Yield-starved investors aid Illinois' $850 million bond sale

CHICAGO (Reuters) - A yield-hungry U.S. municipal market brushed aside Illinois’ massive fiscal challenges and snapped up $850 million of general obligations bonds the state sold on Tuesday.

Illinois pays the market’s biggest yield penalty among states, but the spread for its bonds over Municipal Market Data’s (MMD) benchmark triple-A yield scale, which widened ahead of the issue, narrowed post-sale.

The spread for five-year bonds shrunk by 50 basis points to 231 basis points, while the 10-year bond spread narrowed by 12 basis points to a still-hefty 269 basis points.

“Everybody’s so yield-starved even though (Illinois is) barely on the fringe of investment-grade at this point,” said Greg Saulnier, MMD managing analyst.

Illinois is the lowest-rated state at a notch above junk due to its huge unfunded pension liability and chronic structural budget deficit. All three major credit rating agencies assigned negative outlooks to their ratings in the wake of the coronavirus pandemic.

The state’s fiscal woes have been compounded by the economic fallout from the pandemic, which has seen a resurgence with an increase in cases. There is also uncertainty over a constitutional amendment on the Nov. 3 ballot to replace Illinois’ flat income tax rate with graduated rates -- a move that would tax high earners more and raise about $3.1 billion annually.

Illinois, which has already borrowed $1.2 billion through the U.S. Federal Reserve’s Municipal Liquidity Facility, is hoping to avoid borrowing up to $5 billion more if unrestricted virus aid to states is approved in Washington.

Saulnier said the bond sale also might have been helped by speculation about a “blue wave” in the general election, with a Democratic president and Congress expected to approve more aid to states and local governments.

Reporting by Karen Pierog; Editing by Alden Bentley and Jonathan Oatis