When state Treasurer Andrew Sidamon-Eristoff briefed lawmakers on New Jersey's ailing budget in April, he brought good news. His office had just raised a welcome $92 million thanks to a deal that bailed out two bond issues headed for default.
New Jersey had no legal obligation to make good on the debts, which were backed by payments from a national settlement with the nation's leading tobacco companies. But Sidamon-Eristoff said the bailout was a "no brainer" because it protected the state's reputation with lenders and raised badly needed cash.
An examination of this transaction by ProPublica shows that the argument for the deal was far from clear cut. As it bailed out bond investors, New Jersey traded away an estimated $400 million in future tobacco revenues that would have flowed into state coffers starting in 2017.
One undeniable winner, however, was Claren Road Asset Management, a New York hedge fund that walked off with more than $100 million in profits from its investment in the debt, according to interviews with deal participants, an analysis of the bonds' trading data and previously undisclosed public records.
Records and interviews show that Claren Road bought up the bonds when they were heavily discounted and sold them after the bailout substantially raised their value.
A spokesman for Washington D.C.-based Carlyle Group, the majority owner of Claren Road's management company, declined to comment on the profit estimate.
How could a hedge fund make more money from the bailed-out debt than New Jersey's taxpayers?
It's eminently possible in the tangled world of tobacco bonds, where dozens of states and municipalities borrowed heavily against future proceeds from the landmark 1998 tobacco settlement.
The money was intended to reimburse state governments for the past and future costs of smoking. In exchange for immediate cash, governments sold bonds that entitled investors to collect some or all of their annual settlement payments, often promising huge lump-sum payouts decades from the date of issue.