Bloomberg News

U.S. Credit Swaps Increase as Traders Shift Into New Benchmark

September 20, 2012

A benchmark gauge of corporate credit risk rose as banks, hedge funds and other money managers moved trades into a new version of the credit-default swaps index.

Series 19 of the Markit CDX North America Investment Grade Index, used to hedge against losses on company debt or to speculate on creditworthiness, traded at 96.2 basis points, 9.1 basis points higher than Series 18 as of 5:06 p.m. in New York, according to data compiled by Bloomberg. The fair value of the difference between the old and the new series is estimated to be 9 basis points, according to a JPMorgan Chase & Co. note.

New versions of Markit Group Ltd.’s indexes, which typically rise as investor confidence deteriorates and fall as it improves, are created every six months. Companies are replaced if they no longer have appropriate credit grades, aren’t among the most actively traded borrowers or fail to meet other criteria.

“Almost all the widening you’re seeing today is due to the roll,” Hans Mikkelsen, a high-grade credit strategist at Bank of America Corp. in New York, said in a telephone interview. The gap between the two series is “very close to what we were thinking” when comparing the difference in spread between the names entering and exiting the index.

The new series of the investment-grade gauge added Ford Motor Co. (F:US), MeadWestvaco Corp. (MWV:US) and Staples Inc. (SPLS:US), replacing CA Inc., GATX Corp. (GMT:US) and a unit of Vornado Realty Trust.

‘Fair Value’

“We’re close to what the fair value underlying CDS implies, so it’s a normal, healthy roll,” Dominique Toublan, a JPMorgan strategist in New York, said in a telephone interview. “People seem to have reduced their short risk positions in the last few weeks when the rally accelerated.”

Series 18 reached an 18-month low of 83 basis points last week after the Federal Reserve announced a third round of bond buying. The contracts pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt. A basis point equals $1,000 annually on a contract protecting $10 million of debt.

More Americans than forecast filed applications for unemployment benefits last week. Jobless claims decreased by 3,000 in the week ended Sept. 15 to 382,000, Labor Department figures showed today in Washington. The median forecast of 49 economists surveyed by Bloomberg projected 375,000.

The number of global corporate defaults in 2012 rose to 57, almost double the 29 defaults in all of 2011, according to a report from Standard & Poor’s. The trailing 12-month U.S. speculative-grade default rate is expected to increase to 3.7 percent by June 2013 from 2.7 percent in June 2012.

Global Defaults

U.S. companies account for 30 of this year’s defaults, while there have been 17 in emerging markets, seven in Europe and three in other developed regions. Banco Cruzeiro do Sul SA was the most recent company to default, according to the report. Trading of the lender was halted prior to Brazil’s central bank announcing the company’s liquidation Sept. 14.

Swaps tied to J.C. Penney Co. (JCP:US) rose 2.8 percentage points to 9.8 percent upfront as of 3:30 p.m. in New York, according to data provider CMA, which is owned by McGraw-Hill Cos. and compiles prices quoted by dealers in the privately negotiated market. That’s in addition to 5 percent a year, meaning it would cost $980,000 initially and $500,000 annually to protect $10 million of J.C. Penney’s debt. Chief Executive Officer Ron Johnson yesterday showcased his stores’ new layout to a group of about 300 analysts.

“The J.C. Penney pullback looks appropriate as it had gotten ahead of itself in both bonds and equity,” Noel Hebert, chief investment officer of Bethlehem, Pennsylvania-based Concannon Wealth Management LLC, said today in an e-mail. “There is still a lot of execution risk, not to mention macro risk and having to win back consumer share in a weak consumer environment.”

To contact the reporter on this story: Peter Rawlings in New York at prawlings@bloomberg.net

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


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Companies Mentioned

  • F
    (Ford Motor Co)
    • $16.53 USD
    • 0.01
    • 0.06%
  • MWV
    (MeadWestvaco Corp)
    • $42.18 USD
    • -0.23
    • -0.55%
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