Munis perk up as Illinois debt-deal hopes rise

MIAMI (Reuters) - U.S. municipal bond prices perked up on Tuesday amid market talk that demand was building for a $3.7 billion bond sale by hard-pressed Illinois that state officials pushed back to next week.

"The whisper talk we're hearing is favorable," said Dominick Mondi, managing director at Mesirow Financial in Chicago. "People think they're right to delay so everyone can see what's in the governor's budget plan."

Illinois had planned this week to sell, for a second consecutive year, a big offering of taxable bonds that would cover payments to state employee pension funds. Illinois sold $3.46 billion of pension debt 13 months ago in an oversubscribed deal popular with foreign buyers.

Late on Monday a spokeswoman for the Illinois budget office said the new deal had been delayed until next week. Officials wanted to give potential buyers, including many from overseas, time to analyze a budget plan Illinois Governor Pat Quinn was scheduled to present on Wednesday.

No fixed date for the offering has been set but a market source in New York familiar with the underwriters' plans said pricing was likely to occur next Tuesday, February 23.

"I don't think they'll have any problem in getting this deal done," said Matt Dalton, who runs muni bond investor Belle Haven Investments in White Plains, New York "It's not a $10 billion deal. It's of the right size."

Foreign investors usually show enthusiasm for taxable bonds, which pay higher interest rates than the tax-exempt variety, and they have been scarce in the $2.8 trillion muni market since authorization to sell taxable Build America Bonds expired in December.

"The Build America Bonds program has been pulled away from the taxable buyers," Dalton said. "When you bring a taxable deal into the marketplace, it kind of fills the void."

A large issuer of municipal debt, Illinois is among the states most affected by the economic slowdown that began in 2007 and has had highly publicized trouble paying its bills.

The state's deteriorating financial condition led to bond rating downgrades and, according to the Illinois comptroller, left the state at the end of fiscal 2010 in "the worst fiscal position in its history."

State lawmakers last month passed a hefty increase in income tax rates to stave off a projected $15 billion deficit heading into fiscal 2012, which begins July 1.

Some analysts applauded the unpopular tax increases as a sign policymakers at America's troubled local governments were starting to take bold steps. But some market professionals said Illinois and other issuers would still have to pay high tariffs to lenders for their shaky finances.

"I think everybody is wondering what spread it will take to move that kind of size with headlines the way they've been," said Ken Naehu, managing director and head of fixed income at Bel Air Investment Advisors in Los Angeles. "There are still concerns out there."

In Tuesday's moderate secondary market trading, prices rose for nearly all maturities of municipal bonds and were large enough to trim yields on AAA-rated issues tracked by Municipal Market Data by as many as 5 basis points. Yields on AAA-rated 10-year munis ended off 5 basis points at 3.28 percent. The 30-year's yield finished at 4.86 percent, or 4 basis points lower than on Monday.

(Additional reporting by Jim Christie in San Francisco, Edith Honan in New York and Karen Pierog in Chicago; Editing by Dan Grebler)