Bloomberg News

U.S. Company Credit Swaps Fall to 8-Month Low on Fed Bank Tests

March 13, 2012

A benchmark gauge of U.S. corporate credit risk fell to the lowest level in eight months as the Federal Reserve said 15 of the 19 largest U.S. banks could maintain adequate capital levels even in a recession scenario in which they continue paying dividends and buy back stock.

The Markit CDX North America Investment Grade Index, which investors use to hedge against losses on corporate debt or to speculate on creditworthiness, declined 3.7 basis points to a mid-price of 91.7 basis points as of 6 p.m. in New York, according to Markit Group Ltd. That’s the biggest decline since Feb. 3 for the index, which is at the lowest level since July 7.

The measure decreased as the central bank report showed that nearly three years of economic expansion have helped U.S. banks raise profits, rebuild capital and increase liquidity after the collapse of Lehman Brothers Holdings Inc. in 2008 almost toppled the financial system. The U.S. central bank said the economic outlook has improved as the labor market gathers strength.

“The upbeat expectations regarding stress test results have provided a lift to risk assets,” Raymond Stone, an economist at Stone & McCarthy Research Associates in Princeton, New Jersey, wrote in an e-mail message.

The default swaps index, which typically falls as investor confidence improves and rises as it deteriorates, has decreased from this year’s high of 120.3 on Jan. 2.

The cost to protect Citigroup Inc.’s debt from default for five years climbed after the Fed said the third-largest U.S. bank failed to meet minimum capital requirements in the stress test.

Citigroup Swaps Rise

Citigroup Inc. (C), the lender that took the most government aid during the financial crisis, said it will resubmit its capital plan to regulators after failing to meet some minimum standards in the stress tests.

SunTrust Banks Inc., Ally Financial Inc. and MetLife Inc. also fell short by at least one measure under the central bank’s most dire economic scenario. Ally also intends to resubmit its plan, the company said in a statement.

Default swaps on Citigroup increased to as much as 215 basis points from 200 basis points before the Fed assessment, according to broker Phoenix Partners Group. The contracts, which typically rise as investor confidence deteriorates, eased to 210 basis points as of 4:56 p.m. in New York, Phoenix data show.

A basis point equals $1,000 annually on a contract protecting $10 million of debt. Credit-default swaps pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt.

To contact the reporter on this story: John Parry in New York at jparry5@bloomberg.net

To contact the editor responsible for this story: Alan Goldstein at agoldstein5@bloomberg.net


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