But investors have learned a lot about the pitfalls of debt since the state tried to shore up its fund a few years ago. This time the municipal bond markets are jittery, and federal securities regulators are investigating whether Illinois has been properly describing its pension fund and the risks it may pose.
Amid the heightened oversight, Illinois is providing more information about its troubled finances than in the past. So much unfavorable detail is emerging that the bond issue will test investor faith in a deeply troubled state’s commitment to do whatever is necessary, raise taxes or cut services, to keep its promises to bondholders.
Illinois was initially scheduled to sell the bonds on Thursday. But on Monday, the sale was pushed back until next week, state officials said, so the bond markets, and overseas investors, would have more time to digest Gov. Pat Quinn’s budget address on Wednesday.
In his budget address, Mr. Quinn praised what he called “the most far-reaching public pension reform in our nation’s history,” a law passed last year sharply reducing the pensions of state workers to be hired in the future and cutting the state’s yearly pension contributions for the next few years. Some actuaries who have studied the documents have expressed strong reservations, saying the new contribution schedule is not based on any accepted actuarial methodology and puts the pension system at risk.
More warnings appear in the fine print of the governor’s budget proposal, also issued on Wednesday. Despite last year’s reform, it said the pension system is still so weak that the state may have to seek “a federal guarantee of the debt” — presumably the kind of intervention that many Republicans in Congress have been warning they will oppose.
“While the pension reform of 2010 improved the situation,” the document stated, more fixes are still needed. It suggested further benefit cuts, more bond sales, bigger contributions from the state or federal intervention. “Until one or more of these options is achieved, pension funding issues will persist.”
These grim revelations show the dilemma facing Mr. Quinn, who is balancing the state’s budget in part with a big income tax increase and trying to address the pension imbalance without cutting current workers’ benefits. With the S.E.C. watching closely, the state cannot play down its distress without risking accusations of securities fraud, like the complaint the commission filed against New Jersey last year. But if it paints too dire a fiscal picture, investors eyeing its bonds next week will demand a higher rate of interest.
John Sinsheimer, the Illinois director of capital markets, said he did not expect a problem.
“From what I’m hearing from our banks, the market is quite interested in this issue,” he said in a telephone interview.
And credit analysts said they believed that the bonds would offer an attractive premium, even though the actual risk of a default was negligible. Guy Davidson, director of municipal investments at AllianceBernstein, said similar single-A rated bonds were trading about 2.3 percentage points higher than triple-A rated bonds.
“Given the size of the deal, our traders would expect Illinois’s pension bonds to come in at higher yields,” he said, “but would expect enough demand to place all of the deal.”
Illinois’s first attempt to shore up its pension fund with a record-breaking $10 billion bond sale has long been criticized, not least because it led to the indictment of former Gov. Rod Blagojevich and several associates on influence-peddling charges. It was pitched at the time as a creative way to strengthen both the state and its pension fund, by allowing Illinois to borrow at low interest rates, then cover the borrowing cost by investing the proceeds at a projected 8 percent rate of return in its pension fund.
The strategy failed because the pension investments have so far paid a lower rate of return, roughly 3 percent, than the interest rate on the bonds, about 5.1 percent.
“The dynamic is horrific here,” said Robert G. Smith, president of Sage Advisory Services, an investment firm in Austin, Tex., who said he generally avoided bonds sold to replenish pension funds because they could backfire this way.
Mr. Sinsheimer said that with the current bonds, Illinois was making no attempt to bet on interest rates or investment returns.