Albany officials were delighted with the results of Wednesday’s bond sale to pay for the planned new police headquarters and downtown fire station replacement. The high demand — 10 bidders — showed the strength of the city’s financial situation. As for me, I was a little puzzled, which once again shows that I’m mystified by the finer points of high finance.
Voters approved a bond issue of $18 million. There were 10 bidders to buy bonds, and one of them, Mersirow Financial Inc., was awarded the sale based on a “true interest cost” of 3.115187 percent. To pay off the bonds over 20 years, property taxpayers in Albany will be charged an annual 29 cents per thousand dollars of assessed value, just as advertised before the May 19 election in which the bonds were approved. Total interest due over the 20 years will be $7,972,636, which the city says is $459,275 less than estimated before. So far so good.
Now here’s what puzzles me. The city reports: “The bonds sold at a premium, meaning the buyers were willing to pay more in order to create a higher income stream from interest payments. The net proceeds, after bond origination costs, are $18,594,785.”
Does this not sound as though the city is borrowing nearly $600,000 more than the voters authorized? No, says Albany Finance Director Stewart Taylor. “The actual debt is $18,000,000,” he told me in an email. “The premium is an amount above the debt that the market is willing to pay to receive a little higher interest payout.”
Kind man that he is, Taylor tried to educate me a bit more: “As you are aware, rates in most markets are very low right now. A big portion of the buyers of municipal debt are individuals that want income from their investments. Since interest rates don’t generate enough income, the buyers are willing to buy the bonds at a premium. The buyers are effectively pre-paying amounts that they will receive back through interest payments on the bonds. The competitive nature of the market drives the premium.”
So the bond buyers are lending the city a little more money than the face of the bonds, hoping to earn more money from interest. The city pays the interest, along with the principal. So if the bond buyers had not offered a premium, the city would pay less interest. No? Maybe enough less to lower the tax rate a penny or so? That’s surely not how it works. But as I say, high finance of this sort has me scratching me head. (hh)