The financially strapped University of California system is losing about $6 million each year due to risky bets on interest rates under deals pushed by Wall Street banks.
The Orange County Register reported (http://bit.ly/NjsOBp ) that the UC system already has lost tens of millions of dollars on complex contracts known as interest-rate swaps.
Bankers sold university officials on the swaps starting around a decade ago, pitching them as a way to temper the cost of borrowing when interest rates rise.
Under the contracts, a university in the 10-campus system pays a fixed interest rate on money it borrows. If the current interest rate exceeds the fixed rate, the universities save money because they pay less than they would have. But with interest rates at historically low levels, the universities are paying more than they otherwise would have — and the banks are profiting.
The newspaper reported that schools in the system could lose as much as $136 million over the next 34 years. Future losses would be reduced only if interest rates rise.
The losses come as UC administrators have sharply increased tuition and fees in recent years, angering many students who say they are being priced out of a public education.
The university system's chief financial officer, Peter Taylor, told the newspaper he is confident interest rates will increase, reversing the losses. “We have a long-term view,” he said.
Taylor was a top banker at Lehman Brothers Holding Inc. when in 2007 the now-defunct bank sold interest-rate swaps to the University of California, Los Angeles. Since the university system hired Taylor in 2009, he has signed other contracts when he judges they will save money over the cost of traditional debt, the newspaper reported. The system has new guidelines that require a cost-risk analysis before the signing of a swap deal.
Schools that want to get out of the deals must pay often-hefty termination fees.
Timothy Schaefer, a municipal-finance adviser in Newport Beach, said he warns clients that the contracts can be too risky. “I don't think they are suitable for most public agencies,” Schaefer said.