CHICAGO Aug 14 Chicago bond prices are falling
in the U.S. municipal bond market as investors fret about the
city's growing public pension burden.
Trades of certain Chicago general obligation bonds this week
have pushed the city's so-called credit spread over Municipal
Market Data's benchmark yield scale for triple-A-rated debt to
more than 190 basis points in the intermediate maturity range
from levels around 160 basis points.
On Wednesday, Chicago GO bonds with a 5 percent coupon that
mature in January 2025 traded at 99.565/99.465 to yield just
above 5 percent. They have a spread of just over 191 basis
points over MMD's scale. The same bonds traded at a spread of
171 basis points on Aug. 8.
Chicago's credit spread exceeds the one for Illinois, which
has its own massive pension problem. The spread for the state's
10-year GO bonds, which was 155 basis points in the week ended
Aug. 2, widened in the latest week to 165 basis points.
Tim McGregor, director of municipal fixed income at Northern
Trust in Chicago, pointed to continued inaction on pension
reform as the reason for the wider spreads for Illinois and
"People who are not addressing pension issues are going to
be penalized by the market," he said.
Chicago, the third largest U.S. city, is bracing for a big
spike in pension payments because the the city has to comply
starting in 2015 with a state law that requires it to increase
pension payments for two pension funds for public safety
workers to bring their funding level to 90 percent by 2040.
A financial analysis released by Chicago Mayor Rahm Emanuel
on July 31 projects the city's budget gap of $338.7 million
for fiscal 2014 will climb to nearly $995 million in fiscal 2015
and $1.15 billion in fiscal 2016.
The city's pension payments are expected to grow from $479.5
million in 2014, which begins Jan. 1, to about $1.07 billion in
2015 and $1.11 billion in 2016, according to the financial
Shawn O'Leary, senior research analyst and manager at Nuveen
Investments in Chicago, said a multi-notch rating downgrade of
Chicago by Moody's Investors Service focused the market's
attention on the city's pensions.
Moody's on July 17 slashed Chicago's Aa3 GO rating to A3,
just a notch above the BBB level, due to the city's large and
growing pension liabilities and related budget pressures. The
rating agency also placed a negative outlook on the lower rating
due to the expected spike in the city's pension payments.
Chicago reported a $19 billion unfunded liability for its
four pension funds at the end of 2012, but Moody's pegged the
liability at $36 billion using more conservative assumptions.
A rating drop to the BBB level, the low end of investment
grade, would not immediately label Chicago's debt as high yield,
according to O'Leary.
"If they fail to find a path to pension reform, it could get
there," he added.
He said Chicago is telling investors that it is waiting for
Illinois to enact pension reform for the state retirement
system, which could then set a precedent for the city to follow.
MORE BOND SALES TO COME
A special legislative panel has been meeting since its
creation in June to reach a compromise on taming Illinois' $100
billion unfunded pension liability that is squeezing out funding
for core state services such as education and health care.
Any proposal from the committee that is ultimately enacted
into law will likely face legal challenges by public labor
unions and others as the Illinois Constitution contains strong
protection for state and local government public employee
Failure by lawmakers to pass pension reforms has left
Illinois with the lowest credit ratings among states at the
bottom of the A level.
Chicago could face another rating cut. Fitch Ratings in June
put the ratings on nearly $8.7 billion of Chicago's debt,
including AA-minus-rated GO bonds, on a watch list for a
possible downgrade, citing the city's growing unfunded pension
Standard & Poor's Ratings Services rates Chicago's GO bonds
A-plus with a stable outlook.
Big pension problems and widening credit spreads are not
deterring either Illinois or Chicago from selling debt in the
$3.7 trillion muni market.
Other large municipal bond issuers have lower credit
spreads. New York City was just 42 basis points, while
California's was 47 basis points. Puerto Rico has the widest
spread among major municipal debt issuers tracked by MMD at 320
Tom Alexander, a Chicago spokesman, said the city is
planning to sell general obligation bonds later this year.
"Markets are constantly moving so we adjust our financing
plans to reflect market realities," he added.
Illinois has sold $3 billion of debt so far in 2013,
including a June sale of $1.3 billion of GO bonds that Governor
Pat Quinn said will saddle taxpayers with an additional $130
million in debt service costs over 25 years because investors
are demanding hefty yields from the state.
"Bond sales for the balance of the calendar year are being
reviewed. Nothing firm at this time," said John Sinsheimer, the
state's capital markets director.