Bond buyers’ four-year love affair with corporate debt that spawned the biggest returns since 2009 this year is showing signs of cooling.
Investors are yanking the most money from exchange-traded funds that own company notes in six months, according to data compiled by Bloomberg. Pacific Investment Management Co.’s ETF cut its holdings (BOND:US) of the debt in favor of government bonds, the data show. Relative yields on debentures globally are widening for the first month since May as Deutsche Bank AG (DBK) strategists said they’re poised to increase further.
Demand for credit is weakening as U.S. lawmakers struggle to reach an agreement to avoid about $600 billion in spending cuts and tax increases that may derail a fragile economic recovery. Without a compromise, the nation faces another recession four years after the credit crisis that caused the worst corporate debt losses on record, according to JPMorgan Chase & Co. (JPM:US)
“It’s hard to see the catalyst that would propel risk assets higher in the near-term,” said Bonnie Baha, head of global developed credit at Los Angeles-based DoubleLine Capital LP, which oversees $50 billion. “We’d rather leave a little money on the table than get caught trying to reposition portfolios in an adverse market environment.”
Pimco’s Total Return ETF (BOND:US), which has grown to include $3.3 billion of assets since its February inception, has reduced the proportion of its corporate bond holdings by more than 3 percentage points in the past month to 18.9 percent, Bloomberg data show.
BlackRock Inc.’s junk-bond ETF, the largest of its kind, reported its biggest outflow ever two days ago, while the New York firm’s investment-grade bond ETF had the most withdrawals since March over the four days ended Nov. 13, according to the data.
Spreads on bonds globally have increased 5 basis points this month after contracting by 122 basis points, or 1.22 percentage points, during the first 10 months of the year, according to Bank of America Merrill Lynch index data. The debt has gained 11.3 percent this year, the most since 2009, pushing yields to record lows, the data show.
After the “remarkable” returns on corporate bonds this year, “the incentive for putting on additional risk going into year-end and amid the cloud of uncertainty surrounding the fiscal cliff is low,” Richard Salditt, a credit strategist at Deutsche Bank AG’s securities unit in New York, wrote in a Nov. 9 note to clients. “We now see a higher probability of a continued modest correction in credit spreads.”
Elsewhere in credit markets, Barclays Plc and Eaton Corp. led borrowers in the U.S. selling at least $17.5 billion of debt to sustain 2012’s unprecedented issuance pace. Ford Motor Co. sold $1.07 billion of bonds tied to auto loans. CME Group Inc. (CME:US), the exchange operator that runs a swaps clearinghouse, got a $5 billion revolving credit line to provide temporary liquidity.
The Markit CDX North America Investment Grade Index, a credit-default swaps benchmark used to hedge against losses on corporate debt or to speculate on creditworthiness, rose 1.7 basis points to a mid-price of 108.6 basis points, the highest level since Aug. 2, according to prices compiled by Bloomberg.
The Markit iTraxx Europe Index of 125 companies with investment-grade ratings rose 1.5 to 133 at 9:58 a.m. in London. In the Asia-Pacific region, the Markit iTraxx Asia index of 40 investment-grade borrowers outside Japan rose three basis points to 126.
The indexes typically rise as investor confidence deteriorates and fall as it improves. Credit swaps 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.
The U.S. two-year interest-rate swap spread, a measure of debt-market stress, fell 0.25 basis point to 11.75 basis points. The gauge, which narrows when investors favor assets such as corporate bonds and widens when they seek the perceived safety of government securities, has climbed from 8 basis points on Oct. 17, the lowest intra-day level in Bloomberg data back to 1988.
Bonds of London-based Barclays were the most actively traded dollar-denominated corporate securities by dealers yesterday, with 214 trades of $1 million or more, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority.
The U.K.’s second-largest lender sold $3 billion of 10-year subordinated notes that can be written off in a crisis as it seeks to meet regulators’ demands to bolster capital.
Cleveland-based Eaton issued $4.9 billion of securities in five parts to fund its $11.8 billion purchase of Cooper Industries Plc. Corporate-bond sales yesterday were the most since $24.6 billion on Nov. 5 and exceed this year’s daily average of about $6.3 billion, Bloomberg data show. Dollar- denominated bond sales of $1.3 trillion in 2012 already exceeds the amount issued in all of 2009, when companies borrowed a then-record $1.24 trillion.
Ford issued a $326.2 million portion of top-rated securities maturing in 2.25 years tied to the most creditworthy borrowers to yield 13 basis points more than the benchmark interest rate, according to people familiar with the sale who asked not to be identified because terms aren’t public.
GM Financial, the provider of loans to buyers with poor credit acquired by General Motors Co., may pay 26 basis points more than the swap rate on similar debt linked to subprime customers, the people said.
Bank of America Corp., Barclays and Bank of China are the lead arrangers of Chicago-based CME’s credit line, which may be increased to as much as $7 billion, according to a regulatory filing yesterday. The company said in the document that it can also borrow from the loan to “satisfy outstanding obligations” of any defaulting clearing members.
In emerging markets, relative yields narrowed 1 basis point to 301 basis points, or 3.01 percentage points, according to JPMorgan’s EMBI Global index. The measure has averaged 351 basis points this year.
BlackRock’s $16.3 billion iShares iBoxx High Yield Corporate Bond Fund reported an outflow of 2.4 million shares on Nov. 13, equal to about $218.9 million, according to data compiled by Bloomberg. That’s the biggest daily withdrawal in the five-year history of the ETF, the biggest among those that buy junk bonds.
The firm’s iShares iBoxx Investment Grade Corporate Bond Fund, the largest of its kind, recorded redemptions of 1.7 million shares in the four days ended Nov. 13, equal to about $207 million, Bloomberg data show. That’s the biggest consecutive daily outflow for the $25.5 billion fund since March.
The five-biggest ETFs that own corporate bonds have reported $864 million of withdrawals in the four days ending Nov. 13, Bloomberg data show. That’s the most for a similar period since the first half of May, when an investor exchanged 19.7 million shares in State Street Corp.’s junk-bond ETF for the equivalent of about $779.3 million in bonds held by the fund.
“People are taking profits and moving to the sidelines a bit,” Mark Pibl, head of credit strategy at New York-based Cortview Capital Securities LLC, said in a telephone interview. “There is a lot of uncertainty.”
Relative yields are widening after dropping to this year’s low of 221 basis points on Oct. 18 as the Federal Reserve announced a third round of bond purchases to stimulate a slowing economic recovery. Yields on bonds from the neediest to the least-indebted companies fell to an unprecedented 3.38 percent on Nov. 8 as investors poured more than $82 billion into U.S. funds that buy the notes this year, according to Bank of America Merrill Lynch index and Royal Bank of Scotland Group Plc data.
Non-financial borrowers reported their first decline period in a measure of earnings since Sept. 2009, JPMorgan analysts led by Eric Beinstein said in a note yesterday. Earnings before interest, taxes, depreciation and amortization declined 0.8 percent, or $19 billion, in the three months ended Sept. 31, compared with the 12 months ended the prior quarter, according to a JPMorgan analysis of 300 investment-grade issuers.
“Third-quarter earnings were pretty unimpressive,” DoubleLine’s Baha said. “Now investors are looking toward fourth-quarter earnings and expecting them to be less impressive still.”
Company debt lost 7.5 percent in 2008, the most in data back to 1998, according to the Bank of America Merrill Lynch Global Broad Market Corporate & High Yield Index. The following year, U.S. gross domestic product fell 3.1 percent, contributing to the longest recession since the 1930s.
The greatest threat to the European high-yield bond market is weak economic growth and volatility triggered by the region’s debt crisis, Fitch Ratings said in its quarterly investor survey.
The International Monetary Fund is predicting the world economy will grow 3.3 percent this year and 3.6 percent next year, it said on Oct. 9. That compares with July predictions of 3.5 percent in 2012 and 3.9 percent in 2013. The Washington- based lender now sees “alarmingly high” risks of a steeper slowdown, with a one-in-six chance of growth slipping below 2 percent.
Unless President Obama and Congress reach an agreement on how to avoid the so-called fiscal cliff, the U.S. economy will “almost certainly sink back into recession,” according to Michael Feroli, chief U.S. economist at JPMorgan in New York.
“Though we will probably reach some sort of compromise, it’s going to be painful to get there,” Thomas Chow, a money manager at Delaware Investments in Philadelphia with about $135 billion in fixed income assets under management. “It’s usually an eleventh-hour type of compromise that’s reached, only after the market has been through severe stress.”
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