Calif. Sets Sept. 23 for Tobacco Bond Sale

California on Thursday set Sept. 23 as the date for the sale of $2.3 billion in tobacco settlement bonds, part of the state’s plan to plug a $38-billion budget gap.

The tax-exempt bonds are to be repaid by future payments the state will get from tobacco firms under a 1998 liability settlement with 46 states.

But because of rising worries this year about the health of tobacco companies’ finances, California will sell its tobacco bonds with a “credit enhancement” -- a pledge that the state would make up, from its general fund, any shortfall in tobacco company payments.

That is expected to reduce the interest rate on the bonds compared with tobacco issues that don’t have enhancements.

Credit rating firm Standard & Poor’s in August cut its ratings of most tobacco bonds two levels, to as low as BBB, the second-lowest investment-grade rating. S&P; cited the threat of more smokers’ lawsuits against tobacco firms, as well as declines in U.S. cigarette consumption.

Tobacco bonds have been issued by many states and municipalities, including New York, Oregon and Wisconsin.

Current annualized yields on previously sold California tobacco bonds without credit enhancements are as high as 8.25%, according to bond dealers.

Some dealers estimated Thursday that because of California’s fiscal problems, the new bonds still would require yields of 7% or more, on the longest-term issues, to attract investors.

For California investors in the highest tax brackets, a 7% tax-exempt yield is equivalent to a yield of 11% or more on taxable bonds.

But municipal bond yields in general have been falling in recent weeks, along with yields on Treasury bonds. If the trend continues, it could save the state interest cost on the tobacco bonds.

The $2.3-billion deal will include securities maturing in four to 40 years, according to State Treasurer Phil Angelides’ office in Sacramento.

Citigroup Global Markets Inc. will serve as senior manager for the deal, with Bear, Stearns & Co., First Albany Corp. and UBS Financial Services as co-senior managers. Seventeen other investment firms will be co-managers.