A New Jersey proposal to allow its Transportation Trust Fund to sell bonds directly to its underfunded pension system would worsen the state's credit situation, according to Municipal Market Analytics.
The proposed legislation bill would eliminate regulations that currently limit pension investments to no more than 10% of any single bond issue for transportation bond sales. State Senate President Steve Sweeney, D-Gloucester, said the proposal would allow the TTF to pay up to 5% interest to the pension fund and thus create a "reliable and positive return" for a system that lost 1% on its overall investments last year.
Fabian noted that the policy would expand New Jersey's dependence on its own credit quality while steepening a downward trajectory of the state's rating overall and amplify future downgrades. An underfunded pension system has contributed to 10 New Jersey credit downgrades since early 2010 including a one notch drop by S&P Global Ratings on Nov. 14 to A-minus. The state is rated A2 by Moody's, A by Fitch Ratings and A by Kroll Bond Rating Agency.
"While it is true that a TTF bond purchased by the pension fund would mean New Jersey 'paying interest' to pensioners not Wall Street, this construction is little more than New Jersey writing itself an IOU to make pension contributions later," said MMA partner Matt Fabian in a report Tuesday.
Fabian cautioned that that the proposal would increase the pension fund's credit exposure to the state and reduce pressure on elected officials to fund the system with "legitimate investments." The Garden State entered 2016 with $40 billion in pension liabilities, according to Moody's Investors Service. The state's pension system dropped from $79 billion to $73 billion last year.
"It would not satisfy the state's own target investment return of 7.9%, which is nowhere near the interest rate being paid on actual TTF bonds," said Fabian. "Conversely, it would create an open-ended political risk for the pension fund to buy TTF and/or other state-issued bonds at favorable rates so as to keep borrowing costs low while New Jersey's market cost of capital assumedly rises."
Fabian pointed out that Puerto Rico tried a similar approach to New Jersey when it sold its own pension system a long-dated COFINA capital appreciation bond. The island's government then required the pension fund to get approval from the Government Development Bank for Puerto Rico, which Fabian said was likely done to protect COFINA's liquidity. He said that as the risk of nonpayment has risen on the COFINA bonds, the value and liquidity of the pension fund investment has dropped even further.
