State preps massive bail-out for utilities
Texas’ largest muni deal ever to help cover ’21 winter storm costs
A Texas agency is poised to issue the largest-ever municipal-bond deal in the Lone Star State, a historic $3.5 billion transaction designed to bail out natural gas utilities that incurred billions of dollars of unexpected costs during a deadly winter storm two years ago.
The Texas Natural Gas Securitization Finance Corp. plans to price the taxable municipal bonds Wednesday and Thursday. They’ ll be paid for by adjustable charges on the bills of customers of the nine utilities.
The deal has characteristics that could give some investors pause. For one thing, it has a provision allowing the bonds to be called if lawmakers decide to tap the state’s bounty of extra cash to pay off the obligations early.
Then there’s the sheer size — the biggest since at least 2020 for a taxable muni, according to data compiled by Bloomberg. That heft may require higher yields to clear a volatile market.
“When you have a big deal like this, people pick their heads up — it will likely price with some healthy concessions,” said Jason Appleson, head of municipal bonds at PGIM Fixed Income. “It’s not a small deal in any market but for taxable munis — it’s giant.”
Another twist, according to Appleson, is that many of the securities in this category — dubbed rate-recovery bonds — and of this size are for electric providers, not for natural gas utilities. That means a different set of market risks and regulators for investors to assess. For example, customers could ditch natural gas in favor of electric stoves and heating.
Two-year process
This week’s sale is the culmination of a two-year process after an epic winter storm ravaged much of the southern U.S. in February 2021. Prolonged frigid temperatures in Texas drove up demand for energy and caused the utilities to pay exceptionally high prices for natural gas, expenses they would pass on to customers.
Texas lawmakers approved a law that year allowing the costs to be securitized, so the utilities could spread them out over time and ease the burden on bill-payers. It has taken since then to have the deal evaluated by credit rating companies, choose the underwriters and get the transaction greenlit by a state oversight board.
The entire macroeconomic backdrop has been transformed since the deal was proposed, with the Federal Reserve aggressively boosting borrowing costs to tame soaring inflation.
The yield-to-worst on a benchmark index of taxable muni bonds is around 5.1%, up roughly three percentage points from June 2021 when Gov. Greg Abbott signed House Bill 1520. As a result, members of the board overseeing the sale raised the statute-required maximum interest rate to 6.5% from the initially expected 5%.
Early price discussions for the offering’s two bonds, which have weighted average lives of six and 13.5 years, respectively, are around 125 basis points over Treasuries for the shorter segment and 162.5 for the longer one, according to people with knowledge of the matter, who asked not to be identified as the discussions are private.
Jefferies Financial Group Inc. is lead manager on the sale, while Morgan Stanley and Hilltop Securities are comanagers. Seven other firms are also in the syndicate.
Underwriters UBS Group AG and Citigroup Inc. were dropped from the transaction because of state laws that bar government contracts with companies that Texas deems to have restrictive policies toward the firearms and fossil fuels industries.
A spokesperson for Jefferies declined to comment and a representative for the Texas Public Finance Authority, which is overseeing the sale, deferred to the bond documents for the offering.
The bonds carry top ratings from Moody’s Investors Service, Fitch Ratings and Kroll Bond Rating Agency.
Make-whole
The transaction includes a limited make-whole-call, meaning the issuer can buy back the bonds on any business day on or before April 1, 2026. Texas lawmakers included language in the supplemental budget bill introduced on March 2 to appropriate $3.9 billion from the general-revenue fund to pay off the bonds. That move would prevent bill-payers from shouldering the financial burden.
Separate legislation declared the winter storm a “public calamity” providing the state agency authority to pay the charges if dollars are appropriated.
For some market watchers, the prospect that the bonds could be called may curb demand. Recovery bonds are almost never callable, said Emile Ernandez, a managing director at Florida-based Kawa Capital.