The bond merchants: Wall Street makes millions on municipal bonds, but guess who pays? - underwriting and political campaign funds

Common Cause Magazine, Winter, 1993 by Deborah Lutterbeck

Orange County, Fla., just outside Disney World, is a company town, dependent on the tourist industry the same way another community might be linked to an auto plant or a high-tech conglomerate. It is a largely middle-class place where people earn hourly wages and enjoy, as county officials say, "1,400 lakes, tall palms, pleasant year-round weather and endless opportunity."

Opportunities have been particularly good for Rick Fitzgerald, an investment banker who formerly served as an assistant to the county commission. Fitzgerald, who is a friend of County Chair Linda Chapin and was a key adviser in her 1990 election bid, has subsequently taken home the lion's share of the county's multimillion-dollar bond-underwriting business.

Records from the county comptroller's office show that Fitzgerald's firm was named as lead underwriter for $433 million of the $704 million bonds the county has issued since Chapin's 1990 election. As an example of how these numbers translate into profits, in this year's market a $400 million bond deal would yield about $3.4 million in gross underwriting fees, which are divided among the underwriters. The lead underwriter typically earns between 25 and 60 percent of the total proceeds.

There is nothing illegal about consistently selecting one individual or firm to handle a county's bond business. But the Orange County comptroller's office, which serves as a financial watchdog, found that the county may not always have gotten the best deal when it chose to do business with Fitzgerald.

Chapin says complaints about Fitzgerald are nothing more than envy among rival underwriters. Even so, Chapin has taken steps to change the rules of the underwriting game in Orange County to dispel any "appearance" problems.

Bigger players also fret about appearances in the municipal bond business. As pressure was mounting on Capitol Hill earlier this year to crack down on the municipal bond market, Wall Street weighed in with its own "reform" agenda. The nation's largest securities firms volunteered to stop giving money to state and local political campaigns, lest anyone think they were doing so with hopes of return favors.

What they didn't offer to give up was the negotiated noncompetitive underwriting bid - an arrangement that generally provides higher fees than the open competitive bidding process. Wall Street, with an eye on the bottom line, knows it has more to lose from changing the bond award process than from volunteering to withdraw from the campaign finance business.

Because governments do not have the resources or expertise to sell bonds directly to the public, underwriters play a crucial role. They assist governments by lining up capital for public works like highways. It is the kind of business where, "if you do [it] right you provide a useful service; if you do [it] wrong you can take the public sector for a ride," says Andrew Chapman, who has served as both an underwriter and an adviser to a New Jersey state bond issuer.

Underwriters basically make money by buying bonds from a government issuer at one price and selling them to investors at a higher price. It's a historically stable and secure form of investment that has grown increasingly popular in recent years. Now a series of isolated scandals is threatening the reputation of the bond market. Suddenly what is supposed to be a safe haven for even the most faint-hearted investor has begun to look tainted. Suspicions have arisen that underwriters have drummed up business by filling campaign chests - by trying to "buy business."

While industry officials willingly admit they have been active players in state and local political campaigns, they make no concessions that "buying business" is commonplace. Nevertheless, something clearly has gone wrong. The high-profile cases of bond abuse in New York and New Jersey drew attention to the industry's underlying problems, said U.S. Securities and Exchange Commission (SEC) Chair Arthur Levitt at an October 18 press briefing in Washington. "I know that perceptions of inappropriate political contributions can seriously threaten the integrity of the municipal securities market," he said. "I am concerned that those kinds of practices have become part of the fabric of the municipal securities business, to the extent that young people coming into the business learn practices which result in die subversion of a freely competitive business and contempt for the political process."

Cozy relationships between elected officials and investment bankers often carry a hidden cost. Sometimes the cost is lost public confidence in the political system, and sometimes it is more than that. Orange County is a case in point.

How to Succeed in Underwriting

In the seven years since he resigned as an assistant county administrator, Rick Fitzgerald has become one of the more successful financiers in Central Florida.

Earlier this year he left PaineWebber to join one of Wall Street's premier securities dealers, Goldman Sachs, as a vice president. At both firms he has dominated the local scene as lead underwriter on the county's largest bond deals. Some competitors attribute his portfolio to his hard work and personal charm. But critics say Fitzgerald's success comes primarily from close ties to the county commission and support for Chapin's campaign.