(Bloomberg) -- Bond investors are snapping up the riskiest chunk of Brightline’s debt in a wager on the private railroad as it expands west across Florida.
Investors, drawn by a 12% coupon, have bid up Brightline’s $925 million of unrated-tax exempt bonds so much that they’re valued at about 105 cents on the dollar. They’ve returned some 13% since April, when the Fortress Investment Group-backed company refinanced its debt with nearly $4.5 billion in muni bonds and junk notes.
Among the reasons the unrated debt is appealing to investors: collateral. They’re secured by a lien on current and future assets including design contracts, permits, and rights-of-way that are earmarked for Brightline’s project to stretch its tracks from Orlando to Tampa.
It’s a bet on the future of rail in traffic-clogged Florida for the first new US private passenger railroad in more than a century. With the two cities and Miami among the fastest growing US metropolitan areas, Brightline is planning to extend its trainline west connecting the state’s three major economic centers as soon as 2028.
“We believe this to be the only debt that is secured by the Tampa route,” said John Miller, head of the high-yield muni credit team at First Eagle Investments. “This route is more valuable than the $925 million in debt and worth more than that to Fortress and the Brightline holding company in particular.”
The veteran municipal-bond investor, who made a name for himself with his high-risk, high-return strategy, has been a long-time Brightline bull. He first championed the project while still head of Nuveen’s muni-bond investments, where he built the biggest high-yield muni fund. Since Miller joined First Eagle, the firm has bought $125 million of Brightline’s unrated debt, making it the $4.2 billion fund’s biggest position.
And yet, it’s Brightline’s $2.2 billion of investment-grade senior municipal bonds that get paid first. Also higher than the unrated debt in the payment waterfall is $1.3 billion in high-yield corporate notes. Those trade around 91 cents on the dollar, a loss of some 4% since the refinancing, data compiled by Bloomberg show.
Brightline hasn’t said how it plans to raise capital for the extension to Tampa, but a lien on the assets would result in a higher cost of capital. To remove the lien on the Orlando-to-Tampa project, Brightline has to buy back $500 million of the unrated munis, according to offering documents. Brightline’s financial projections include a $500 million redemption in 2025.
There are other incentives for the railroad to refinance this debt early. The price to redeem the unrated bonds keeps increasing. The next hike on July 15, 2025 will increase the redemption price to 106 cents on the dollar from the current cost, 103 cents. It will then rise to 109 cents in July 2026. Brightline has two years after that to redeem the bonds.
For potential investors in Brightline’s unrated muni debt, when they expect the debt to be redeemed is critical. A current buyer paying 106.5 cents may have a portion of the bonds called at 103 cents, some at 106 cents and some at 109 cents, Miller noted.
“If a buyer’s average redemption premium is around 107 to 108 on a weighted-average basis, then in that scenario, the total return over the holding period would exceed 12% which would be very attractive in most markets,” Miller said.
Another facet of the bond’s appeal is its scarcity value. Only $225 million bonds in the $4 trillion muni market have coupons higher than 12%. For an investor in the top federal tax bracket, a 12% coupon is equivalent to a taxable security yielding a little over 20%.
Even though high-yield muni funds only make up 16% of municipal fund assets, investors have poured some $14 billion into high-yield munis funds this year, accounting for 44% of all inflows to municipal bond funds, according to LSEG Lipper Global Fund Flows.
“Forty-four cents of every dollar has gone into a high-yield muni mandate this year,” said James Welch, a portfolio manager at Principal Asset Management. “That’s really the story.”
On the supply side, a little over $20 billion of high-yield munis have been issued this year, just about 5% of total muni sales.
Meanwhile, Brightline’s ridership has missed projections.
The Florida trainline carried 2 million riders, or 2.7 million annualized, through the first nine months of 2024. That trails Brightline’s projected base case ridership of 4 million in 2024. Ridership on its short-distance line from Miami to West Palm Beach has fallen 38% because the railroad wants to ensure it has enough seats for higher-priced trips between Miami and Orlando.
Still, Brightline has almost $1 billion in reserves available to service the debt on the $2.2 billion of senior muni bonds and the $1.3 billion corporate notes. Reserves are sufficient to pay debt service for two years. To boost capacity and revenue, Brightline has ordered 15 coach class cars and 10 premium class cars.
And the muni market has shown its willingness to rollover Brightline’s debt, first issued in 2019.
“Brightline for years has been behind projections and it never trades badly,” said Dan Solender, director of tax-free fixed income for Lord, Abbett & Co, which owned $27.5 million of the 12% munis as of June 30. “There’s definitely some market support for it, which might not exist on the taxable side.”
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