by Calculated Risk on 2/27/2008 11:48:00 PM

From the WSJ: New Monkey, Same Backs

A new round of higher debt costs confronts some states and cities as another usually humdrum part of the credit markets runs into trouble. This time, the culprits are variable-rate demand notes. And banks that guarantee they will act as buyers of last resort face something they never expected -- having to purchase many of them at once.

Variable-rate demand notes let issuers borrow for long periods -- but at short-term interest rates. Like auction-rate securities, interest payments adjust on a weekly or even daily basis. The difference is that for variable-rate demand notes, securities firms sell the debt at whatever interest rate meets the market's demand.

The problem: Just like many issuers of auction-rate securities whose interest costs soared after auctions for some of their debt failed, an increasing number of municipalities are being hit with sharply higher interest on their variable-rate demand notes because dealers of the debt are having trouble selling it.

Last week, rates on $300 million of California's variable-rate demand notes rose to 8.25% from 2% the previous week.

Another borrow short, lend long (or invest long) strategy. New monkey, same backs. Great title.