Despite the spectacular investment collapses that wiped out the accounts of communities reaching from California to Maryland, many local government treasurers say there is little reason for taxpayers to worry about how their communities' accounts are handled.
Although there are no state laws stopping them from following many of the risky investment strategies that could cost Orange County, Calif., more than $2 billion, Maryland's investment managers say they don't endanger taxpayers' money that way.
Until Orange County's $7.5 billion investment fund collapsed earlier this month, its now-resigned treasurer, Robert L. Citron, had used a combination of borrowed money and complicated investments called derivatives to earn returns averaging 10 percent a year for more than a decade.
Derivatives, originally designed to provide investors a hedge against changes in interest rates, foreign currency exchange rates or the like, are repackaged investments that "derive" their value from more typical investments such as mortgages or commodity contracts.
Maryland treasurers say they are content with putting public funds in safe, if unexciting, investments that return between 3 percent and 6 percent a year. The speculative derivative investments that cost Charles County about $7 million this summer were a fluke, they say.
In Baltimore, for instance, Louise Green, who runs the city's Bureau of Treasury Management, is satisfied with a 5.5 percent return on a $540 million investment portfolio.
"The city policy is really safety first," she said. "There are no bonuses" for getting an above average return. "And you can get fired" for losing money, she said.
The city has more oversight than many subdivisions: A finance committee that includes accountants, investment specialists and city officials meets monthly to review the investments. And the panel's investment approach prevents pursuit of the risky strategy that Orange County followed.
One of the reasons Orange County got into financial trouble is that Mr. Citron took out six-month loans to invest in derivatives and bonds that wouldn't reach maturity for as long as 30 years, she said. When interest rates rose, the value of the bonds fell, prompting his lenders to demand more collateral. At the same time, it became more expensive for him to renew his six-month loans.
Baltimore and many other Maryland communities limit themselves to short-term investments, Ms. Green said. In fact, Baltimore's policy limits Ms. Green to placing all but $100 million of the city's money in investments that will mature within 12 months, she said.
State law does restrict government treasurers to investing only in what used to be considered blue-chip investments such as federally backed securities. But it doesn't stop the treasurers from investing in "plain vanilla" derivatives such as interest rate swaps or U.S. Treasury "strips," so called because brokerage houses buy Treasury notes, then "strip" apart the interest and principal payments and sell each part to different investors.
The city, for instance, has used swaps to hedge against changes in interest rates. It has made side agreements with investment houses to "swap" variable interest rates it pays on some bonds for fixed payments, she said.
'Strips' to pay lottery winners
Several treasurers said they like principal-only strips because they don't have to bother with quarterly or yearly interest payments. They buy "strips" at a discount and get a government-guaranteed lump sum at the bill's maturity.
State Treasurer Lucille Maurer, for example, buys principal-only strips to make sure lottery winners get their annual payments. To pay last week's winner, for example, the state bought 19 strips promising $50,000 payments from 1995 through 2014. The strip for next year cost $46,959, and the strip that will pay off in 2014 cost $11,032.50, according to state investment officer Don Walton.
State law would also allow even potentially riskier investments, since many federal agencies, such as the Federal National Mortgage Association (Fannie Mae), now market complex derivatives that rise and fall with changes in interest rates.
The treasurers say that those loopholes don't matter, however, because they have policies against taking big risks.
In Anne Arundel County, for example, assistant financial officer Alfred Warfield has turned away salesmen who were offering high-yield derivatives for the county's $100 million operating fund.
Mr. Warfield says he asks the salesmen "what my risk is" for the promised profit. "I don't think there are any free rides," he said.
Baltimore County Director of Finance James Gibson, who earns a little more than 5 percent on his county's $300 million operating fund, said he and other treasurers view yield as the least important of three deciding factors.
"Rate of return is a consideration but it's third," he said. "First safety, then liquidity. The idea behind rate of return is not to be a super hero. Sooner or later you'll need those funds to meet payroll."
Howard County's investment manager, Earle Byer, who manages accounts with an average of $170 million in them, said he and other government managers aren't making news because "we're so conservative."
Unlike Orange County, "We don't borrow to invest or to pay operating expenses," he said. As a result, Howard County earned a little over 3 percent on its funds last year, and will earn a little more than 5 percent on its funds this year.
Harford County Treasurer James M. Jewell, who manages the $140 million in that county's operating accounts, said he gets together with other treasurers regularly to discuss the best way to invest the public's money, and he doesn't believe Maryland will see other debacles like Charles County's.
"Charles County's situation was unique. You had an elected treasurer who reported to no one" but the voters. "In most counties we report to the county commissioners," who can check up on the investments, he said.
Increasing oversight
Some state legislators are moving to increase that oversight.
A proposal that will go to the legislature next month calls for all government bodies managing more than $1 million to provide quarterly reports on their investments. While it wouldn't prevent treasurers from investing in some derivatives, it would ban borrowing for investment purposes. And the bill would limit government fund managers to top-rated short-term investments, to prevent mismatches like Orange County's.
While the proposal, which was drafted in response to Charles County's financial troubles, faced opposition from communities initially, backers now say they think the bill has a good chance.
"Before Orange County, many communities were opposed," said Philip Sayre, a staffer for the Joint Committee on the Management of Public Funds, which drafted the proposed bill. "But right now, they will be hard put to oppose it."