Ahead of the State of Illinois’ monster USD 4.5bn bond deal set for tomorrow, a few secondary market trades on the state’s bonds seem suspiciously tight, said Greg Saulnier, Municipal Market Data (MMD) analyst at Thomson Reuters.
The Prairie State’s USD 4.5bn sale comes on the heels of a competitive pricing of USD 1.5bn of general obligation (GO) bonds last week. The date of this week’s sale has been a moving target, with various sources saying Monday, then Thursday, Tuesday and finally, Wednesday.
The state circulated a pre-marketing wire last Friday showing tentative spreads, including the 2026 bonds at a 175bps spread over the MMD. The bonds mature from 2020 through 2028.
A preliminary pricing wire from late Monday showed spreads wider by up to 15bps on the early bonds compared to the spreads on the Friday circular.
In the secondary market, two blocks of USD 5m of Illinois GO bonds, one due in 2026 and one due in 2029, both sold at spreads of 166bps to the MMD AAA benchmark, according to Saulnier and Daniel Berger, senior market strategist at Thomson Reuters Municipal Market Data.
That’s nearly 10bps below the 175bps spread indicated on the pre-marketing circular, Saulnier said.
“It’s suspicious to see that tighter trading today ahead of a huge deal like that,” he said. “They could just be speculating the deal is going to be a blow-out and spreads will collapse and they’ll get some value, but that would take an awful lot of guts ahead of a USD 4.5bn deal.”
The trades may also be dealer swaps, where dealers exchange bonds to set artificial prices, or a dealer agreeing to buy bonds back from a good customer who wants to get rid of the bonds ahead of the big deal, he said.
Last Friday’s premarketing wire shows the 2020 bonds trading at a spread of 115bps over the MMD benchmark, the 2021 bonds at 135bps; the 2022 bonds at 150bps; the 2023 at 165bps; the 2024-2027 bonds at 175bps and the 2028 bonds at 170bps.
A preliminary pricing wire from late Monday shows the 2020 bonds at a spread of 120bps to the MMD, or 5bps higher than the premarketing circular; the 2012 bonds at 145bps, 10 bps higher than the earlier circular; the 2022 bonds at 165bps to MMD, which is 15bps higher than the original indications; the 2023-2026 at 175bps; the 2027 at 173bps and the 2028 bonds at 170bps.
Bonds may not be yield-y enough
The lowest-rated state in the US, Illinois’ spreads remain the highest among the states, according to Berger. But they’ve tightened considerably since early summer, when the 10-year bonds were trading at an all-time high of 258bps over the MMD.
“A USD 4.5bn Illinois deal will offer significant concessions one way or another in the marketplace,” said Jim Colby, senior municipal strategist at Van Eck.
“I look at it as high-yield potential because the index I manage includes BBB and lower products, and for quite some time now, Illinois credits have fallen into that realm,” he said. “Anyone who pulled a Rip Van Winkle and looked at pricing on Illinois names or state debt, they’d be shocked, I’d imagine.”
The muni market is weaker this week amid weaker Treasuries, which may impact the state’s deal, according to Saulnier.
Depending on investors’ view of Illinois’ dysfunction, 175bps may not be sufficient lure.
“For me, (those levels) just don’t make sense,” said Patrick Tucci, portfolio manager at Foresters. “These bonds have been trading +100bps wider this year, and as an investment, it’s not something I’d be interested in, even if as a short-term play. There’s a lot of bonds to be digested and I’m not willing to play with a new issuance.”
All three ratings agencies affirmed their ratings on the state ahead of the USD 6bn in bond sales. Moody’s Investors Service rates the state’s GO bonds Baa3/negative, while S&P Global Ratings rates them BBB-/stable, and Fitch Ratings pegs them at BBB/negative.