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Bad timing: California seeks bond buyers amid rout in muni market

November 15, 2010 |  8:29 pm

Yet another way the California Legislature has stuck it to taxpayers: The long delay on a budget agreement this year also delayed the state’s plans to raise cash in the municipal bond market.

Now, Treasurer Bill Lockyer is trying to get investors to buy $14 billion in debt amid a broad sell-off in the bond market overall, and the worst sell-off in many tax-free muni bonds since the financial crash of late-2008.

That will mean higher interest rates on the debt than the state would have paid two months ago.

Lockyer on Monday launched the biggest portion of the debt sale: a $10-billion offering of short-term revenue anticipation notes, or RANs. The two series of notes, one maturing May 25, 2011 and the other June 28, will raise cash for the state to tide it over until tax revenue arrives in winter and spring.

Californiaflag The brokerages selling the RANs for the state are taking orders from individual investors on Monday and Tuesday. Lockyer’s office said late Monday that initial orders totaled $4.4 billion, or 44% of the total offering.

That was weaker demand than the state saw on the first day of the September 2009 RAN sale, when initial orders totaled $5.4 billion, or 61% of what was an $8.8-billion-total offering.

The state is hoping to pay annualized tax-free yields on the RANs similar to what it paid in 2009 -- between 1% and 1.5%. Those would be attractive yields for investors given that interest rates on most short-term securities are near zero, and assuming you trust that the state will repay the securities as promised.

But the final yields will be set Wednesday, when institutional investors such as money market funds put in their orders for the RANs. If individual investors’ orders don’t increase substantially on Tuesday the institutions will have more power to squeeze higher yields from the state -- good for investors but lousy for taxpayers, who will foot the bill.

After the RAN sale is completed, Lockyer plans two long-term general-obligation bond offerings to fund voter-approved infrastructure projects.

The state will sell $2 billion of taxable Build America Bonds on Thursday, a deal expected to be purchased mostly by institutions. That will be followed by the sale of $1.75 billion of conventional tax-free  bonds. . . .

Individual investors will be able to put in orders for the tax-free issues on  Friday and Monday; the final yields will be set on Nov. 23. The state usually sells tax-free bonds in maturities ranging from one year to 30 years.

The surge in long-term bond yields in general over the last week is certain to boost what the state pays on its bonds compared with what the market was demanding earlier this fall.

George Strickland, a bond fund manager at Thornburg Investment Management in Santa Fe, N.M., said market yields on some long-term muni issues have risen as much as a half-percentage-point in the last week alone.

The muni market has been slammed by the convergence of several troubling trends, including rising U.S. Treasury bond yields (which drive up interest rates in general), a glut of new bonds (besides what California is offering), and ongoing concerns about the health of state and local finances.

And one more: uncertainty over whether Congress will extend the Build America Bond program, which for two years has allowed states and municipalities to issue taxable debt subsidized by Uncle Sam. That has reduced the supply of conventional tax-free muni bonds, helping to keep yields low.

But if the program isn’t extended beyond its Dec. 31 expiration, issuers would be forced to ramp up borrowing in the tax-free market in 2011 -- potentially creating more supply problems.

-- Tom Petruno

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