Reso 1282-04/2007RESOLUTION NO. 1282
A RESOLUTION OF THE BOARD OF DIRECTORS OF THE
VALLECITOS WATER DISTRICT APPROVING THE
STATEMENT OF SWAP POLICY
WHEREAS, the Board of Directors shall approve and review at least annually the
Statement of Swap Policy; and
WHERAS, the Statement of Swap Policy of the Vallecitos Water District (District)
is as follows:
~1 -INTRODUCTION
The purpose of this Interest Rate Swap Policy {Policy} of the District is to
establish guidelines for the use and management of all interest rate management
agreements, including, but not limited to, interest rate swaps, swaptions, caps, collars
and floors (collectively "Swaps" or "Agreements") incurred in connection with the
issuance of new bonds, notes and other obligations (collectively, the "Bonds"), or to
accompany Bonds already issued.
This Policy sets forth the manner of execution of swaps, provides far security and
payment provisions, risk considerations and certain other relevant provisions in the
context of being responsive to the 2003 Recommended Practices of the Government
Finance Officers Association (GFOA) regarding the contents of an interest rate swap
policy. The failure by the District to comply with any provision of this Policy shall not
invalidate or impair any Agreement.
~2 -AUTHORITY
The District is authorized to issue Bonds and to enter into Swaps from time to
time to better manage assets and liabilities and take advantage of market conditions to
lower overall costs and reduce interest rate risk.
The District has issued this Policy to provide guidance as to how the District
intends to use and manage Swaps. While it is the intention of the District to adhere to
this Policy in applicable circumstances, the District recognizes that changes in the
capital markets and other unforeseen circumstances may from time to time produce
situations that are not covered by the Policy which will require modifications or
exceptions to achieve policy goals.
The General Manager and his/her authorized designee(s) (Authorized
Representative) are the designated administrators of this Policy. The Board of Directors
of the District {Board) shall have "oversight" on the approval of each Agreement.
However, the Authorized Representative, subject to Board approval, shall have the
Resolution No. 1282
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authority to enter into each Swap. Each Agreement shall be structured by staff and
members of the financing team. The Authorized Representative shall have the day-to-
day responsibility for implementing, and managing the Agreements.
The District shall be authorized to enter into Swaps only with qualified
counterparties (each a "Counterparty"). Counterparties shall be selected pursuant to
the criteria set forth in this Policy.
This Policy shall be reviewed on an annual basis by the Authorized
Representative. Any recommended changes shall be presented to the Board for their
consideration.
3 -PURPOSE
The issuance of Bonds involves a variety of interest payment obligations and
risks that a variety of financial instruments are available to reduce, offset, or hedge. The
structure of the District's debt is often designed to manage the assets and liabilities on
its balance sheet. It is the policy of the District to also consider the use of Swaps and
other financial instruments to better manage its assets and liabilities. The District may
execute a Swap if the transaction can be expected to result in one or more of the
following or any similar type of benefit:
^ Reduce exposure to changes in interest rates on a particular financial transaction
or in the context of the management of interest rate risk derived from the
District's overall asset/liability balance.
^ Result in a lower net expected cost of borrowing with respect to Bonds.
^ Manage variable interest rate exposure consistent with prudent debt practices.
^ Manage exposure to changing market conditions in advance of anticipated
issuance of Bonds (through the use of anticipatory hedging instruments).
^ Achieve more flexibility in meeting overall financial objectives that cannot be
achieved in conventional markets. For example, entering into a swaption with an
upfront payment.
^ Provide customized cash flows to match required payment obligations or revenue
projections.
The District will not use Agreements that:
^ Are speculative or create extraordinary leverage;
^ Lack adequate liquidity to terminate without incurring a significant bid/ask spread;
^ Provide insufficient price transparency to allow reasonable valuation;
^ Provide exposure to currency risk, sovereignty risk, commodity risk or the use of
credit derivatives -unless directly linked to the District's or the Counterparty's
credit.
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§4 -ASPECTS OF RISK EXPOSURE ASSOCIATED WITH SWAPS
Before entering into a Swap, the District shall evaluate all the risks inherent in the
Agreement. These risks to be evaluated should include basis risk, yield curvelmaturity
mismatch, tax risk, Counterparty risk, termination risk, rollover risk, liquidity risk and
credit risk.
The mismatch between actual variable The District will review and
rate debt service and variable rate consider based on the
Basis risk indices used to determine Swap historical trading differentials
payments. Defines the risk that the between the indices relevant
normal relationship between indices or to the Swap agreement.
prices might than e.
This type of position is typically a The District will evaluate
deliberate arbitrage play or to take historical trading relationships
Yield Curve 1
advantage of the shape of the yield ,
and make sure to have
Maturity curve. The risk created when swap adequate reserves or a
Mismatch payments are based on indices that lie hedging mechanism to offset
along different parts of the yield curve unexpected movements.
(e.g. 7-day rates vs. 30-year rates)
The District will review the tax
events in proposed
Tax risk The risk created by potential tax events Agreements, and will evaluate
that could affect Swap payments. the impact of potential
changes in tax law on LIBOR
indexed Swa s.
The District will monitor
Counterparty The failure of the Counterparty to make exposure levels, ratings
risk required payments. thresholds, and
collateralization requirements.
The District will compute its
Termination The need to terminate the Agreement termination exposure for all
risk in a market that dictates a termination existing and proposed Swaps
payment by the issuer. at market value and under a
worst-case scenario.
The mismatch of the maturity of the The District will determine its
Rollover /
Swap and the maturity of the capacity to issue variable rate
Mismatch risk
underlying Bonds. bonds that may be outstanding
after the maturit of the Swap.
The District will evaluate the
Liquidity risk The inability to continue or renew a expected availability of liquidity
liquidity facility. support for swapped and un-
hedged variable rate debt.
The occurrence of an event modifying The District will monitor the
Credit risk the credit rating of the Issuer or its ratings of its Counterparties
Counter art . and uarantors.
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Page 4
Risk exposure should not be measured solely in terms of notional amount, but
rather how changes in interest rates would affect the District's exposure on all of its
Swaps (as measured bymark-to-market and termination risk exposure).
The mark-to-market and termination value of the entire swap portfolio should be
measured at least annually by an independent third party. In addition, the District
should measure the termination risk for the respective Counterparty each time it enters
into a new Agreement.
Termination Value Risk Limit
The aggregate termination payment risk for all existing and projected Swaps
shall equal that amount that would be paid by an individual Counterparty based on the
reasonably expected termination payment of the proposed Counterparty for the existing
swaps and the proposed swap. The method of such analysis may provide aworst-case
termination value, using a methodology such as a (Value At Risk) VAR Analysis, or a
parallel yield curve sensitivity analysis PV(01) method.
Maximum Portfolio Termination Value
The District shall measure the expected termination payment for all
Counterparties, collectively, at the Maximum Portfolio Termination Value. The District's
goal is to limit the Maximum Portfolio Termination Value to an amount equal to
approximately 30% of the District's Available Reserves. The District should not enter
into additional agreements (except to unwind or offset any existing agreements}, if the
Maximum Portfolio Termination Value exceeds 50% of the District's Available Reserves.
Maximum Counterparty Termination Value
The District shall endeavor to diversify its exposure to Counterparties. To that
end, before entering into an Agreement, it should determine its exposure to the relevant
Counterparty and determine how the proposed Agreement would affect the District's
additional risk to termination. Maximum Counterparty Termination Exposure refers to
the aggregate mark-to-market exposure to a counterparty net of the mark-to-market
value of any collateral pledged to the District by such counterparty. The District's goal is
to limit its Maximum Counterparty Termination Exposure attributable to a single swap
counterparty, based on a three tier structure. The District shall establish a minimum
termination value to one counterparty equal to 20% of the District's Available Reserves.
The District shall not seek to diversify counterparties if its Maximum Portfolio
Termination Value is below this level. The District shall seek to diversify its counterparty
termination exposure, once this minimum value has been met, as set forth in the table
below. The District shall limit its aggregate exposure to all counterparties, or the
Maximum Portfolio Termination Value, equal to 50% of the District's Available
Reserves.
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Credit Rating Maximum Counterparty Termination
Exposure
AAA Equal to 75% of the District's
Maximum Portfolio Termination Value
AA Category Equal to 65% of the District's
Maximum Portfolio Termination Value
*The table above provides general exposure guidelines with respect to whether the District
should enter into an additional agreement with an existing Counterparty. The District may make
exceptions to the guidelines at any time to the extent that the execution of a Swap achieves one
or more of the outlined benefits in this Policy or provides other benefits to the District. These
limits shall only apply as of the time a Swap or related transaction, such as a cap, collar, etc. is
entered into, and thus may be exceeded during the term of a Swap or Swaps with the same
Counterparty. Additional limits may be established for each Counterparty as well as the relative
level of risk associated with each existing and projected Swap.
Case-by-Case Analysis
The District should also take into account the District's financial position and
overall asset/liability management strategy when evaluating its termination exposure for
each transaction. The Authorized Representative shall determine the appropriate term
for a Swap on a case-by-case basis. The slope of the swap curve, the marginal change
in swap rates from year to year along the swap curve, and the impact that the term of
the swap has on the overall exposure of the District in connection with its Bonds shall
be considered in determining the appropriate term of any Swap. In connection with the
issuance of Bonds, the term of a Swap shall not extend beyond the final maturity date of
the applicable issue of Bonds, or in the case of a refunding transaction, beyond the final
maturity date of the refunding Bonds. The total net notional amount of all Swaps related
to an issue of Bonds should not exceed the amount of the related outstanding Bonds.
For purposes of calculating the net notional amount, credit shall be given to any Swaps
that offset for a specific bond transaction.
$5 -LONG-TERM IMPLICATIONS
In evaluating a particular transaction involving the use of swaps, the District shall
review long-term implications associated with entering into each agreement, including
casts of borrowing, historical interest rate trends, variable rate capacity, credit
enhancement capacity, liquidity capacity, opportunities to refund related debt obligations
and other similar considerations.
Impact of Use of Liquidity
The District shall consider the impact of any variable rate bonds issued in
combination with a Swap on the availability and cost of liquidity support.
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Call Option Value Considerations
When considering the relative advantage of variable rate bonds issued in
combination with a Swap versus fixed rate Bonds, the District will take into
consideration the value of any call option on fixed rate Bonds. When comparing
potential cast savings by utilizing a swap, the District should take into consideration that
a synthetic fixed-rate swap does not usually have an optional call provision; and
therefore, should evaluate the potential impact on future cost savings and flexibility.
Qualified Hedges
The District understands that, {1} if payments on and receipts from the
Agreement are to be taken into account in computing the yield on the related Bonds, the
Agreement must meet the requirements fora "qualified hedge" under federal tax law
{sometimes referred to as an "integrated" Swap}; and (2} if one of the goals of entering
into the Agreement is to convert variable yield bonds into fixed yield bonds (sometimes
referred to as a "super integrated swap"), then certain additional requirements must be
met. In both of these situations, the terms of the Agreement and the process for
entering into the Agreement must be reviewed and approved in advance by tax counsel.
~6 -QUALIFIED SWAP COUNTERPARTIES
Unless approved by the Board, the District will work with qualified Swap
Caunterparties that have a general credit rating of: {i} at least "Aa3" or "AA-" by two of
the nationally recognized rating agencies and not rated lower than "Aa3" or "AA-" by any
nationally recognized rating agency, or (ii) at least "A1" or "A+" by two of the nationally
recognized rating agencies and has a continuing "AAA" subsidiary as rated by at least
two nationally recognized credit rating agency. The nationally recognized rating
agencies are Moody's Investors Services, Inc., Standard and Poor's Rating Services,
and Fitch Ratings.
Swap Counterparties must have a demonstrated record of successfully executing
Swap agreements as well as minimum capitalization of at least $500 million.
Swap counterparties should serve as principal on each transaction, not as
"agent" in order to assure most efficient pricing and direct responsibility.
In addition to the rating criteria specified herein, the District will seek additional
credit enhancement and safeguards in the form of:
i. Contingent credit support or enhancement;
ii. Collateral consistent with the policies contained herein;
iii. Ratings downgrade triggers;
iv. Guaranty of parent, if any.
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~7 -FORM OF SWAP AGREEMENTS
It is the District's intention to have a form of Swap Agreement to be used in all
Swap Agreements, modified as necessary to meet the needs of a particular transaction.
The form of the Agreement executed by the District shall contain terms and
conditions as set forth in the International Swap and Derivatives Association, Inc.
{"ISDA") Master Agreement, including any schedules, and confirmations. All
Agreements shall be subject to the approval of the Authorized Representative. The
Agreements shall include payment, term, security, collateral, default, remedy,
termination, and other terms, conditions and provisions as the Authorized
Representative deems necessary or desirable.
The District may use legal counsel and/or outside professional advisors to assist
in preparation of the swap documents.
~8 -TERMINATION PROVISIONS
The District shall consider including in all Agreements provisions granting the
District the right to optionally terminate an Agreement at any time over the term of the
Agreement. Any termination of an Agreement shall be made by the Authorized
Representative.
A termination event is deemed to occur should the Swap Counterparty (or its
credit support provider) fail to maintain the ratings below and the Swap Counterparty
has not delivered any collateral as required under the Credit Support Annex with the
District:
1. Credit Rating of at least "Baa1"from Moody's; or
2. Credit Rating of at least "BBB+" from S&P; ar,
3. Credit Rating of at least "BBB+" from Fitch
4. An equivalent rating determined by a nationally recognized ratings service
acceptable to both parties.
Furthermore, an additional termination event is deemed to occur should the
Swap Counterparty {or its credit support providers) have one or more outstanding
issues of rated unsecured, un-enhanced senior debt and none of such issues has a
rating of at least (i) Baa2 or higher as determined by Moody's Investors Service, Inc., or
(ii) BBB or higher as determined by Standard & Poor's Ratings Services, a Division of
The McGraw-Hill Companies, Inc. or (iii) an equivalent investment grade rating
determined by anationally-recognized rating service acceptable to both parties.
A termination payment to or from the District may be required in the event of
termination of an Agreement due to a default or a decrease in credit rating of either the
District or the Swap Counterparty.
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It is the intent of the District to avoid making a termination payment out of
available District funds to a Counterparty that does not meet its contractual obligations.
Prior to making any such termination payment, the Authorized Representative shall
evaluate whether it is financially advantageous for the District to obtain a replacement
Counterparty to avoid making such termination payment or finance the termination
payment through along-term financing product.
For payments on early termination and optional termination, Market Quotation
and the Second Method, as defined in the 1992 Form of the ISDA will apply.
§9 -SECURITY AND SOURCE OF REPAYMENT
While the District has a preference to subordinate swap payments to debt service
payments, the District may use the same security and source of repayment (pari pasu)
for the Swap as is used for the underlying Bonds. The District shall subordinate the
termination payment under the swap to the debt service on the underlying bonds. The
District shall consult with Bond Counsel regarding the legal requirements associated
with making the payments under the Swap on a parity or non-parity basis with the...
applicable outstanding Bands.
X10 -SPECIFIED INDEBTEDNESS
The specified indebtedness related to credit events in any Agreement should be
narrowly defined and refers only to indebtedness of the District that could have a
materially adverse effect on the District's ability to perform its obligations under the
Swap. Debt should typically only include obligations within the same, or higher, lien as
the Swap obligation.
§11 -GOVERNING LAW
Governing law for Swaps may be New York or California, except that the
capacity, power and authority of the District to enter into a Swap shall be governed by
and construed in accordance with law of the State of California.
$12 -EVENTS OF DEFAULT
Events of default of a Swap Counterparty shall include, but are not limited to the
following:
1. Failure to make payments when due
2. Breach of representations and warranties
3. Illegality
4. Failure to comply with downgrade provisions and/or provide collateral as required
5. Failure to comply with any other provisions of the Agreement after a specified
notice period
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§13 -COLLATERAL REQUIREMENTS
As part of any Agreement, the District may require, or be required to post
collateral or other credit enhancement to secure any or all Swap payment obligations.
As appropriate, the Authorized Representative may require collateral or other credit
enhancement to be posted by each Swap Counterparty under the following
circumstances:
^ Each Swap Counterparty may be required to post collateral if the credit rating of
the Swap Counterparty or parent falls below the "A- or A3". Collateral for further
decreases in credit ratings of each Swap Counterparty shall be posted by each
Swap Counterparty in accordance with the provisions contained in the credit
support annex to each Agreement.
^ Collateral shall consist of cash, U.S. Treasury Securities, or Agency Securities
^ Collateral shat! be deposited with a third party trustee, or as mutually agreed
upon between the District and each Swap Counterparty.
^ A list of acceptable securities that may be posted as collateral and the valuation
of such collateral will be determined and mutually agreed upon during negotiation
of the Agreement.
^ The market value of the collateral shall be determined on at least a monthly
basis.
^ The District will determine reasonable threshold limits for increments of collateral
posting based on a sliding scale reflective of credit ratings.
^ The Authorized Representative shall determine on a case-by-case basis whether
other forms of credit enhancement are mare beneficial to the District.
14 -OTHER CRITERIA
The District favors that a competitive process generally be used to select a Swap
Counterparty. The conditions under which a competitive process is best used are
provided below:
^ Traditional swap or financial products such as synthetic fixed-rate swaps, reverse
swaps caps, floor, collars, and swaptions without significant deviations from
standard ISDA contract.
^ The proposed structure does not require customized features.
^ Several counterparties are eligible and willing to provide bid(s).
^ Terms of the swap match the underlying bond structure (i.e. same maturity,
payment dates, amortization schedule).
Under limited circumstances as described below, the District may use a
negotiated process to select a Swap Counterparty and price a Swap if for the particular
transaction, business, market or competitive conditions justify such a process. The
conditions under which a negotiated selection is best used are provided below.
Resolution No. 1282
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^ Marketing of the Swap will require complex explanations about the security for
repayment or credit quality.
^ Demand is limited among Swap Counterparties.
^ Coordination of multiple components of the financing is required.
^ The Swap has non-standard features, such as one way collateral.
^ Bond insurance is not available or not offered.
^ Counterparty risk (termination exposure) to other providers is limited.
^ Counterparties are likely to demand individual changes in bid documents.
^ A Swap Counterparty has provided a structure or concept that is unique.
^ The timing and facilitation benefit to the District of using a Swap Counterparty
that is also managing an accompanying bond issue.
^ The transaction structure or financing structure has been developed for the
District by a Counterparty and the District has determined that it is in its best
interest to proceed with proposed transaction or a similar structure.
The District shall use outside professional advisors to assist in the price
negotiation. The District shall obtain an opinion from an independent party that the
terms and conditions of any financial product entered into reflect a fair market value as
of the execution date.
§15 -ONGOING REPORTING REQUIREMENTS
Written records noting the status of all Agreements will be maintained by the
District and shall include the following information:
^ Highlights of all material changes to Agreements or new Agreements entered into
by the District since the (ast report, and a summary of any Agreements that were
terminated.
^ Basic term sheet containing trade date, effective date and termination date of
each of the Agreement, as well key terms such as: notional amount, rate paid by
each Counterparty, day count basis, payment dates, and amortization/accretion
schedules. This term sheet will also contain Counterparty contact information.
^ Most recent (at least annually) mark-to-market valuation, performed by an
independent third party advisor.
^ For each Swap Counterparty, shall provide the total notional amount position, the
average life of each Agreement, the available capacity to enter into a Swap, and
the remaining term of each Agreement.
^ The credit rating of each Swap Counterparty and credit enhancer insuring the
Swap payments.
^ Actual collateral posting by the Swap Counterparty, if any, per Agreement and in
total by Swap Counterparty.
^ Information concerning any default by a Swap Counterparty and the results of the
default, including but not limited to, the financial impact to the District if any.
Resolution No. 1282
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The District shall reflect the use of derivatives on its financial statements in
accordance with GASB Technical Bulletin No. 2003-1. The disclosure requirements
include:
1. Objective of the Derivative
2. Significant Terms
3. Fair Value
4. Associated Debt
5. Risks
GLOSSARY OF TERMS
Agency Security -Negotiable debt obligations which are issued and/or guaranteed as
to both principal and Interest by the Federal Home Loan Mortgage Corporation
("FHLMC"), the Federal National Mortgage Association ("FNMA"), or the Government
National Mortgage Association ("GNMA") excluding interest only securities, principal
only securities, residual interest, and Collateralized Mortgage Obligations ("CMO's).
Amortization Risk -Amortization risk refers to the cost of servicing debt or making swap
payments due to a mismatch between the bonds and the notional amount of the related
outstanding Swap.
Available Reserves -Cash balances, assets and investments of the District established
as Reserves pursuant to the District's Reserves Policies. Amounts on deposit in the
following reserve funds will be considered Available Reserves: Water Rate Stabilization
Reserve; Operational Debt Service Reserve; Capital Replacement Reserve; Water
Replacement & System Betterment Construction Reserve; and Sewer Replacement &
System Betterment Construction Reserve.
Basis Risk -Basis risk refers to a mismatch between the interest rate received from the
swap contract and the interest actually owed on the District's bonds. The risk, for
example, in a floating to fixed rate swap is that the variable rate interest payments will
be less than the variable interest payments actually owed on the hedged bonds.
BMA Index -The Bond Market Association Municipal Swap Index, the principal
benchmark for short-term, tax-exempt rates among municipal issuers. A market basket
index of over 200 actively traded, highly rated, non-AMT tax-exempt variable rate issues
that reset their rates every Wednesday.
Credit Risk -The occurrence of an event modifying the credit rating of the District or its
Counterparty. Credit Events can trigger certain termination provisions or collateral
provisions as outlined in the Agreements.
Credit Support Annex - An attachment to the ISDA that covers the mutual posting of
collateral, if required. This schedule is based on the net mark-to-market values of the
cash flows in the swap..
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Confirmation - A form that is executed for a specific swap or financial product
transaction and details the specific terms and conditions applicable to that agreement
(fixed rate, floating rate index, payment dates, calculation methodology, amortization,
maturity date, etc.).
Continuing AAA subsidiary - A wholly owned subsidiary of a Bank or Broker/Dealer
organized to transact business as an "AAA" Counterparty to eligible clients. Eligible
clients are those clients acceptable to the rating agencies. To the extent a "Trigger
Event" occurs, the entity will maintain all of its Agreements to their original maturity with
the assistance of an independent derivatives portfolio manager. A Trigger Event is
typically a downgrade of the parent company, a bankruptcy of the parent company,
failure to make a payment and/or failure to deliver collateral.
Counterparty - A principal to a swap or other derivative agreement, as opposed to an
agent such as a broker.
Counterparty Risk -The risk that the swap Counterparty will not fulfill its obligations as
specified by the terms of an ISDA Master Agreement or other similar contract. Under a
fixed payer swap, for example, if the Counterparty defaults, the District would be
exposed to an un-hedged variable rate bond position. The creditworthiness of the
Counterparty is indicated by its credit rating. The District has established minimum
rating criteria far swap counterparties.
Forward Starting Swap - An interest rate swap in which the "swap coupon" and terms of
the agreement are established today, but the start of the swap is delayed until some
date in the future.
Hedge - A position taken in order to offset the risk associated with some other position.
Mast often, the initial position is a cash position and the hedge position involves arisk-
management instrument such as a swap.
Interest Rate Cap - An instrument that pays off on each settlement date based on the
market value of a reference rate (i.e. BMA or LIBOR) and a specified contract rate;
effectively establishing a maximum on a variable rate.
Interest Rate Collar - An instrument that provides protection within a band of interest
rates; a combination of purchasing an Interest Rate Cap and selling Interest Rate Floor.
Generally, it is structured so that the net cost of the collar is zero or close to zero. This
means that the expense for the interest rate cap premium is offset by the credit received
for the interest rate floor.
Interest Rate Floor - An instrument that pays off on each settlement date based on the
market value of a reference rate (i.e. BMA or LIBOR) and a specified contract rate;
effectively establishing a minimum on a variable rate.
Resolution No. 1282
Page 13
Interest Rate Risk -The risk that variable rates will increase and thereby cause an
increase in variable rate debt service costs and negatively impact cash flaw margins.
Interest Rate Swap - A contract between two parties to exchange cash flows over a
predetermined length of time. Cash flows are calculated periodically based on a fixed
or variable interest rate against a set notional amount (amount used only for calculation
of interest payments). Principal is not exchanged.
ISDA -The International Swap Dealers Association -The global trade association
whose members are dealers in the derivatives industry. Most Swaps are executed
under standard documentation created by ISDA.
ISDA Master Agreement - The primary document for the terms and conditions
governing the swaps market. The ISDA Master Agreement contains the terms for
events of default, termination events, representations and covenants, early termination
provisions and payment calculations.
LIBOR -The London InterBank Offered Rate. The rate at which banks will lend
Eurodollars to each other aver various length terms: (e.g., 1-month, 3-month, 6-month,
12-month etc.). The most active dollar-based taxable interest rate benchmark utilized
globally
National Amount -The stipulated principal amount for a swap transaction. There is no
transfer of ownership in the principal for a swap; but there is an exchange in the cash
flows for the designated coupons.
Rollover Risk -The risk that the term of the swap contract does not match the term of
the related bonds being hedged. Upon the maturity of the swap, the risk may need to
be re-hedged, causing the District to incur re-hedging costs.
Schedule to the ISDA Master Agreement - An attachment(s) to the ISDA Master
Agreement that specifies what options for the various terms in the Master Agreement
have been selected to govern the derivative transactions executed under the
agreement.
Swap - A contractual agreement evidenced by a single document in which two or more
parties agree to exchange make periodic (net} payments for an agreed period of time
based upon a notional amount of principal.
Swaption - An option on a swap. The swaption purchaser has the right to enter a
specific swap for a defined period of time. This option can be exercised on a specific
exercise date or series of exercise dates
Tax Risk -All issuers who issue tax-exempt variable rate debt inherently accept risk
stemming from changes in marginal income tax rates. This is a result of the tax codes
impact on the trading value of tax-exempt bonds. As marginal tax rates decline, the
Resolution No. 1282
Page 14
after tax value of tax-exempt income declines, forcing the tax-exempt rates to increase.
This risk is also known as a "tax event" risk, a form of basis risk under swap contracts.
Percentage of LIBOR swaps and certain BMA swaps with tax event triggers, which can
change the basis under the swap to a LIBOR basis from BMA, can expose issuers to
tax event risk.
Termination Risk -The risk that the swap could be terminated as a result of any of
several events, which may include a ratings downgrade for the District or the swap
Counterparty, covenant violation by either party, bankruptcy of either party, swap
payment default by either party, and default events under a bond indenture. The District
could owe a termination payment to the Counterparty or receive a termination payment
from the Counterparty, depending on how interest rates at the time of termination
compare with the fixed rate on the swap.
Yield Curve -Refers to the graphical or tabular representation of interest rates across
different maturities. The presentation afters starts with the shortest-term rates and
extends towards longer maturities. It reflects the market's views about implied
inflation/deflation, liquidity, economic and financial activity, and other market forces.
PASSED, APPROVED AND ADOPTED at the Regular meeting of the Board of
Directors on this 4t" day of April, 2007, by the following roll call vote:
AYES: FERGUSON, GENTRY, HANNAN, POLTL, SHELL
NOES:
ABSTAIN:
ABSENT:
a
_~.. /q ,n _ pg~,~
Darrell Gentry, Presi ent
Board of Directors
Vallecitos Water District
ATTEST:
,~°
William W. Rucker, Secretary
Board of Directors
Vallecitos Water District