CHICAGO — Steep junk-level yield penalties drew strong interest in Chicago's $347 tax-exempt sale Thursday which followed the city's pricing of $743 million of taxable securities a day earlier.
The nearly $1.1 billion general obligation issue sheds remaining general fund liquidity risks tied to the city's credit deterioration and clears its balance sheet of some operating expenses for budget relief.
The high yield on the taxable fell just a couple basis points shy of 8%, 485 basis points over the yield on the 30-year U.S. Treasury. That's a steep jump from the 265 basis point spread the city paid on its 30 year bond in its last taxable issue in 2014 well before Moody's Investors Service cut the city's GO rating to a speculative grade May 12.
The city paid steep penalties on tax-exempt tranche but the rates were more palatable with a high yield of 5.69 % on the city's longest bond maturing in 2039 for $49 million. The yield landed 252 basis points over the Municipal Market Data's top-rated benchmark of 3.17 % at the open of the market. MMD put yields at 3.78% for a single A rated credit and 4.16% for a triple-B credit, underscoring how the market values the city's GOs deep in junk prices. The tax-exempt scale offered a low yield of 3.90% in 2019. The tax-exempt piece did generally fare slightly better than the city's GO sale in late May.
Mayor Rahm Emanuel's administration sought to highlight the positives, portraying strong interest as a sign that investors are "bullish on Chicago."
Officials added that "the tax-exempt and taxable sales saw over 135 total investors" and the tax-exempt piece overall priced 19 basis points lower than the May deal.
"It is what it is," said Brian Battle, director of trading at Performance Trust Capital Partners in Chicago. The smaller tax-exempt piece did well given its size, but he described the taxable yield of nearly 8% as "eye-popping."
The Treasury pays in the low 3 % range to borrow, Mexico pays 5%, Brazil pays 6% and Chicago pays nearly 8 %, he said, adding he was thrilled the deal was completed. Battle said the city needs now needs to make good on its pledge to phase out its "tactical financial engineering" practices and "get down to doing some fundamental structural reforms."
The upcoming deal further removes remaining liquidity risks on the city's general fund by shedding bank supported credit lines in default after the Moody's GO, sales tax, and water and sewer revenue bond downgrades. It also dumps short-term debt used to cover operations on to the city's long term debt load, which prompted the need to use a taxable structure. Those expenses include some 2015 debt service payments and judgments. The deal also capitalizes interests for budget relief as the city grapples with a $420 million budget deficit and skyrocketing pension payments.
Morgan Stanley ran the books on the deal. The bonds were rated BBB-plus by Fitch Ratings and Standard & Poor's and A-minus by Kroll Bond Rating Agency. Moody's Investors Service, which rates the city's $8 billion of GO debt Ba1 was not asked for a rating.
"The market is pricing the Chicago bonds to reflect its anxiety and concern that much more needs to be done to adequately confront, manage and possibly relieve the heavy load of liabilities that face Chicago taxpayers," said Richard Ciccarone, president of Merritt Research Services.
The final yield on the 2039 term fell eight points from the preliminary pricing due to strong demand. The largest single maturity of the sale came with a 2033 maturity for $88 million after three serials were combined. It paid a yield of 5.64%.
The city did not offer a 10-year maturity but its nine year maturity in 2024 paid a 5.09 % yield, 290 basis points over MMD's benchmark of 2.19% for a similar maturity. The 2033 yield of 5.64% was 270 basis points over MMD's top benchmark 2.94% yield.
After Moody's Investors Service stripped the city of its investment grade rating, the city saw secondary trading spreads hit a high of 300 basis points. It saw spreads of 293 basis points on the 10-year maturity and 264 basis points on the longest 27-year maturity to the MMD benchmark on its GO sale in late May.
Based on the preliminary pricing scale on the tax-exempt, some maturities were oversubscribed by four to six times allowing for yields to shrink by three to eight basis points.
The taxable scale showed steep concessions were offered to investors over taxable municipal paper that carried similar triple-B to single A ratings based on the MMD taxable municipal scale.
It was "clearly priced aggressively to make sure the deal got done," said one buyside analyst whose taxable funds were drawn by the yields.
"I think the spreads on the taxable look attractive. They're very comparable to high yield corporate names in the low BB/High B range," said Triet Nguyen, co-head of municipals and corporate credit at New Oak. "Of course, from the city's standpoint, that's a significant yield penalty."
The deal offered about $28 million of paper maturing between 2019 and 2023 with a coupon of 5.383% on the early 2019 serial maturity and 6.361% on the 2023 serial. The prices reflected spreads of 375 basis points to 415 basis points over comparable Treasuries, down from a high of 435 based on an early indications scale released earlier in the day.
A 2033 term bond for $322 million was priced as 7 3/8s to yield 7.45% and a 2042 term for $397 million was priced as 7 3/4s to yield 7.98%. The terms were priced to the average life of the 2033 and 2042 maturities of 15.421 years and 20.787 years, respectively.
Treasury yields heading into Wednesday's taxable sale were 2.35% on the 10-year and 3.13% on the 30-year. The serials and 2033 term offered investors the corporate market make-whole call provision set at the Treasury rate plus 50 basis points while the 2042 term features a traditional municipal 10-year call.
