NEW YORK (TheStreet) -- The California Public Employees' Retirement System (CalPERS) doesn't agree with a Michigan judge's decision to allow the city of Detroit to proceed in with it Chapter 9 bankruptcy, the largest in U.S. history.
On Tuesday, Judge Steven Rhodes of the U.S. Bankruptcy Court for the Eastern District of Michigan ruled Detroit was eligible for Chapter 9 bankruptcy protection. The decision moves forward Detroit's July bankruptcy petition and undercuts efforts by the Detroit's pension and retirement system to keep it out of Chapter 9. Should the ruling stand, it will set a precedent that could work against public employee pension systems faced with similar bankruptcy proceedings in other locations.
CalPERS said in a Tuesday statement that Judge Rhodes didn't correctly recognize the three-way relationship between public agencies, their employees and their retirement systems. The pension fund, one of the largest in the U.S., also said it continues to believe its members' rights are protected by the California constitution.
"The Detroit court failed to recognize the difference between a two party contract and the unique nature of a state public employee retirement system, which creates a three-way relationship among a public agency, its employees and the retirement system. In California, our members' vested rights to their pensions are protected by the California constitution, statutes and case law," CalPERS said.
"Unlike Detroit, CalPERS is not a city pension plan. CalPERS is an arm of the state and was formed to carry out the state's policy regarding public employees. The Bankruptcy Code is clear that a federal bankruptcy court may not interfere in the relationship between a state and its municipalities. The ruling in Detroit is not applicable to state public employee pension systems like CalPERS," the fund added.
CalPERS also called the ruling "short sighted." Others likely agree.
Detroit's pension funds sued the city moments after its July 17 bankruptcy petition, arguing the filing would violate Michigan's constitution if it aimed to impair pension payments. Detroit's emergency manager Kevyn D. Orr and Michigan's Governor Rick Snyder maintained their Chapter 9 case a day later.
After the city relented on Tuesday with its bankruptcy petition on Tuesday, Detroit's pensions said they would challenge Judge Rhodes' confirmation of the city's bankruptcy petition.
Michigan Council 25 of the American Federation of State, County and Municipal Employees filed a notice that it would appeal the decision on Tuesday, as did The General Retirement System of the City of Detroit and the Police and Fire Retirement System of the City of Detroit.
"We're disappointed; we think it's devastating for the retirees," AFSCME counsel Sharon Levine said of the judge's decision. "Unlike in a private company, there is no Pension Benefit Guaranty to protect the retirees. So our retirees, who on average earn $19,000 per year and who run the risk of losing a substantial amount of their pensions, have no safety net," TheDeal's Kelsey Butler reported.
Still, some watchers of participants in the municipal bond market believe Judge Rhodes' decision augurs well for investors.
"The real takeaway from Judge Rhodes' ruling, we believe, is that pensions can no longer count on getting 100 cents on the dollar in every municipal bankruptcy due to their recognized super-senior status as they have in the past," Mark Palmer, a BTIG analyst wrote in a client note after the ruling.
"Now, they may be subject to cuts or to being treated as unsecured creditors in the same claim pool as the bond insurers," he added, in a research report that cited improved recoveries for municipal bond insurers MBIA (MBI) - Get MBIA Inc. Report
--Written by Antoine Gara in New York