ALAMEDA, Calif. — Legislation enacted to separate California’s veterans’ home loan bond program from the state’s general fund had an immediate ratings payoff.

Gov. Arnold Schwarzenegger signed the bill Tuesday, Moody’s Investors Service put the state’s credit on watchlist for upgrade Wednesday, and Fitch Ratings issued an upgrade Thursday.

The rating actions boost the state’s plans to sell $157 million of general obligation veterans’ home loan bonds this Wednesday. The so-called Cal-Vet bonds carry the state’s general obligation backing, which lately has hurt more than helped.

After years of budget deficits, California’s GO bonds carry ratings of A1 from Moody’s and A-minus from Fitch and from Standard & Poor’s.

The Cal-Vet GO bond program is self-supporting, but debt service payments have been made from the state’s general fund, which was then reimbursed with funds from the veterans’ bond program, specifically the Veterans’ Farm and Home Building Fund of 1943.

That means that the state’s GO rating became a ceiling for the Cal-Vet GO mortgage bonds’ rating, even though the veterans’ bond fund could command higher ratings and lower interest rates on its own, according to a legislative staff analysis of the bill.

“Money that could be used on veteran housing is instead used on debt service because the general fund is acting as an anchor around the neck of the 1943 fund,” the staff report said.

The legislation, which took effect with the governor’s signature, created a new Veterans Bond Payment Fund to pay debt service while bypassing the general fund.

Fitch responded Thursday with a three-notch upgrade on $977.2 million of outstanding California veterans GO bonds to AA-minus from A-minus.

“The establishment and segregation of this fund currently eliminates the risk that the veterans’ GO debt service funds could be used by the state for other purposes,” Fitch said in its news release. The agency assigned a long-term negative outlook, citing the Cal-Vet program’s weakened financial position and loan performance in fiscal 2009.

Moody’s placed the Cal-Vet GO credit on watchlist for upgrade, citing the legislation Schwarzenegger signed the day before. The rating remains A1, at least for now.

“We plan to review the new legislation and bond documents and resolve the watchlist action in the next few weeks,” Moody’s said in its news release.

Standard & Poor’s upgraded Cal-Vet GOs to AA from AA-minus Thursday because the new law allows the bonds to be rated based on their underlying collateral, without reference to the state’s rating, said analyst Karen Fitzgerald.

California is selling the Cal-Vet bonds competitively. The deal will be priced in three series, with three separate competitive auctions. Gardner, Underwood & Bacon LLC is financial adviser, Hawkins Delafield & Wood LLP is bond counsel, and Quateman LLP is disclosure counsel.

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