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Whitney Muni Bond Forecast 'An Important Call': Chanos

Thursday, 10 Feb 2011 | 10:55 AM ET

Banking analyst Meredith Whitney's controversial call expecting a wave of municipal bond defaults has won her at least one prominent supporter—hedge fund manager Jim Chanos.

Death Cross
Nicholas DeVore | Stone | Getty Images
Death Cross

While not addressing the specifics of Whitney's claims, Chanos, who runs Kynikos Associates, said on CNBC that he agrees at least in principle that the state of municipal finance is poor and not a good bet for investors.

"I think her general sense was correct," he said. "You weren't getting compensated for the risk as an investor and that's an important call and that's something people need to hear from time to time."

But since making the call, Whitney has been slammed from numerous directions, including Bill Gross at Pimco and other colleagues who insist that the threat to municipal finances is vastly overstated. She has predicted that the defaults could run to hundreds of billions of dollars.

This week she was invited before a congressional panel but declined to attend, citing a scheduling conflict.

Chanos compared the municipal debt situation to the mortgage industry, when subprime loans given to high-risk borrowers were hit with waves of defaults that ultimately brought down the financial services industry and required a government bailout.

Chanos Talks Munis
James Chanos, Kynikos founder & president, shares his insight on muni bonds now.

"Municipal bonds are basically special funding entities where we were setting up a stadium or a hospital or a water plant, whatever, and it's done under the rubric of tax-exempt law," he said. "They're set up specifically that if the project doesn't work it doesn't imperil everything else. You think people are reading the financials of that water plant? I doubt it. They're depending on ratings agencies just like they did in the good old days of mortgage financing."

While the government bailed out the banks, it may not be so forgiving when it comes to local governments, Chanos added.

"Even Warren Buffett said to be long the muni bond industry in effect you have to bet on a federal bailout, and I'm not so sure that with the politics in Washington now that that's the smartest bet in the world given you'll only be earning 3 or 4 percent," he said.

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