California Pays Costly Yields on Tobacco Bonds. Investors demand tax-free rates high as 7%

Los Angeles Times ^ | Jan 16, 2003 | Tom Petruno

[John Jorsett]

California was forced to pay much higher-than-expected yields Wednesday to sell $3 billion in tobacco settlement bonds, in a deal that underscored investors' concerns about the state's budget woes.

The tax-free yields of as much as 7% on the longest-term tobacco bonds also were another sign of the general weakness in the municipal bond market, until recently a portfolio star for investors since 1999.

California and other states have been using bonds as a way to advance themselves some of the $200 billion that major tobacco companies in 1998 agreed to pay over 25 years, in a pact that settled the states' health liability suits against the firms.

[snip]

But brokerages handling the California sale Wednesday found that institutional investors balked at the 6.5% yield that had been offered to individual investors on the longest-term bonds earlier in the week. It took 7% to sell those securities, which officially mature in 2041 but are expected to be paid off by 2021.

[John Jorsett]

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[John Jorsett]

Article goes on to say that the yield is equivalent to a 10.4% taxable yield for someone who pays a federal rate of 33% on their last dollar, and that equivalent Treasury bonds were going for 4.96% on Wednesday.

California is paying a huge premium on these things. One thing I haven't heard is whether, in the event of default (like the tobacco companies going out of business and not paying), the holders can come after the state generally, or is the tobacco revenue the only recourse that bond holders have?

[Dog Gone]

The answer to that is not obvious, but based on the fact that California will be paying a premium, the inference is that California is on the hook for repaying them, regardless.

[proxy_user]

The tobacco companies CAN'T go out of business now. The government wouldn't allow it, for the tobacco settlement has made them a branch of the government: the treasury.

[yankeedame]

California is paying a huge premium on these things. One thing I haven't heard is whether, in the event of default (like the tobacco companies going out of business and not paying), the holders can come after the state generally, or is the tobacco revenue the only recourse that bond holders have?

One thing I'd like to know is: Are these bonds callable?

[Ernest_at_the_Beach]

Thanks for the ping!

Reality is starting to come to California!

calgov2002:

calgov2002: for old calgov2002 articles. 

calgov2002: for new calgov2002 articles. 

Other Bump Lists at: Free Republic Bump List Register

[Grampa Dave]

Thanks, John.

I had no idea that the rats under Davis had Tobacco Bonds based on the settlement and were selling them to raise money.

Just more proof, they never do anything for the chilrun.

[Grampa Dave]

FYI, this is amazing!

Did they keep these bonds as a secret for rich elite rats to invest in before they had to discount them?

[rhc2000]

These tobacco bonds are payable from the settlement monies that each state was awarded and are not obligations of the state. If the tobacco companies were to ever lose significant business or go out of business altogether, these bonds would go into default, leaving the holders with little recourse.

In addition, the 7% yield that was set yesterday has nothing to do with California's budget woes or the muni market itself, but the fact that institutions wouldn't pay 6.5% for bonds' whose security is solely dependent on the future success of tobacco companies. When other states issue tobacco bonds, they will end up having to price the issue much like California did to entice the institutional investor, who has decided that any tobacco bond will require a very attractive yield. If you own any mutual funds that invest in muni bonds, I wouldn't be surprised to see a tobacco bond or two in the portfolio.