California Kicks Off 1st Part of Bond Sale

California sold the first phase of its long-awaited $11.9-billion power bond deal Wednesday, as about 40 large bond mutual funds snapped up $4.25 billion of the adjustable-rate securities in just a few hours.

“We were extremely pleased with investor demand and the breadth of market interest,” said state Treasurer Phil Angelides. “Today’s market response validates the hard work and perseverance which has been brought to this transaction.”

Proceeds from the $11.9-billion power bond sale will repay loans from banks and the state’s general fund that helped the state purchase power during California’s energy crisis in 2001. The customers of the state’s major utilities will pay off the bonds through surcharges of $2.50 to $3.50 in their monthly utility bills.

Wednesday’s successful sale bodes well for the state’s planned sale of $6.75 billion of fixed-rate bonds and $900 million of taxable bonds during the week of Nov. 4, traders said. The fixed-rate portion is expected to draw interest from individual investors throughout the state, who would not have to pay state and federal taxes on interest from the bonds.

The $4.25 billion in variable- rate bonds were priced to yield 1.80%. Demand exceeded supply, with about $1 billion in orders that could not be filled, bankers said.

Even with the high demand, the state had to pay a slightly higher rate than the 1.75% it currently pays on similar securities.

“It’s a better credit at a good rate,” said Todd Pardula, portfolio manager of the California Tax-Free Money Fund for American Century Investments in Mountain View, Calif. “We thought the deal looked attractive, so we participated. We haven’t heard how much we got yet.”

But Steve Galiani, managing director for Wells Capital Management in San Francisco, which manages more than $12 billion of securities, said his firm opted not to buy the bonds. He called the pricing “too aggressive,” meaning he thought the yields were too low given the risks.

“However, the underwriters would say the fact they got the deal done at this rate bodes well for sale of the fixed-rate portion,” Galiani said.

Indeed, it is next month’s sale that most of the bond market is awaiting -- $7.65 billion of bonds, $900 million of which are taxable. The bulk of the $6.75-billion tax-free fixed-rate portion is backed by a letter of credit or other guarantee to ensure that investors get repaid if something goes wrong, bankers said. The real test will be how the bonds without the extra guarantees sell, bankers said.

“The market as a whole has had a hugely positive response to the sale,” said Peter Hill, managing director and head of public finance for J.P. Morgan, the lead underwriter for the bonds.

“They understand the [bonds] and have bought into the state treasurer’s and the PUC’s plan of finance,” he said, referring to the state’s Public Utilities Commission.

To attract individual investors in November to the fixed-rate bonds, the state will allow orders from individual customers at least a day before big institutional investors such as mutual funds and insurance companies can buy the bonds, Hill said. Bonds will be sold in denominations as low as $5,000.

The tax advantages of investing in municipal bonds can be powerful. For a married couple in the 36.5% combined federal and state marginal tax bracket (that bracket begins at taxable income of about $112,000), a California muni yield of 5% is equivalent to a fully taxable yield of 7.9%, according to the California Municipal Bond Advisor newsletter in Palm Springs.

“There are enough people looking for yield right now that they will buy these bonds,” said Robert Gore, partner and manager of the municipal bond department for Crowell, Weedon & Co. in Los Angeles.

But given the obstacles the deal has faced, he said, “I don’t see a groundswell of interest.”

The bonds, expected in May 2001, have been delayed for more than a year by political and legal wrangling. The bonds carry investment-grade ratings from three Wall Street credit-rating firms and are being sold by the state’s Department of Water Resources, which began buying power for the utilities in January 2001.

Just last week, the Pacific Gas & Electric unit of PG&E; Corp. filed a lawsuit challenging a plan to use utility revenue to back the bonds. Although the lawsuit did not cause credit raters to change their ratings on the bonds, Standard & Poor’s Corp. stated Monday in a report that if a court should decide that the revenue backing the bonds was “materially ‘unjust and unreasonable,’ the implication for credit quality could be severe.”