Illinois wrapped up the second piece of nearly $500 million of sales-tax backed borrowing Wednesday that saw spreads sliced in half from its previous deal.
The state sold nearly $500 million
The first came Aug. 24 in the competitive sale of $130 million of new-money tax-exempt bonds on Aug. 24. The state’s first deals of the fiscal year come competitively due to rules that at least 25% of all principal issued for the year be sold through bidding.
The state returned Wednesday with $220 million of taxable, new-money, which was raised from $210 million, and $143 million of tax-exempt refunding paper which was trimmed from up to $190 million.
“Heavy investor demand for the Build Illinois bonds led to a strong pricing for the state, which included some of the lowest borrowing spreads, and therefore lowest borrowing cost, in several years,” capital markets director Paul Chatalas said in a statement. The refunding achieved $45.6 million of present value savings.
The final pricing results with a 1.25% true interest cost on the refunding coupled with use of debt service funds on hand allowed the state to trim the size of the refunding. The taxable TIC was 2.72%. Ramirez & Co. and Loop Capital Markets LLC were joint senior managers. The August sale saw a TIC of 1.31%.
The state benefited from the ongoing market hunt for yield that’s driven a willingness to overlook longer-term risk. Illinois remains the lowest rated state and pressures abound from unfunded pension liabilities and a structural budget gap.
But the buy side takes a nearer-term view and has rewarded the state for its flood of federal relief, a rebounding economy, and its management of the COVID-19 pandemic’s early wounds and that’s reflected in a steep narrowing of spreads for the Build Illinois bonds that benefit from stealth coverage from sales taxes and its general obligation paper.
“The market is willing to take on credit risk to get any yield they can” and Illinois is trading as tight as they’ve traded in a long time, said Peter Franks, director of market analysis at Refinitiv MMD.
The 10-year in this week's deal landed at a 1.38% yield with a 5% coupon, a 45 basis point spread to the Municipal Market Data’s AAA benchmark. The 10-year in the Aug. 24 sale with a 4% coupon settled at a 40 bp spread and 1.28% yield.
The bonds were rated at BBB-plus by Fitch Ratings with a positive outlook, BBB-plus by S&P Global Ratings with a stable outlook and AA-plus and stable by Kroll Bond Rating Agency. BofA Securities was the winning competitive bidder and a small portion was insured Build America Mutual insurance.
The tax-exempt spreads are about half what the state saw when it last sold Build Illinois bonds in a $250 million 2018 competitive issue where the 10-year landed at an 89 bp spread with a 3.62% yield and 5% coupon. The state received 11 bids.
The state had only begun to recover from a two-and-a-half year budget impasse that saw its GO ratings fall to one notch away from junk. The bonds were rated A-minus by Fitch, BBB by S&P, and AA-plus by Kroll.
The tax-exempt spreads this year are closer to those seen on deals before 2018 when the bonds carried high-grade ratings before revised rating criteria and the state’s falling GO ratings dragged down the sales tax credit, underscoring the longstanding penalties imposed by buyers on the Illinois name.
The 10-year in a 2016 $549 million competitive issue saw a spread of 47 bps with a 1.88% yield and 5% coupon and in a 2013 $600 million negotiated issue saw a 68 bp spread with a 2.94% yield and 5% coupon. In both deals, the bonds carried a AAA rating from S&P and AA-plus from Fitch.
The 10-year taxable bond in Wednesday’s sale saw a spread of 105 bps to Treasuries compared to a 111 bp spread on the 10-year in the 2018 deal and 104 bps in a 2016 sale.
Franks didn’t see any notable difference in the competitive versus the negotiated pricings beyond coupon structures which are guided by demand during pricing. The lower coupons offered more gross yield.
The deals were also priced far enough apart that market participants said the competitive results did not necessarily set the tone for the negotiated scale. At .93% the 10-year AAA Wednesday was five basis points over where it was when the August deal priced.
Illinois GOs have been set by MMD at a 58 bp spread nine years and out since late July. The state’s GOs started the year at a 197 bp spread. The state’s 10-year in a March outing landed at a 120 bp spread to the AAA.
“We agree with published ratings that keep Build Illinois slightly above the state's GO ratings,” CreditSights wrote in its weekly new issue preview authored by John Ceffalio, senior municipal research analyst, and Patrick Luby, senior municipal strategist. “We think if the new Build Illinois bonds come considerably tighter than Illinois GOs, then we'd prefer to stick with the GOs, which enjoy stronger liquidity.”
Fitch caps the rating at two notches above the state's general obligation rating of BBB-minus. S&P caps the rating at one notch above the state's. The deal didn’t carry a Moody’s Investors Service rating but it rates the Build Illinois credit at Baa2 with a stable outlook, the same as the state’s general obligation rating due to the lack of separation of sales tax revenue from general state operations.
Kroll Bond Rating Agency doesn’t link the ratings.
The state has $1.9 billion of outstanding senior- and junior-lien sales tax debt outstanding. Illinois levies a 6.25% sales and use tax with 80% of total collections for state use and 20% sent to local governments providing strong coverage ratios.
