Oct. 27 (Bloomberg) -- California offered retail investors higher yields than some analysts had expected on the week’s largest tax-exempt offering.

California bonds payable primarily from sales tax revenue in the most populous U.S. state and set to mature in 2022 may pay 5 percent and those due in 10 years may yield 4.65 percent, traders said. David Blair, an analyst for Pacific Investment Management Co. in Newport Beach, California, last week said the state may pay yields below 5 percent on the $3 billion deal.

The “market seems to be holding up remarkably well given the weight of the new-issue calendar on both the taxable and tax-exempt side,” said Tony Shields, senior vice president in municipal sales and underwriting at Grigsby & Associates in New York. California’s deal is “off to a decent start,” as the state stopped taking retail orders for bonds due in 2016 and sooner, Shields said in an e-mail.

An 11 percent drop in sales tax revenue led California to offer $3 billion in so-called economic recovery bonds this week in a restructuring that will level out payments on debt left over from patching previous budget deficits. The sale will conclude Oct. 29, when institutional investors get to buy. The order period for retail, or smaller individual, buyers continues tomorrow.

The issue went to market as Louisiana auctioned general obligation bonds for new capital projects for the first time in three years, and New York City’s Municipal Water Finance Authority sold $504.2 million of taxable, federally subsidized Build America Bonds.

“We’re a little cheaper on the new issues,” said Bill Walsh, president of the securities firm Hennion & Walsh in Parsippany, New Jersey.

Worst Month

State and local government bonds are headed for their worst monthly performance in a year after investors shied away from the lowest yields in 42 years, forcing issuers to raise payouts. The Municipal Master Index compiled by Bank of America Corp.’s Merrill Lynch & Co. fell 2 percent in October through yesterday, the worst since the record 5.1 percent drop in September 2008. The Treasury Master Index was down 1 percent.

The weekly Bond Buyer 20 index of 20-year general obligation bond yields rose to 4.31 percent last week from the 3.94 percent reached Oct. 1, which was the lowest since 1967.

The yield on the 10-year U.S. Treasury notes fell 10 basis points, or 0.1 percentage point, to 3.45 percent. Municipal Market Advisors’ daily survey for tax-exempt yields on 10-year general obligation bonds was unchanged at 3.18 percent.

Louisiana Bonds

Louisiana sold 10-year bonds priced to yield 3.45 percent as part of its $200 million issue for new projects, compared with 3.88 percent when it sold insured bonds in September 2006. Barclays Plc was the winning underwriter following a competitive bid process today. The state, boosted by higher credit ratings as its economy outperforms the U.S. as a whole, also auctioned $119 million of bonds due from 2010 through 2014 to JPMorgan Chase & Co. in a debt refinancing.

Buoyed by revenue from recovery efforts and the energy industry, Louisiana has maintained an unemployment rate below the national average since early 2006 and entered the economic recession later than most states. Standard & Poor’s and Fitch Ratings lifted Louisiana’s ratings this month to AA- and Moody’s Investors Service raised its outlook on the state’s A1 rank.

The New York water authority sold bonds due in 2041 with taxable rates of 5.75 percent and 6.25 percent. The city can call at par, or buy back at face value, the higher-coupon security beginning in 2019. The U.S. Treasury will cover 35 percent of the interest on the Build America portion of the deal under the federal stimulus.

Higher Spread

The 5.75 percent is about 140 basis points more than the average yield today on 30-year Treasury bonds. That spread compares with 158 basis points on a Merrill index of U.S. corporate bonds rated AA and due in 15 years or more.

Municipal issuers plan to sell more than $10 billion of long-term, fixed-rate bonds in a week for the third time this month, according to data compiled by Bloomberg.

Among short-term offerings today, District of Columbia auctioned $500 million of notes due in September 2010. JPMorgan Chase & Co., Citigroup Inc. and Barclays bought the 2.5 percent securities. The yield wasn’t immediately available.

To contact the reporter on this story: Jeremy R. Cooke in New York at jcooke8@bloomberg.net.

Last Updated: October 27, 2009 17:16 EDT