prior decade . These policy changes had a profound effect on the market for fixed income securities . US government debt issuance was squeezing investment grade corporate debt out of the market . This combination of hyperinflation and government competition for investor dollars led to unprecedented high interest rates . Double-digit-coupon bonds , for both government and investment-grade corporate debt , became the norm .
Analysts ’ Expanded Role
By the mid-1970s , corporate bond research on Wall Street had evolved into three distinct but interrelated areas : Credit , Indenture and Quantitative .
1 . Credit Research The collapse of corporate credit quality during the 1970s was the underlying impetus leading to an unprecedented demand for better and more predictive corporate bond credit rating research . The staid credit quality environment of the post-war years had ended . The utilization of basic corporate ratio analysis was not answering the call for ascertaining credit quality direction . The “ new ” community of credit analysts were now digging deeper into the corporate financial statements . Some Generally Accepted Accounting Principles ( GAAP ) financial reporting concepts , such as Construction Work in Progress ( CWIP ), came into question . Net Income now had to reflect “ real ” net income , not GAAP net income . 1
2 . Corporate Bond Indenture ( Covenant ) Research During the 1970s , insurance companies were large active buyers of high-coupon electric utility bonds . They used them to collateralize and cash fund their longduration annuity contracts which , in turn , they sold to investors . This arrangement exposed the insurers to the risk that the issuer would escape the burden of extremely costly debt through a surprise early redemption of the underlying bond collateral . Such gambits , exploiting previously obscure provisions in the bonds ’ indentures , were highly costly to the issuer of the annuity . The risk of such events set the stage for an unprecedented demand for in-depth bond indenture research and analysis as a natural extension of the bond credit analyst ’ s function .
The 1970s : A Turbulent Decade
The Penn Central Debacle : After declaring bankruptcy in June 1970 , the Penn Central Corporation was reorganized under Section 77 of the Bankruptcy Act of 1933 , which had been written specifically for the railroads . To the surprise and dismay of bond holders , the corporation would not be liquidated . Its assets would not be sold off to satisfy creditor claims , as might be the case under ordinary bankruptcies . The loan indentures on its equipment bonds would be suspended . The line would continue to operate under the direction of the courts , which would function as a “ receiver ” in an effort to maintain services . Nevertheless , the net effect throughout the already fragile railroad industry forced many of the other northeastern railroads into insolvency — among them the Erie Lackawanna , Boston and Maine , the Central Railroad of New Jersey , the Reading Company and the Lehigh Valley . This led to President Richard Nixon creating AMTRAK .
Collapse of the Bretton Woods Agreement : On August 15 , 1971 , President Nixon terminated convertibility of the US dollar to gold , effectively bringing the Bretton Woods system to an end . This action , initiated unilaterally by the President under an executive order without consultation with either the International Monetary Fund ( IMF ) or the State Department , devalued the dollar 10 %, stoked inflation and shocked world markets . Major world economies , Japan and the EEC followed suit by floating their exchange rates .
Stock Market Crash of 1973-74 : The OPEC oil embargo , combined with the collapse of the Bretton Woods Agreement and the well-publicized cash flow problems of the electric utility industry , contributed to the stock market crash of 1973 – 74 .
Franklin National Bank Failure : Corporate failures spread from the railroads to financial institutions and municipal government . On October 8 , 1974 , the Franklin National Bank failed . At the time , it was the largest bank failure in US history .
NYC Bankruptcy : On October 17 , 1975 , Weil , Gotshal & Manges filed the papers for New York City ’ s bankruptcy . The city ’ s teachers ’ union bailed out the city with a purchase of $ 150 million of New York City bonds . The Municipal Assistance Corporation followed with its MAC bonds .
Duke Power Company : The Duke Power Company , a highly regarded AAA rated credit , required an unprecedented 12 % coupon in order to sell its 1977 bond deal , a clear indication that the bond market was in trouble . Eventually , electric utility newissue bond yields topped out at 18 % ( Philadelphia Electric ) before declining back to single digits .
First Multifund Corporation : In 1978 , First Multifund Corporation become the first money market fund to “ break the buck ” and reset at $. 94 on the dollar .
Airline Bankruptcies : Government deregulation of the airline industry added to investor uncertainty and led to mergers , employee layoffs and , eventually , bankruptcy filings by the major carriers .
From 1975 – 77 , Paine , Webber , Jackson & Curtis , Inc ’ s . bond research group pioneered bond indenture research . A heretofore dormant covenant requirement embedded in electric and gas utility company bond indentures , known as the Maintenance & Replacement ( M & R ) provision , along with the Funnel Sinking Fund were “ re-discovered ” and thoroughly researched .
The M & R provision , embedded in the original electric utility mortgage indentures written in the mid-1930s , was originally intended to assure bond holders
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