The following opinion is presented on-line for informational use only and does not replace the official version. (Mich Dept of Attorney General Web Site - www.ag.state.mi.us) STATE OF MICHIGAN MIKE COX, ATTORNEY GENERAL
SCHOOL DISTRICTS: REVISED SCHOOL CODE: PUBLIC CORPORATIONS: Flexible repurchase agreements are allowable investments for Michigan school
districts under the Revised School Code, 1976 PA 451, and for Michigan "public
corporations" under 1943 PA 20, with the approval of their governing bodies and
subject to the limitations of those acts. Opinion No. 7196 December 27, 2006 Honorable Wayne Kuipers You have asked if flexible repurchase agreements are allowable investments
for Michigan school districts under the Revised School Code, 1976 PA 451, and
for Michigan public corporations under 1943 PA 20. Section 1223 of the Revised School Code, 1976 PA 451, MCL 380.1223,
authorizes local school boards to invest "debt retirement funds, building and
site funds, building and site sinking funds, or general funds of the district"
in, among other investments, "United States government or federal agency
obligation repurchase agreements." Similarly, section 1 of 1943 PA 20, an act relating to the investment of
funds of political subdivisions, authorizes "public corporations"
INVESTMENTS:
Allowable public investment in
flexible repurchase agreements
State Senator
The Capitol
Lansing, MI 48909
(1) Except as provided in section 5, the governing body by resolution may authorize its investment officer to invest the funds of that public corporation in 1 or more of the following:
(a) Bonds, securities, and other obligations of the United States or an agency or instrumentality of the United States.
* * *
(d) Repurchase agreements consisting of instruments listed in subdivision (a).
Neither the Revised School Code nor 1943 PA 20 defines "repurchase agreement" for purposes of those acts. When interpreting statutes that do not provide their own definitions for a term, "technical words and phrases, and such as may have acquired a peculiar and appropriate meaning in the law, shall be construed and understood according to such peculiar and appropriate meaning." MCL 8.3a. Moreover, although the terms of one statute are not dispositive in determining the meaning of another, the terms of one statute may be taken as a factor in determining the interpretation of another statute. Linton v Arenac County Rd Comm'n, ___ Mich App ___; ___ NW2d ___; 2006 Mich App LEXIS 3511 (November 28, 2006).
Under the Insurance Code of 1956, MCL 500.100 et seq, the term "repurchase agreement" is defined as
"Repurchase agreement", including a reverse repurchase agreement, means an agreement, including related terms, that provides for the transfer of certificates of deposit, eligible bankers' acceptances, or securities that are direct obligations of, or that are fully guaranteed as to principal and interest by, the United States or an agency of the United States against the transfer of funds by the transferee of the certificates of deposit, eligible bankers' acceptances, or securities with a simultaneous agreement by the transferee to transfer to the transferor certificates of deposit, eligible bankers' acceptances, or securities as described above, at a date certain not later than 1 year after the transfers or on demand, against the transfer of funds. [MCL 500.8115a(9)(g).]
In Downes and Goodman, Dictionary of Finance and Investment Terms (Woodbury, New York: Barron's Educational Series, Inc, 1985), a "repurchase agreement" is defined as an "agreement between a seller and a buyer, usually of U.S. Government securities, whereby the seller agrees to repurchase the securities at an agreed upon price and, usually, at a stated time." This definition is consistent with that used by the Federal Deposit Insurance Corporation. See "Repurchase Agreements of Depository Institutions with Securities Dealers and Others; Notice of Modification of Policy Statement," 63 Fed Reg 8645 (February 20, 1998), which defines a "repurchase agreement" as "one in which a party that owns securities, acquires funds by selling the specified securities to another party under a simultaneous agreement to repurchase the same securities at a specified price and date."
Thus, a repurchase agreement,3 as that term is used in the financial/bond industry, is a sale by a bank or dealer of government securities, with a simultaneous agreement to repurchase those same securities on a short-term basis4 with a fixed interest rate. Repurchase agreements, also called "repos" in the industry, are commonly used to invest the proceeds from the sale of tax-exempt bonds until those funds are needed. They offer the purchaser the safety of being collateralized with governmental securities, and because the purchaser knows the interest rate in advance, it can be assured of its compliance with federal arbitrage calculation5 requirements that limit earnings on the investment of tax-exempt bond proceeds.
Your request inquires about the type of repurchase agreement recognized in the industry as the "flexible repurchase agreement," also known as a "flex repo." Instruments of the Money Market, edited by Timothy Q. Cook and Robert K. Laroche (Federal Reserve Bank of Richmond, 1993), defines a flex repo as:
[A] term agreement arranged between a dealer and a major customer, typically a corporation, or a municipality or similar authority, in which the customer buys securities from the dealer and may sell some of them back prior to the final maturity date. The funds invested in a flex repo often are intended for use in financing construction or similar projects to be completed in phases. When funds are needed for a given phase of the project, the customer sells the required amount of securities back to the dealer. [Id., at p 72.]
A flexible repurchase agreement is a short-term investment vehicle designed to meet the special needs of investors, including school districts and public corporations. Like a repurchase agreement, it has a fixed interest rate and a fixed maturity. In addition, flex repos have a liquidity feature that allows a school district or other purchaser to periodically sell some of the securities back to the seller to acquire funds to pay project costs, usually associated with the construction of a school or other public building.
Typically before entering into a repurchase agreement, including a flexible repurchase agreement, the governmental entity, through the bond trustee or another third-party custodian, solicits bids from potential repo providers. A request for bids will typically require that the repo bidder have a specified minimum credit rating. In addition, requests for bids often require that the securities to be delivered have a market value exceeding the value of funds to be delivered, usually 102%, or more. As additional security, the request for bids can require that the repo provider, on a weekly or even daily basis, revalue the securities delivered, and if the price has dropped below the agreed valuation level (for example, 102%), additional securities must be provided.
When 1986 PA 132 amended the Revised School Code to add section 1223(1)(e), MCL 380.1223(1)(e), authorizing school districts to invest in repurchase agreements collateralized by United States government or federal agency obligations, it also amended MCL 380.1223(6) to read as follows:
Security in the form of collateral, surety bond, or another form may be taken for the deposits or investments of a school district in a bank, savings and loan association, or credit union. However, an investment under section 622(2)(e) or section 1223(1)(e) or in an investment pool that includes instruments eligible for investments under sections 622(2)(e) and 1223(1)(e) shall be secured by the transfer of title and custody of the obligations to which the repurchase agreements relate and an undivided interest in those obligations must be pledged to the school district for these agreements. [Emphasis added.]
While the statute requires that title and custody of the securities be transferred, it does not expressly mandate to whom title and custody be transferred. The purpose of the statute is to protect the school district's investment. If title and custody were not transferred, a repurchase agreement provider could collateralize other repos with the same securities without the knowledge of the school district. In that case, if the provider were to default or declare bankruptcy, the school district could be unsecured and its investment significantly diminished or lost entirely. Accordingly, custody and title to the securities should be transferred to the school district or to a bond trustee or third-party custodian in such a manner as to achieve the legislative purpose.
In contrast, 1943 PA 20 does not require that custody and title to securities collateralizing a repurchase agreement be transferred. In order to protect the interests of the investing public corporation, the request for bids and repurchase agreement could require that title and custody of the securities be transferred to the public corporation or to a bond trustee or third party custodian.6
Clear and unambiguous statutory language must be enforced as written according to its plain meaning. Dean v Dep't of Corrections, 453 Mich 448, 454; 556 NW2d 458 (1996). The Revised School Code clearly authorizes school districts and 1943 PA 20 clearly authorizes public corporations to invest in repurchase agreements, as long as they are collateralized by United States government or federal agency obligations. A flexible repurchase agreement is a type of repurchase agreement.
7It is important to emphasize that an officer or manager who invests funds for a public entity has a fiduciary duty to invest those funds knowledgeably, prudently, and always in the best interest of the public entity. Any investment methodology may be subject to manipulation and fraud, in addition to normal market forces. Municipal investors must be cautious, study and understand the markets they utilize, and, most importantly, monitor their investments for total return, security, and soundness.
It is my opinion, therefore, that flexible repurchase agreements are allowable investments for Michigan school districts under the Revised School Code, 1976 PA 451, and for Michigan public corporations under 1943 PA 20, with the approval of their governing bodies and subject to the limitations of those acts.
MIKE COX
Attorney General