. The fund has declined more than 17 percent in the past 12 months, which is an unusually large decline in value since the bond market is normally prized by investors for its relative stability.
This October investors began to enter the market to take advantage of the low prices. For the first time, debts from Puerto Rico received some price support and the first gain in the bond index since April occurred. The gain was 1.69 percent.

For investors who already purchased UBS Puerto Rico bonds, this gain does little to offset the tremendous losses they have suffered this year. The situation demonstrates that certain investors are willing to take the risk of buying Puerto Rican debt because they believe things will turn around.

If Puerto Rico declares bankruptcy and defaults on its debt, and/or if the debt is downgraded (creating junk bonds), these bargain-basement investors could lose their gamble. However, they also have the potential for a big win if Puerto Rico’s bond market turns around. Since this type of investment in municipal bonds receives favorable tax treatment, the risk for many investors is worth the potential loss.

There is an important difference between these “bargain hunting” investors and the initial UBS Puerto Rico bond investors. The bargain hunting investors enter the market fully informed, understanding the risk. The initial investors bought mutual funds without knowledge of the instability of the Puerto Rico’s bond market. Potentially due to the fault of their financial advisors, they now face losing their investment.

If it is determined that these investors lost money because financial advisors and brokers were less-than-forthcoming, they may be entitled to compensation.