Bloomberg’s fuzzy math
Wednesday, May 2, 2012 - Posted by Rich Miller
* A Bloomberg headline from earlier this week…
Illinois Faces 25% Cost Increase to Borrow $1.8 Billion
The explanation…
The tax-exempt deal for the state, rated lowest by Moody’s Investors Service, includes a 10-year segment that underwriter Jefferies & Co. plans to offer to investors at 1.85 percentage points above benchmark AAA securities, according to a person familiar with the sale.
Illinois’s last general-obligation sale was on March 13 for $575 million, with 10-year securities priced to yield 1.51 percentage points above benchmark tax-exempts, according to data compiled by Bloomberg. That’s 0.34 percentage points below tomorrow’s tentative pricing plan, or a difference of 22.5 percent.
Well, that’s just silly. Borrowing costs would not have risen 25 percent. What was projected to increase 22.5 percent was the points above benchmark tax exempts that were paid in March. That’s ridiculous math and in no way justifies the headline or the rest of the breathless story, which was obviously designed to create maximum controversy ahead of the sale.
* And, no surprise, it turns out that when the bonds were actually sold they were priced to yield less than what Bloomberg had predicted. From the Wall St. Journal..
Ten-year bonds were priced to yield 3.62%, or 1.75 percentage points over a widely used municipal-bond benchmark. Ahead of the sale, comparable existing debt issued by Illinois was trading at a premium of 1.68 percentage points.
* But even though the state had $5 billion in orders for $1.8 billion of bonds, the WSJ still felt the need to trot out a lone bond vigilante…
Justin Land, a portfolio manager at Wasmer, Schroeder Co., said his firm owned some Illinois debt maturing within five years, but it was passing on this deal. Illinois “needs to get farther down the road toward fiscal responsibility before we are going to become big buyers again,” he said.
Bonded indebtedness gets paid first. Every state employee would miss out on their paychecks before bond payments were skipped. Mr. Land is right that we have a long way to go before we’re fiscally responsible, but anybody who thinks that Illinois will skip a bond payment is just downright crazy.
- PublicServant - Wednesday, May 2, 12 @ 11:59 am:
Exactly Bob. No “haircut” for the bondholders. No risk essentially doesn’t even support the 3.62% they’re getting. Where is their risk exactly?
- LIberty_first - Wednesday, May 2, 12 @ 12:16 pm:
Constitutionally pensions come before bond payments and the bond holders know it. Time to start cutting government to pay the past due bills.
- Small Town Liberal - Wednesday, May 2, 12 @ 12:22 pm:
- Constitutionally pensions come before bond payments and the bond holders know it. -
Maybe they should check to see how many of either of those payments have ever been missed. This is purely lenders making up excuses to get a little more money out of their best customers. You’re one of those customers, by the way, might want to think about which side you’re on.
- Rich Miller - Wednesday, May 2, 12 @ 12:32 pm:
===Constitutionally pensions come before bond payments and the bond holders know it===
Yeah, OK. True. But pension payments are nowhere nearly projected to get so high that they take up all state revenues.
- foster brooks - Wednesday, May 2, 12 @ 12:46 pm:
there was a big appitite for these bonds as just reported on wbbm
- Robert - Wednesday, May 2, 12 @ 12:52 pm:
==there was a big appitite for these bonds as just reported on wbbm==
It wouldn’t surprise to learn that Illinois might have been suckered into offering too high of interest rates. Thankfully, $1,800,000,000*(.0175-.0168) = only $1,260,000 in extra annual interest rate expense relative to the interest rate on the previously issued bond.
- Cincinnatus - Wednesday, May 2, 12 @ 1:34 pm:
“Bonded indebtedness gets paid first.”
Ask the GM bondholders if that is true…
- wordslinger - Wednesday, May 2, 12 @ 1:36 pm:
–Illinois got more than $5 billion in orders, state capital markets director John Sinsheimer told the paper. The money from the offering will go to refinance debt at lower rates, saving the state about $225 million, he said in the report.-
Refinancing at a lower rate would seem to be a good thing.
Riddle me this, though:
Didn’t the underwriters, through their due diligence, anticipate the over-subscription? In other words, with demand at $5 billion in orders on a supply of $1.8 billion in bonds, shouldn’t we have gotten a better price, through the magic hand of the market?
Seriously, that’s what the underwriters are supposed to do for their cut, get the best price. They’re not taking any risk when bonds sell out in 20 minutes.
The Bond Buyer provides some balance:
–The state’s budget and liquidity crisis have forced it to pay an interest rate penalty to borrow, though that spread has narrowed since the income tax hike in early 2011. The state captured its lowest true-interest cost in memory — 3.9125% — in January on a new-money tax-exempt GO issue, benefiting from a strong market. The long bond on the state’s taxable series in that deal priced at 277 basis points over comparable Treasuries. The long bond on the state’s taxable GO sale in 2010 — before the income tax increase — carried a yield of 325 basis points over Treasuries.
The spread against triple-A tax-exempt bonds on a March GO sale ranged from 55 to 168 basis points, down by as much as 100 basis points for bonds sold before the tax hike. Market participants said the spread on state GOs has held steady at about 165 basis points in the secondary.–
http://www.bondbuyer.com/news/illinois-pat-quinn-interest-rate-penalty-billion-refunding-1039076-1.html
- titan - Wednesday, May 2, 12 @ 1:39 pm:
If constitutionally pensions come before bonds, and pensions are constitutionally protected…why are we talking about creating the illusion of fixing the state’s mess by sticking it to the pensioners? Isn’t that just asking to have the “fix” nullified (and leave us worse off from the GA spending on the assumption the “fix” will work up to the point that it doesn’t)?
- LIberty_first - Wednesday, May 2, 12 @ 3:22 pm:
- Rich Miller - Wednesday, May 2, 12 @ 12:32 pm:
===Constitutionally pensions come before bond payments and the bond holders know it===
Yeah, OK. True. But pension payments are nowhere nearly projected to get so high that they take up all state revenues.
You wouldn’t know that from the reporting on the issue!
- soccermom - Wednesday, May 2, 12 @ 3:30 pm:
Cincy — Simmer down. The STATE OF ILLINOIS’ bonded indebtedness gets paid first. And I am not sure what would happen if the pension payments threatened to overwhelm the bond payments. As I understand it, the bonds are paid before the cash hits grf. So while pension payments may have constitutional primacy, the payment system is set up to pay bondholders first. Schnorf, is that right?
- capncrunch - Wednesday, May 2, 12 @ 4:20 pm:
The question is not how does the rate compare to a previous Illinois issue but how does the rate compare to rates on other states’ 10 year GO bonds? If our bonds are trading at a higher rate than other states’ equivalent debt they are obviously considered to be more risky.
- Wilson Pickett - Wednesday, May 2, 12 @ 9:13 pm:
Cap-n-Crunch is correct. And, to base any argument on “historical standards” as to the likliehood of Illinois defaulting on their bond obligations, “History is constantly being re-written every minute”. When bond holders of GM were told by Obama and his administration, “Oh, we aren’t going to play by those rules anymore.Sorry! We decided to write new rules to accomodate our own situation. We’re sorry but we are sure that you will understand.”, Obama sent a clear and chilling message to the nation’s investment and financial community that “nothing in the way of financial and business rules is set in stone anymore.” So, bond holders beware. You are on your own. The nation’s bond holders soon discovered that they were in “The Wild West” and there no longer was a local sheriff to preserve the investment rule of law and order.
I am sure that there will always be investors willing to risk 100% of their principal to make that extra 1% interest. Thank goodness we have them. For me, no thanks! The risk:reward ratio tells me to go out-of-state for my bond holdings. Indiana “yes”-Illinois “no thanks”.