Saturday, June 12, 2010

Illinois suffers new credit rating blow

Illinois suffers new credit rating blow
By Nicole Bullock in New York and Hal Weitzman in Chicago
Copyright The Financial Times Limited 2010.
Published: June 12 2010 00:10 | Last updated: June 12 2010 00:10

Illinois’ unwillingness to tackle its budget woes prompted Fitch on Friday to become the second agency in a week to downgrade the cash-strapped state, which is likely to push up the state’s borrowing costs as it prepares to issue new debt.

Fitch lowered the rating on Illinois’ general obligation bonds from “A+” to “A” and assigned them a negative outlook, signalling it could downgrade the state further. The move came a week after Moody’s moved the state’s general obligation rating to A1 from Aa3. Standard & Poor’s rates Illinois “A+”.

“Something significant needs to happen on either side of the budget – either cutting spending or raising revenues,” said Karen Krop of Fitch. “Now they are relying on deficit borrowing.”

Ms Krop said Illinois has budgeted to raise more than $8bn with bonds in the current and next fiscal years. “There doesn’t seem to be an endgame,” she said.

Illinois’ budget situation is among the worst in the US. The state faces a $13bn budget deficit for the financial year that begins on July 1. More than $6bn of that is unpaid bills from the current year, which have prompted state prisons to let out inmates early, and the state to cut 20,000 teachers and staff.

Illinois’s legislature last month passed a budget bill, but the proposal is billions of dollars short and calls for outstanding payments to be delayed further.

The legislature has now gone into recess, leaving Pat Quinn, the state governor, to balance the budget.

Mr Quinn has proposed borrowing the $4bn needed to cover the pension contributions in order to avoid severe cuts, a plan that has passed the Illinois House but has stalled in the Senate, with Republicans refusing to approve it.

Yields on some Illinois bonds on Friday rose above those of California, the poster child for local financial problems. The state’s 10-year bonds were quoted at 4.20 per cent while California’s 10-year bonds were quoted at 3.95 per cent, according to one trading desk.

“The market is growing more careful about Illinois,” said Matt Fabian, managing director at Municipal Market Advisors. “Higher yields are one of the costs of a poorly balanced budget.”

This week, Cook County, which comprises the city of Chicago, had to boost the proposed yields on nearly $700m of bonds to entice investors, Mr Fabian said.

In the credit derivatives market, dealers bid up the cost of default protection on Illinois debt by 17bps to 283bp on Friday, according to Markit. That means it costs $283,000 a year to insure $10m of Illinois bonds for five years, compared with $290,000 for Californian bonds.

The Markit MCDX North America Index for municipal bonds this week rose about 200bp for the first time in nearly a year.

CDS for municipal bonds is a very small part of the overall market, which is dominated by trading in corporations and sovereigns.

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