CHICAGO - Chicago is prepping two general obligation bond sales that will offer the first test of the market's appetite for the city's GO paper since being slapped with two, triple-notch downgrades over its pension woes.

An ordinance authorizing the GO issuance was introduced to the council earlier this month and will come up for review by the Finance Committee and final council approval next month.

The city is eyeing a combined new money and refunding sale in February or March for $450 million then a new money issue of about $200 million in March or April, according to finance department spokeswoman Kelley Quinn.

Market participants said the city faces a skeptical investor audience due to its pension funding struggles, but it stands to benefit from its timing on several fronts.

"It's a different market now," said Matt Fabian, managing director at Municipal Market Advisors, of this month's reversal of mutual fund flows, in which inflows returned after more than half a year of outflows.

Yields on 10-year paper are down about 30 basis points since the beginning of the year.

With more willing buyers on hand with cash to invest, the city may also benefit from a market perception that Chicago has seen the worst of its credit deterioration. "They've already been downgraded and there's pension reform momentum so the risk is a lot lower" that the city's bonds will lose value, Fabian said.

The city's $8 billion of GOs are rated A-minus by Fitch Ratings with a negative outlook, A-plus with a negative outlook by Standard & Poor's, and A3 with a negative outlook by Moody's Investors Service.

Passage of state level pension reforms by Illinois lawmakers in December has trimmed spread penalties paid by Chicago and other local issuers struggling with similar pension challenges as lawmakers have pledged to tackle a local government overhaul next.

Bond proceeds will help finance the city's capital budgets from 2013 and this year. The refunding piece will extend some existing maturities by several years under an ongoing restructuring of the city's debt portfolio begun under prior Mayor Richard Daley and continued by Mayor Rahm Emanuel. Finance officials have defended the restructuring - viewed negatively by rating agencies and investors -- as needed to smooth out the city's debt repayment schedule.

While the city's debt heavy debt load is a significant factor in the city's credit assessment, it's overshadowed by the urgency of its near-term and long-term pension struggles. The city's unfunded liabilities also overshadow advances Emanuel's administration has made to chip away at a structural budget imbalance.

Moody's dropped the city's GO rating three notches to A3 in July as it applied new rating criteria putting more emphasis on a local government's pension health. Fitch Ratings Nov. 8 then socked the city by three notches, lowering its GO and sales tax ratings to A-minus from AA-minus and assigning a negative outlook.

Standard & Poor's shifted its outlook on the city's A-plus rating to negative in September.

The downgrades and negative headlines drove up interest rate penalties in trading on Chicago 10-year paper to a high of 190 basis points in August over the triple-A benchmark although it later leveled out and then narrowed again after the state pension reform package passed in December.

The city's chief financial officer, Lois Scott, warned last year after the Moody's downgrade that it would cost the city about $1 million more annually for every $100 million issued.

Emanuel has long warned that without pension reform, Chicago faces crippling budget cuts or a doubling of its property tax levy, which would drive businesses and homeowners away. The city is banking on state lawmakers for a solution and lacks an alternative in its absence.

The city wants lawmakers to overhaul pension benefits and contributions. Reforms would address its long-term woes underscored by unfunded liabilities that have risen to $19.5 billion, and stave off the looming insolvency of its municipal employees and laborers' funds. The pension system is collectively funded at just a 35% ratio.

The city also wants lawmakers to approve legislation to deal with its more pressing crisis aimed at stabilizing its public safety pension funds under a previous state mandate. The city and its legislative allies have floated a bill that would delay the full $600 million spike above what's now a $467 million contribution. Property taxes would rise between 2018 and 2021 but a shift in the in the contribution scheme from a statutory one based on employee contributions to a sounder one based on an actuarially required contribution would be put off until 2022.

Senate President John Cullerton, D-Chicago, said recently a fix for Chicago's pension crisis is a top priority in the new legislative session. Cullerton said the state level reforms could serve as a model for Chicago Public Schools which has also seen its credit rating drop over the strain of its pension obligations and that unions should come to the bargaining table.

The fix for Chicago is more complicated as an overhaul similar to that enacted for state employees wouldn't solve the city's short-or long-term woes.

"The pensions for Chicago is a real major issue which we have to deal with because if we don't, we've got built in triggers that would require dramatic increases in contributions into those pension funds," Cullerton said in the interview. "It's a crisis if we don't do anything."

Any move simply to push off the city's day of reckoning on the payment spike without a more sweeping long-term overhaul could result in further credit deterioration.

"Extending the deadline doesn't do anything for the long term risk," said Fitch analyst Arlene Bohner. "Hopefully it would be part of a larger strategy.

"Any kind of solution out of the legislature is still going to require some very hard choices ….it's at a point where it's difficult to envision any solution that wouldn't be painful," she added.

A report last week from Morningstar on the per capita aggregate pension liabilities of the nation's 25 most populous cities and Puerto Rico put Chicago at the top.

The report found Chicago carried the highest aggregate unfunded pension burden at more than $18,000 per capita. That figure is five times greater than the median of cities examined. The report covered direct pension liabilities and overlapping jurisdictions.

The city's direct liability is $7,149 but the figure rises to $18,000 when state liabilities, schools, and Cook County are factored into the equation. The state's portion of that overall liability is more than $7,000 and the report notes that the recent overhaul should help ease the state's portion of this burden going forward.

"However, the magnitude of the per capita liability facing Chicago residents is expected to remain immense going forward, barring additional pension reforms on the local level," said the report authored by Rachel Barclay.

Wells Fargo Securities is the senior manager on the first $450 million GO sale with William Blair & Co. Inc., BMO Capital Markets, and Cabrera Capital Markets LLC serving as co-senior managers. Columbia Capital Management and Kalotay & Associates are advisors.

Loop Capital Markets LLC is senior on the subsequent $200 million sale with William Blair, Goldman Sachs, and Ramirez & Co. serving as co-senior managers. A.C. Advisory Inc. and independent advisor Marty Luby are advising the city.

The city's other borrowing plans this year include a Midway International Airport sale. An ordinance submitted this month to the council authorizes the sale of up to $1 billion of new money and refunding bonds. Midway airport bonds are rated in the single-A category.

The city also plans a $400 million new-money issue of water revenue bonds and another $300 million of new money under the sewer credit later this year.

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