Illinois Debt-Default Insurance Climbs to Record High (Update1)

June 17 (Bloomberg) -- The cost of insuring Illinois bonds against default rose to a record high as state lawmakers confront a $13 billion budget gap for the year starting July 1.

The price of a five-year credit-default swap to insure Illinois obligations rose 7 basis points to 309.1 basis points today, or $309,100 to protect $10 million of debt, from 302.2 basis points yesterday in New York, according to CMA DataVision, a data provider owned by CME Group Inc. The gain makes insuring bonds from the fifth-most populous state more expensive than covering debt from any other municipal issuer.

“If the spread is the widest, it says the problem is bigger than it’s ever been before,” said Peter Hayes, who oversees $106 billion of municipal bonds for New York-based BlackRock Inc. “It’s a reaction to the inability to pass a budget. We’ve seen a greater unwillingness from Illinois and the market is reacting to that.”

Legislators in Illinois passed a provisional $25.9 billion fiscal 2011 spending plan that’s about $13 billion short, and are resisting Governor Pat Quinn’s proposed $3.7 billion debt sale to make a pension payment and help close the gap. Lawmakers recessed last month without providing a way to cover the pension obligation and pay $4.5 billion in other bills.

Credit-swap costs for Illinois debt surpassed California’s, the largest U.S. municipal borrower, which saw its default- insurance contracts rise to 299.6 basis points from 298.7 basis points yesterday. A basis point is 0.01 percentage point.

Lowest Moody’s Ratings

Standard & Poor’s rates Illinois A+, two levels higher than California. Moody’s Investors Service values both at A1, the fifth-highest. The two states are the lowest-rated by Moody’s.

Illinois sold $300 million in taxable Build America Bonds to Citigroup Inc. today through a competitive offering. Debt maturing in 2035 priced to yield 7.1 percent, 297 basis points over the comparable-maturity Treasury. That is higher than the state’s $700 million negotiated Build America issue in April, when the 25-year debt priced 205 basis points above the benchmark government debt.

In a $300 million competitive offering in April, the debt yielded 210 basis points above Treasuries.

Moody’s and Fitch Ratings downgraded Illinois this month, citing the lack of political will to deal with budget issues.

“You can’t short regular cash municipal bonds, so the CDS market is the way” to bet against the securities, said BlackRock’s Hayes.

Alex Samuelson, a spokesman for New York-based Citigroup, declined to comment. Kelly Kraft, a spokeswoman for Quinn, wasn’t immediately reachable for comment about the Build America sale.