Illinois Jobless-Debt Sale Buoyed by Lowest Yields: Muni Credit
Illinois is set to pay close to a record-low yield on a bond sale this week, even as it contends with the nation’s worst-funded pension system and as much as $8 billion in unpaid bills.
The state plans to issue $1.5 billion of debt as soon as tomorrow to repay federal loans for jobless benefits. It joins counterparts including Texas and Michigan taking advantage of the lowest tax-exempt borrowing costs since Lyndon B. Johnson’s presidency to refinance the obligations.
The unemployment-bond issues “have been well received by the market and with rates continuing to come down at these low levels, it’s probably in the best interests of the states to do this,” said Duane McAllister at BMO Asset Management U.S., who said he plans to buy the Illinois securities.
As Treasuries rallied yesterday on an unexpected drop in retail sales, municipal debt gained across all maturities, driving yields close to historic depths. A Bloomberg Fair Value index of 10-year borrowing costs for Illinois issuers was 3.52 percent, about 0.3 percentage point above the lowest level since 1994.
The $3.7 trillion municipal market has earned about 5 percent this year, compared with 2.6 percent for Treasuries, according to Bank of America Merrill Lynch data.
Illinois had assets equal to 45.4 percent of projected retirement obligations as of fiscal 2010, the weakest of any state, data compiled by Bloomberg show. Standard & Poor’s said in January it may cut Illinois’s A+ rating, four levels below the top and lower than any state except California, if pension funding levels deteriorate and debt levels increase “significantly.”
At the end of June, the state’s unpaid obligations included a $3.7 billion backlog of bills and fund transfers, as well as Medicaid and insurance liabilities of $3.5 billion, Comptroller Judy Baar Topinka said yesterday.
As a result, Illinois may still have to pay more relative to other issuers to get this week’s bond deal done. The extra yield may be at least 0.2 percentage point, said McAllister, who helps manage $2.5 billion of munis, including Illinois debt, at BMO in Milwaukee.
“With the troubles that everyone knows all too well in Illinois, there should be at least a modest yield premium attached to this one,” he said.
Lawmakers ended their legislative session May 31 without passing a bill to help reduce the pension liability. Since then, legislative leaders have met with Governor Pat Quinn regarding pension changes, according to the offices of Senate President John Cullerton and House Speaker Michael Madigan. All three are Democrats.
S&P rates the sale AA, two grades above Illinois’s general obligations. While repayment of the debt is separate from the state’s general fund, buyers will want added income just to hold Illinois securities, McAllister said.
The bonds are secured by taxes that for-profit employers pay on workers’ income to help support the state’s unemployment insurance fund.
“The funding to repay these bonds is totally segregated from the state of Illinois’s cash-flow and by federal law can only be used to either pay benefits or to repay these bonds,” John Sinsheimer, the state’s director of capital markets, said in an interview.
This week’s sale includes bonds due in 2021, the longest maturity, according to bond documents. The Michigan Finance Authority on June 13 priced unemployment bonds rated AAA and due in 2021 with a yield of 1.88 percent, or about 0.1 percentage point above benchmark yields.
Twenty-two states and the Virgin Islands owed the federal government a combined $30 billion as of July 11 that helped boost their unemployment funds, according to U.S. Labor Department data. They piled up the debt as the longest recession since the 1930s pushed the nation’s jobless rate to a 26-year high of 10 percent.
Illinois’s May unemployment rate was 8.6 percent, above the 8.2 percent national average.
The state anticipates it will pay down the bonds before their maturities because any excess revenue must go toward repaying the debt.
While the average life of the bonds is 4.9 years, the state anticipates paying the debt off in 3.2 years, Sinsheimer said.
Investors will also demand extra yield because they won’t know exactly when the bonds will mature, Blake Miller, who helps oversee $6 billion of munis at Neuberger Berman Group LLC in New York, said in an interview.
“There’s some uncertainty as to how fast that revenue stream is going to come in and for any bit of uncertainty, muni investors should be compensated,” Miller said.
Illinois bonds have earned 5.5 percent this year, beating 44 states, Barclays Capital data show.
Illinois businesses in 2013 will gain about $200 million in tax credits because of the sale, Sinsheimer said.
Quinn in April proposed a voluntary 3 percent boost in pension contributions from current employees and a cut in cost- of-living increases for retirees.
Following are pending sales:
PENNSYLVANIA, which Moody’s Investors Service downgraded yesterday by one step to Aa2, its third-highest grade, plans to sell $364 million of general-obligation debt as soon as July 24, according to data compiled by Bloomberg. Proceeds will refund debt. (Added July 17)
WASHINGTON is set to issue $591 million of general- obligation debt as soon as this week. A portion of about $197 million is to be repaid with motor-vehicle fuel taxes, according to bond documents. Another segment, about $119 million, is taxable. S&P rates the sale AA+, second-highest. (Added July 17)
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