Calling All Issuers: The Market for Debt Monitoring

Almost 95% of long-term municipal bonds have callable features, and despite low interest rates, we find that a substantial fraction of local governments exercise these options with significant delays. Using data from 2001 to 2018, we estimate that U.S. municipals lost over $31 billion from delayed refinancing, whereas U.S. corporates lost only a comparative $1.4 billion. We present evidence that these delays are related to gaps in localized debt monitoring of issuers by their underwriters. For instance, when a bond’s call unlocks in the fiscal year-end calendar month of a local government – a particularly busy time for finance departments – the decision to call is delayed significantly longer. A significantly longer delay also occurs when a municipality is faced with an abnormally large number of calls all coming due at once. These effects are magnified in smaller municipalities, staffed with smaller finance departments. Moreover the market for underwriters (outside monitors), is a dispersed one exhibiting substantial variation in local specialization. While the municipality-underwriter relationship is quite sticky over time - with 87% of a municipality’s bonds being issued with the same underwriter over our sample period – it is the locally specialized underwriters who are in particular associated with the least amount of delays. This positive local specialization impact is accentuated especially for the smallest issuers.