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California Loses Stigma as Borrowing Costs Dive 33%: Muni Credit

California Governor Jerry Brown
California Governor Jerry Brown. Photographer: Ken James/Bloomberg

California, the biggest U.S. municipal debt issuer, is paying one-third less in long-term borrowing costs than two years ago, when former Governor Arnold Schwarzenegger fought lawmakers over deficits and struggled to attract individual investors.

The nation’s most populous state is in the second day of a $2.5 billion sale of general-obligation bonds -- Governor Jerry Brown’s first long-term borrowing this year. The deal includes 10-year securities offered to individuals at 108 basis points above top-rated tax-exempt debt. That compares with a 160 basis-point premium it paid on similar bonds in March 2009. A basis point is 0.01 percentage point.

The savings reflect a turnaround in investor sentiment toward a state that only two years ago had to resort to selling IOUs to pay its bills. The price of insuring California bonds has plunged by half since 2009 as Brown, 73, has limited borrowing and brokered an $85.9 billion general-fund spending plan with fellow Democrats that addresses long-term budget deficits.

While Standard & Poor’s rates the state’s debt the lowest in the U.S., “people are more comfortable with the California credit and appreciate what’s going on,” John Bonnell, who manages a $615 million California bond fund at USAA Investment Management Co., said in a telephone interview from San Antonio.

“They are making the right decisions, or at least heading in the right direction,” he said.

Two years ago, the state was forced to pay as much as $123 million more in interest and cut its bond sale by 8 percent, to $4.14 billion, after individual investors shied away from the offer. California faced cumulative budget deficits of $60 billion at the time.

Spending Triggers

This year’s budget included a series of “triggers” that automatically would reduce spending on universities, home health care and social programs if revenue misses targets by $1 billion in December. It would shorten the school year and end busing subsidies if the gap widens to $2 billion.

Brown vetoed a bill Sept. 16 that would have required the state finance director to consult with legislative leaders before the triggers can be activated.

California is offering individual investors a 3.17 percent yield on 10-year debt, according to the Treasurer Bill Lockyer. The largest portion of the deal, $350 million due in September 2041, has a yield of 4.8 percent, 114 basis points above a 30-year index of top-rated tax-exempt bonds. The terms on the second day of the retail sale were unchanged from the first day, according to a person with direct knowledge of the pricing.

Record Lows

The 10-year index of top-rated municipals was little changed at 2.09 percent today, up from 2.05 percent on Sept. 12, the lowest level since January 2009, when Bloomberg’s data for the securities begins. Yields on top-rated 30-year tax-exempts rose to 3.66 percent after falling to 3.56 percent on Sept. 12, also the lowest since Bloomberg records began.

California may pay higher borrowing costs in the future if the federal government passes President Barack Obama’s job-creation bill that includes lowering the tax exemption on interest earned on municipal bonds for the highest earners to 28 percent from 35 percent.

Lockyer, a Democrat, on Sept. 16 estimated the state would pay $7.7 billion more on future issuance for the life of the securities, if lawmakers reduce the exemption.

California plans to sell $15 billion of bonds over this and the next fiscal year, Lockyer said. That compares with $10.4 billion last year and $20.5 billion in 2009.

The state’s debt, including price changes and interest income, returned 9.2 percent through Sept. 16, outperforming the overall tax-exempt market by 120 basis points, according to S&P Municipal Bond Indexes.

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