NASD Bond Swap Disaster Coming?

The Morning Call has a feature article on the Bethlehem School District and its use of swaps (read it here). In the article it notes Nazareth has conducted swaps as well.

In the Lehigh Valley region, at least seven school districts -- Allentown, Parkland, Easton, Bangor, Quakertown, Souderton and Nazareth -- took on these risky loans.

A swap is described as follows in the article:

In 2003, Bear suggested a bond swap, which the state Legislature had made legal that year. The swap is a risky, unconventional transaction that involves a partnership with the banking industry.

The district would swap the construction bonds' fixed-rate interest, which never changes, for investment banks' adjustable weekly rates, which fluctuate. That way, the district could pay less in interest over the life of the bonds because short-term rates historically perform better than fixed rates of about 5 percent or higher.

And that the bond swaps, conducted by Bethlehem more than anyone else, has put the school in financial risk.

But now the debt from those projects threatens to crush taxpayers and diminish educational services because the swaps have gone sour in the mortgage crisis.

What is not known is to what extent Nazareth has engaged and how much risk/trouble we are now in. The article indicates that rising short-term rates have cost Bethlehem an extra $1M per month.

For a District that has borrowed nearly up to its debt limit, the impact on education and taxpayers if they have engaged these loans to a significant extent could be disastrous.

Let's hope they have not.