While General Motors bondholders are still angry over what they, and many others feel is unfair treatment, those holding other bonds are beginning to think about how they are going to price in what is being labeled as a new level of risk - which could be called the "shared sacrifice" risk (see Bloomberg article). As mentioned in the article, "Bondholders are told to give up legal rights, and cash, as part of a government-mandated tradeoff that favors a politically connected special-interest group." This has some worried that such an undermining of long-standing legal agreements could extend beyond the corporate world, where a new precedent seems to have been set. Those holding equity should also be worried, as raising capital through debt offerings will get more expensive. As mentioned recently by David Einhorn, it is a “quixotic idea ... that creditor recoveries in troubled situations can be determined by an arbitrary sense of shared sacrifice rather than legal agreements and long- established prior practice." Could Treasuries and Municipal debt be next? Would problems with covering local payrolls for city employees such as firefighters and police cause political leaders to ask municipal bondholders to share in the sacrifice? Outcomes such as these, which seemed unlikely to bond holders just 12 months ago, have some considering various new risk factors when pricing bonds. Now the size of the workforce, the level of unionization, and political importance (swing state, home district of a powerful chairperson) are all being consider with greater interest. And you though determining credit risk was hard before. Just wait until a new CDS-like derivative starts to be offered to help manage such risk.

An article in The Bond Buyer discusses how investment and commercial banks that originate municipal bonds are having a difficult time determining how to put their risk capital to work. Many are pricing securities to sell, thereby keeping less inventory and less securities on their books. Firms in general are reluctant to put capital at risk, and therefore are beginning to leave the municipal origination business. With approximately half of all muni bonds on a typical balance sheet insured by the bond insurers (who have their own problems), companies are feeling the effects of the on-going credit issues as many of these bonds have fallen 30% or more. Given the desire to unload positions, electronic trading platforms that sell munis are playing a larger role, with electronic trading up 40% over the last year.

Less origination by the large firms is also having an effect on trading operations. Traditionally, new underwritten securities give traders something to sell, while also providing products to clients serviced by the wealth management groups. UBS, which recently exited the origination business, is transferring some of its municipal securities unit back to the wealth management business, effectively shifting this business to a new profit center. By using an electronic platform for trading, UBS feels it will still give clients "... access to a broad supply of both new issues and secondary securities." For UBS and others, it is unclear who will be providing the new securities. Once possible source are regional firms that are already looking to fill the void generated by larger firms exiting the origination business. The shift back to regionals is already taking place as displaced brokers from the larger firms are already making the move.

Regionals do have the advantage of understanding the local environment better, be it economic, legal, regulatory, or political issues. Whether the shift from more to less capitalized firms is good for the credit markets is yet to be seen. There is no guarantee that smaller firms will also not get into trouble in the future by putting too much capital at risk. Many regionals would not be classified as "too big to fail," and will therefore be more difficult to justify bailing out unless a larger scale "saving-and-loan type" of contagion presents itself. The ramifications of this would certainly be further reaching and worse overall than bailing out another Bear Stearns.