Bonds

Illinois plans to sell up to $2.5 billion of general obligation debt before the fiscal year closes June 30 in its first primary market outing to benefit from upgrades that put two of its ratings in single-A territory.

The state plans to sell up to $1.5 billion of new money and is eyeing another up to $1 billion of current refunding bonds.

The proceeds would allow the state to “support the upcoming construction season, to continue the pension buyout program and, depending on market conditions and the opportunity for savings, to refund currently callable bonds,” according to a notice published Monday by Gov. J.B. Pritzker’s administration.

A portion of the new money piece may be issued as taxable bonds, the notice says.

The exact timing is still to be determined and the decision to hit the market in late spring or early summer is based on need, according to Governor’s Office of Management and Budget spokeswoman Carol Knowles.

Most of the $1.5 billion of new money would fund capital projects with about $200 million to $300 million earmarked for ongoing pension buyout programs although the size hasn’t been finalized.

Wells Fargo Securities, Goldman Sachs, and Loop Capital Markets LLC will be joint senior managers. BofA Securities, Cabrera Capital Markets LLC, Piper Sandler & Co., and Ramirez & Co Inc. are co-senior managers and another five firms round out the underwriting syndicate as co-managers.

“The state reserves the right to increase or decrease the size of the syndicate or to replace any member prior to pricing,” the notice says.

Columbia Capital Management LLC is advising the state and Chapman and Cutler LLP and McGaugh Law Group are co-bond counsel.

Pricing the deal through negotiation should provide Illinois more flexibility on timing should the market see turbulence just ahead of pricing.

State law requires 25% of all issuance during the fiscal year be sold competitively and the language is interpreted to require that the first deal of the fiscal year is sold competitive, a mark it met in September with a $700 million sale.

The failures of Silicon Valley Bank and Signature Bank added new volatility to the markets and raised new questions about how the Federal Reserve will weigh banking stability against inflation reduction in its monetary policy decisions.

Yields have come down in a flight to quality and supply remains scant but mutual fund flows recorded outflows the last two weeks — about $461 million last week following the previous week’s outflow of $308 million, per Refinitiv Lipper — and there are questions about whether regional banks will sell off their municipal holdings to raise liquidity and stabilize their balance sheets.

S&P Global Ratings in February raised the state’s rating to A-minus with a stable outlook from BBB-plus and Moody’s Investors Service last week upgraded the state to A3 and stable from Baa1. Both rewarded the state for building up reserves and paying down debts with surplus tax revenues.

Both actions followed Pritzker’s release of a proposed fiscal 2024 budget that would direct more toward reserves and supplemental pension contributions. 

In between the rating actions, the legislature’s Commission on Government Forecasting and Accountability raised state revenue projections.

Fitch Ratings rates Illinois BBB-plus with a stable outlook and market participants are watching to see if Fitch follows its counterparts when it rates the upcoming sale.

“The governor’s executive budget proposal continues some recent positive fiscal trends including an additional proposed supplemental pension contribution this year and ongoing commitment to add to the state’s reserves,” Fitch’s head of U.S. state ratings, Eric Kim, said in February when asked about the state’s proposed budget.

Secondary market trading spreads on Illinois GOs narrowed after the first upgrade and further tightened last week to 75 basis points on the one-year, 145 bps on the 10 year, and 165 bps on the 25-year to the Municipal Market Data’s AAA benchmark. That’s healthier than the 90/163/175 bp spreads just before the second upgrade.

The state’s spreads at the start of February were at 120/173/185 and closed the month — after the Feb. 23rd S&P upgrade — at 90/163/175 bps. The state’s spreads widened this year from peak lows early last year when the 10-year was trading in the 60 to 70 bp range.  Market turmoil led to a sharp widening during 2022 as an earlier round of upgrades was muted by rising interest rates and mutual fund outflows.

The three rating agencies have handed the state a series of upgrades over the last two years, moving it from the brink of a junk rating where the rating landed during the state’s two-year budget impasse that ended in mid-2017.

A hike in revenue estimates heading into the new fiscal year could pave the way for additional deposits into the rainy-day and pension stabilization funds beyond what’s proposed in Pritzker’s fiscal 2024 budget along with tax relief as the General Assembly works to pass a budget plan later this spring, the governor said last week.

The state expects another $575 million of general fund revenues in the current fiscal year as steady income and sales tax collections through February pushed worries over an economic slowdown and the impact of a potential recession further out on the horizon, said COGFA.

The agency put fiscal 2024 estimates at $50.4 billion, which tops the Governor’s Office of Management and Budget’s $49.9 billion projection by $465 million.

“There will obviously be some conversation with the General Assembly,” Pritzker said after a public appearance last week when asked about COGFA’s latest forecast. “We are already putting money into the rainy-day fund. That’s another thing we could consider with these surpluses. We still have more that we can do with regard to pensions.”

Tax relief is also on the table, but Pritzker said he wants to proceed with caution and review the stability of tax revenues.

Illinois tapped a previous budget surplus for $1.8 billion in mostly one-time tax relief last year but many of Illinois’ Midwestern neighbors — led by both Democrats and Republicans — have offered more. They, however, had built up reserves over the last decade and didn’t let billions in bills accrue, so they had more room to cut taxes.

Pritzker’s proposed $49.6 billion general funds budget leaves a $300 million balance.

The budget would raise spending in areas like education and human services, pay down an additional $50 million in outstanding bills, and make a $200 million supplemental contribution to the pension system above the $9.8 billion statutory contribution. The state has made $500 million in supplemental contributions over the last two budget cycles.

Pritzker proposed sending another $138 million from the anticipated $303 million fiscal 2024 ending balance to the rainy-day fund. The rainy-day account would also receive $45 million in what marks the first installment of the unemployment trust fund repayment of a $450 million 10-year state loan. The rainy day fund is on course to exceed more than $2 billion by the close of fiscal 2024.

“While total proposed FY2024 expenditures are nearly flat from the prior year, agency expenditures are actually proposed to increase from FY2023 by $2.7 billion, or 8.3%. With fairly conservative revenue projections for FY2024 anticipating a potential mild recession, a question going forward will be how sustainable these the proposals for increased agency spending are for future years,” the Chicago Civic Federation said in its initial review of the budget proposal.

Recession fears also loom large over the state and investor perceptions.

“The pandemic-related federal stimulus that directly added to Illinois’ coffers and indirectly supported higher tax revenues allowed the state to address some key credit issues” and the “proposed budget promises to continue to make progress in these areas,” Municipal Market Analytics said after the February S&P upgrade. “MMA is not entirely convinced that IL wouldn’t revert to prior practices if it were to encounter a meaningful shortfall in revenue as a result of a hypothetical economic downturn.”

The banking crisis now amplifies those worries.

“I am more concerned than I previously was  that the economy is headed for a recession and now somewhat worried about the impact — intended and unintended — of actions to stabilize the banking system,” MMA’s chief credit officer, Lisa Washburn, said Tuesday. “I hope that the improved governance in Illinois — cited in the upgrades — holds up if the economy turns and the pandemic-related stimulus runs out.”

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