Standard & Poor’s on Wednesday cut New Jersey’s credit rating on risks tied to underfunded pensions, while another troubled state, Illinois, was attempting to sell about $4bn of bonds to investors from Hong Kong to New York to meet its annual pension bill.
Illinois hopes to raise the money from a “broad and diverse” range of international and US investors, including sovereign wealth funds, big banks and insurance companies, said John Sinsheimer, the state’s director of capital markets.
The bonds are tentatively set to price on February 17.
Under-funded public pension liabilities, which are estimated to total $700bn-$3,000bn, have become a growing concern as states continue to feel the strain of the recession on their tax revenues, but federal support is being phased out.
Rival rating agency, Moody’s, on Wednesday put a negative outlook on Arizona’s Aa3 rating, reflecting uncertainty related to the expiry of federal stimulus. Republican lawmakers worry that the fiscal strife will culminate in a federal bail-out, an issue that was debated at a Congressional hearing on Wednesday.
Illinois and New Jersey have struggled with budget deficits and underfunded pensions, but they are taking different paths now to address their problems.
Chris Christie, the governor of New Jersey, has sworn off tax hikes slashing spending, including money for elementary education, instead.
Last year, the state skipped its $3bn annual pension contribution. Mr Christie wants broad pension reform, including raising the employee contribution rates, to increase the funded ratio from the current 62 per cent.
S&P cut the state’s rating by one notch to double A minus, citing “concern regarding the stresses from the state’s poorly funded pension system, substantial post-employment benefit obligations, and above-average debt levels”. Moody’s rates the state Aa2.
“Governor Christie’s pension and benefit reforms are necessary to manage the state’s pension liability and ensure long-term stability,” a spokesman for the governor said.
Illinois, which last year enacted certain pension reforms,has an unfunded liability of about $83bn, meaning that it has funds to pay just 43 per cent of what it owes, according to projections in its bond offering documents. After two weeks of meetings in Asia and Europe, Mr Sinsheimer said he was “optimistic” about the bond offering. “Investors are very interested in the changes we have made in Illinois,” Mr Sinsheimer said.
The main attraction was steep tax increases passed by Illinois earlier this year, which the state projects will reap about $10bn over the next two fiscal years.
The state is also likely to offer a high yield on the bonds relative to corporate bonds., which have rallied significantly. Pension bonds sold by Illinois last year, and which mature in four years, trade at a spread to US Treasuries of 290 basis points.
Borrowing to fund the pension is controversial. But investors take comfort in state laws that require Illinois to make its bond payments before any other bills, said Matt Fabian, managing director at Municipal Market Advisors. “It will be a drain on taxpayers and service recipients,” he said. Illinois is rated single A plus by S&P and A1 by Moody’s.
For the pension bonds, the state cannot offer the tax breaks that attract retail investors to most municipal bonds.
The risk premium that New Jersey has to pay investors versus triple A rated tax-exempt muni bonds has risen from 54bps on 10-year bonds at the start of the year to 72bps as of Tuesday.
Source: http://www.ft.com
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