Moody's is considering downgrading its ratings on letter of credit (L/C) backed US municipal bonds.

This is because the ratings agency is considering changing the way it rates variable rate demand notes (VRDNs), which are bonds used by US states, municipalities and government agencies to raise funds.

Bond features

The rates on these bonds are varied from time to time, thus creating a secondary market in which investors can buy and sell them.

Many of the bonds, particularly those issued during the credit crunch, are backed by bank L/Cs.

The L/Cs allow issuers to borrow at a lower rate.

Downgrade expected

Media reports suggest that Moody's may downgrade the ratings of 898 VRDNs by up to three notches within the next 60 days.

It is anticipated that most VRDNs will be cut by less than two notches.

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