Chicago decision to jump into market last week pays off

Chicago attracted high-grade investors not seen in years when it sold $533 million of bonds last week in the first general obligation offering to benefit from a round of positive rating actions that shed the city’s lone junk rating.

Chicago jumped into the market Thursday with a long-planned issue.

After conducting a series of investor meetings and one-on-one calls and with the market looking more favorable, the city’s finance team decided to move up the sale that most recently was planned for early next year.

“As we were monitoring the market, it became clear that the market was responding very strongly to CPI data that had come out, economic data that had come out, and ultimately there was a real strength in the muni market because of the lack of supply,” Chief Financial Officer Jennie Huang Bennett said.

Investors scooped up the bonds, submitting $4.5 billion of orders with new high-grade investors including insurance companies that had previously shied away from the city’s GO paper. That afforded the city “pricing leverage,” Bennett said, and the city opted to upsize the transaction to $533 from $413 million.

While the city’s spreads widened since its last primary market outing late last year as they have across issuers, they narrowed by 30 to 50 basis points in the final pricing from secondary market trading spreads earlier in the fall.

“We saw a great pricing,” Bennett said. “It was a demonstration of the impact of the upgrades.”

Bennett and the finance team met with investors in New York and held one-on-one calls to promote a string of positive rating actions that followed passage in early November of the city’s 2023 budget that implemented a new pension funding policy aimed at supplementing contributions to hold growth in liabilities in check.

Fitch Ratings raised the city’s rating to BBB from BBB-minus and assigned a positive outlook. Kroll Bond Rating Agency revised the outlook on its A rating to positive. Moody’s Investors Service raised the rating to Baa3 from the junk level of Ba1 and assigned a stable outlook. S&P Global Ratings shifted the outlook to positive from stable on its BBB-plus rating.

Heading into the deal, the city’s bonds were generally trading at more than 200 basis points to the Municipal Market Data’s triple-A benchmark. The 10-year with a 5% coupon in the GO sale Thursday landed at 4.09 %, a 151 basis point spread to the AAA benchmark. The long bond maturing in 2043 with a 5.50% coupon in the deal landed at 4.83%, a 155 bp spread to the AAA.

Coupons on various maturities included 5s, 5.25s, and 5.50s to cater to market demand for premiums and discounts. Some bonds feature early calls which gives the city more flexibility as it manages its debt portfolio with an eye on preserving the ability to call bonds in years where budgetary savings are needed.

“As we were going through pricing, investors were interested in max yield,” Bennett said. “We sold certain bonds with two call features” in 2030 and the traditional 10-year call in 2032, “and we put the shorter call on the long bonds where there was a max yield …. effectively a two-year short call option for free.”

RBC Capital Markets, Siebert Williams Shank & Co., and UBS were lead managers.

The GOs carried ratings from Fitch, Moody’s, and S&P and the sale marked the city’s first in at least seven years to carry a Moody’s rating after the city froze out Moody’s when the agency cut Chicago to junk in 2015.

With interest rates on a steady march upward through November, spreads had widened sharply from the city’s last December sale, when the 10-year yield on its GO saw a 61 basis point spread to the MMD AAA benchmark. That bond was evaluated at a 233 bp last month but after last week’s sale had narrowed to a 157 bp spread.

Chicago bonds don’t trade often, as much of the GO paper is concentrated among a handful of holders, so the deal provides fresh pricing discovery that is now setting the tone for secondary trading levels.

The municipal bond market saw inflows — at $46 million — for only the second time in 18 weeks, Refinitiv-MMD said in a review of last week’s market performance. December redemptions and a dearth of supply have helped.

“It was an opportune time for Chicago,” said Daniel Berger, senior market strategist at Refinitiv-MMD.

Chicago will return the week of January 18th with a $157 million new money deal under its higher rated Sales Tax Securitization Corp. that will include the city’s first designated social bonds in a tax-exempt $103.6 million series and a $53 million taxable series.

The transaction could also include a refunding piece. Kestrel Verifiers has provided the third party opinion that it complies with social bond principles and the city has named seven specific projects that range from tree planting and vacant lot removal to affordable housing and the electrification of its fleet that can be tracked for investors, Bennett said.

UBS, RBC, and Siebert are lead managers.

The city will issue the new money under its senior lien STSC credit with ratings of AA and a positive outlook from Fitch, AAA and stable from Kroll, and AA-minus and positive from S&P. The refunding piece will sell under the second lien and carry ratings of AA-minus and stable from Fitch, AA-plus and stable from Kroll, and AA-minus and positive from S&P.

The 10-year STSC bond in the city’s December 2021 issue saw a 39 bp spread and evaluated last month at 111 bps. It’s currently evaluated at 102 bps, according to Refinitiv-MMD.

Bennett promoted the city’s pricing results with narrower spreads resulting in lower interest costs and rating actions during a Finance Committee meeting Monday to stave off an attempt to repeal an annual automatic property tax increase based on inflation that Lightfoot had won approval for last year. The increases must go to cover pension contributions and are capped at 5%.

Alderperson Brendan Reilly sponsored the ordinance that failed in a 17-11 vote to advance. Reilly called the automatic CPI increase a “smoke and mirrors to allow this administration and future administrations to hide behind when they want to justify future property tax increases.”

Bennett countered that the CPI measure factors positively with bondholders and bond raters and she read from recent reports comments listing the CPI annual hike as a feature that helps structural balance by providing an annual source of recurring revenue. It also avoids the political risk associated with having to sell big increases like the more than $500 million hike in 2015.

“The city is finally digging itself out of a history of poor financial decisions” and the municipal market and fiscal watchdogs are watching “how we exercise fiscal discipline now that our finances improved,” Bennett told the committee. “This ordinance before you today puts all of these financial accomplishments at risk.”

In meetings last week with 25 institutional investors, the city fielded questions on the political will to maintain the CPI increase and supplemental pension contributions, Bennett said.

“The rating agencies and bondholders and municipal markets see political will to raise revenue as a critical factor,” she said.

The city could have sought the maximum 5% hike to generate an additional $80 million for the recently approved 2023 $5.4 billion corporate fund budget but with rosier than expected surplus revenues decided to scrap it given expected council opposition. The levy did rise by $25 million based on new properties coming on tax rolls.