CHICAGO — Illinois received $6.1 billion in bids from 128 investors on its sale this week of $3.7 billion of taxable eight-year general obligation bonds to cover its 2011 pension contribution, a level the state touts as a sign of investor confidence following an income tax increase.
Some market participants counter that the chief draw was the paper's yields relative to comparable corporate credits with similar maturities. It is likely a mix of both factors, several traders and analysts said.
Illinois has paid a premium over the last year on its bond sales due to a series of downgrades and headlines over its growing pension liabilities, legislative backlog, and $15 billion deficit. The state enacted an income tax increase earlier this year that is expected to raise at least $6.8 billion annually.
The bonds mature between 2014 through 2019, with yields ranging from 4.026% in 2014 to 5.877% in 2019, between 235 and 280 basis points over the corresponding Treasury yields.
"You're going to get buyers with yields that attractive," one Chicago trader said. A 2019 maturity offered by a well-known corporate name with a low investment-grade rating on Wednesday was priced at 115 basis points over comparable Treasuries.
"I am very pleased with the sale. I attribute the strong interest to the actions that Gov. Pat Quinn and the General Assembly have taken to improve the fiscal stability of the state," said state capital markets director John Sinsheimer. "The underwriting team and our financial adviser did a great job."
Morgan Stanley, Goldman, Sachs & Co., and Loop Capital Markets were joint book-running senior managers on the transaction. Eleven additional firms rounded out the underwriting team. Peralta Garcia Solutions was financial adviser. The bonds were rated A1 by Moody's Investors Service, A-plus by Standard & Poor's, and A by Fitch Ratings.
About $530 million of the bonds went to foreign buyers, now familiar with the credit from a series of taxable deals last year and its $10 billion pension sale in 2003. Sinsheimer and members of the finance team also spent more than three weeks visiting domestic and international buyers to drum up interest.
Strong interest helped the state lower yields from an initial term sheet by five basis points on Wednesday. Sinsheimer said he believes the number of buyers submitting bids may be a record for a single Illinois transaction. Illinois' GO pledge gives debt service a first claim on state revenues.
He believes further proof of investor confidence in the state's ability to manage through its fiscal crisis is found in a narrowing of spreads by 40 points since December in secondary market trading on the state's $3.5 billion GO pension sale last year. "When you see that kind of change, it's a sign you've done something right," he said.
Investors have praised the income tax hike, but said officials need to take further action to reduce spending and address the unfunded pension liabilities sheet. One investor analyst said the state's ability to complete the transaction signals renewed strength in state and local government bonds amid the hammering suffered by the municipal market due to national headlines over budget woes and warnings of potential defaults.
"The yields offered a temptation even the most conservative corporate buyers couldn't resist," said Richard Ciccarone, chief research officer at McDonnell Investment Management LLC. "But this was a bellwether deal and it is a big statement for the municipal market that the state got it done."
Quinn last week unveiled a $52 billion budget proposal for fiscal 2012, which begins July 1. It relies on a controversial plan to borrow $8.75 billion to pay off a backlog of bills. In an addendum to the offering statement, the state reported it expects revenue to total $33.9 billion in fiscal 2012, up 10.8% from fiscal 2011 with about 20% of the increase coming from the tax increase and modest economic growth anticipated from various taxes. Federal funds will fall by $662 million.
The bond sale will cover much of the state's $4.2 billion payment owed in the current fiscal year to its pension funds. The payment will rise to $4.9 billion in 2012. The budget included a line suggesting the government might seek a federal guarantee for its pension debt, but Sinsheimer said he did not know why that was included in the document and that there no plans to seek such action.
Illinois' unfunded pension liability rose to $75.7 billion in fiscal 2010 from $62.4 billion in fiscal 2009, for a funded ratio of just 45.4%.
The state previously disclosed to investors that statements made over the potential impact of pension reforms adopted last year are the subject of an inquiry by the Securities and Exchange Commission.
Officials expect to end fiscal 2012 with a $146 million cash balance, $275 million in a budget stabilization fund, and $600 million in unpaid bills — but that hinges on passage of the $8.75 billion borrowing plan that is opposed by Republican lawmakers.
The fiscal 2012 capital budget calls for new appropriations of $4 billion. It re-appropriates $23 billion of projects financed with $12 billion in general obligation bonding in the coming years and $2.6 billion of sales-tax borrowing. The remaining funds would come from current revenue and federal funds.
Near-term borrowing for capital projects is on hold due to a court ruling overturning funding for the state's $31 billion capital plan. The state hopes the Illinois Supreme Court will restore the program or legislative action would be needed.
