Chicago city council pitched on pension obligation bonds

CHICAGO – Chicago Mayor Rahm Emanuel's administration estimates a $10 billion pension obligation bond sale could generate more than $6 billion in long-term savings for the city.

“In today’s market, we estimate that a hypothetical issuance of fund stabilization bonds could general more than $6 billion in gross savings” and “reduce the amount needed for revenue increases,” according to a handout distributed at meetings Chief Financial Officer Carole Brown held with council members Thursday.

Scott Waguespack, a Chicago alderman

The financing plan would “provide significant reduction in cost of pension debt, materially improve the funded status of the pension funds, decrease the total amount of additional revenue required to fund pensions, saving billions for Chicago taxpayers,” says the “confidential, pre-decisional” handout labeled “Fund Stabilization Bonds.”

Proceeds of such a sale -- still labeled as a possibility rather than a certainty by the Emanuel administration -- would be used to reduce the $28 billion unfunded liability Chicago has toward its four pension funds.

The financing will not “eliminate or defer the city’s statutorily required contributions, allow for the use of proceeds for any purpose except for the benefit of the pension funds” or “add additional reinvestment risk not currently inherent in the status quo,” the document says.

Some market participants believe the arbitrage play between the interest the city would pay on taxable bonds and investment returns on invested proceeds adds risks.

The handout seeks to make the city’s case for a pension bond deal by lumping together bond and pension debts and their costs to service.

The city’s overall debt liabilities of $38.2 billion includes $28 billion of pension-related liabilities, $8.8 billion in general obligation bonds and $1.4 billion in sales tax securitization bonds. The bonds carry interest costs between 2.6% and 6.25% while the pension debt is 7% to 7.5% based on the assumed rate of rate/discount rates – the rate at which the unfunded liability is assumed to grow.

After the $10 billion issuance, the totals would remain the same at $38.2 billion but the costs to repay through 2055 would be reduced, according to a charts in the handout. The current funding schedule under the city’s overhaul now set in state statute requires the city to reach a 90% funded ratio for police and fire by 2055 and for muni and laborers by 2058.

Brown disclosed early this month she is mulling a possible pension obligation sale – which could tap the city’s securitization structure launched last year – with the aim of bringing up funded ratios to more than 50% from their current collective ratio of 26% which in turn would ease the looming contribution spikes.

When the actuarial contribution requirement hits in 2021 for police and fire funds, contributions jump by $170 million and $110 million, respectively. The spike hits for municipal and laborers' funds in 2023 when payments rise by $277 million and $33 million, respectively. More modest annual increases then follow for all four.

A potential deal could go over well with many aldermen whose approval is needed. They are up for re-election along with the mayor next year and would like to avoid further tax increases but it will also face deep scrutiny after council members were criticized in the past for too quickly signing off on complex deals like a widely loathed 2008 parking meter lease.

Progressive Caucus member Alderman Scott Waguespack said he left the meeting with many questions unanswered.

“There was so little provided it is hard to make an educated assessment in favor of it. All they gave us was a little ARC info, the Citi research report, and no details to determine if it works or not, especially in the volatile market we could see ourselves in here,” Waguespack said.

“We definitely need hearings, we need other experts to come in and either testify or provide alternative opinions and we need the question requests fulfilled - i.e. what other options are there that they have looked at, what happens to our budget, what are other scenarios if something happens in market like in 2008, etc.?” he said.

--The police fund has a $10.3 billion net pension liability, 23.7% funded ratio, and assumed rate of return of 7.25%.
--The fire fund has a $4.6 billion NPL, 20.1% funded ratio, and assumed rate of return of 7.5%.
--The municipal fund has an $11.7 billion NPL, funded ratio of 27.4%, and assumed rate of return of 7%.
--The laborers’ fund has a $1.4 billion NPL, funded ratio of 48.3%, and assumed rate of return of 7.25%.

Some market participants have panned the idea as too risky, warned a further securitization of city revenues would hurt GO values, and citied recommended practices against the use of POBs, and warnings they can lead to further distress while some have said they could help if part of a broader package to address the pension burden. Brown is expected to recommend to Emanuel whether to move forward by early next month.

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Pension obligation bond Public pensions Securitization City of Chicago, IL Chicago Sales Tax Securitization Corp Illinois
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