Bloomberg News

Bailout Cash Gives Europe Edge Over U.S. in Debt

December 05, 2012

European Central Bank President Mario Draghi

European Central Bank President Mario Draghi. Photographer: Balint Porneczi/Bloomberg

Companies in Europe are perceived to be the safest compared with their U.S. counterparts in 17 months as risks of a currency breakup diminish while politicians in the world’s biggest economy struggle to cut the nation’s deficit.

The Markit iTraxx Europe Index of credit-default swaps on 125 investment-grade companies from Spain’s Telefonica SA to engine-maker Rolls Royce Plc exceeds the U.S. equivalent by the least since July 2011, with the gap narrowing to 20 basis points yesterday. Their bonds are also gaining, with relative yields dropping below their U.S. peers for the first time since June of last year.

Europe is making a comeback in the debt markets as European Central Bank President Mario Draghi pledges to do whatever’s necessary to protect the euro, with the government bonds of Greece, Portugal, Ireland, Italy and Spain generating the biggest returns since June of 26 sovereign markets tracked by Bloomberg/EFFAS indexes. At the same time, lawmakers in the U.S. are bickering over how to avert more than $600 billion in mandated spending cuts and tax increases.

“The U.S. fiscal cliff has eclipsed the euro zone crisis as the focal point for market uncertainty,” said Nicholas Spiro, managing director at sovereign risk consulting firm Spiro Sovereign Strategy in London. The ECB “is underwriting everything now,” he said.

‘Biggest Opportunity’

Europe’s credit rally has fed through to the high-yield debt market, with junk bonds headed for the best year since 2009, almost double U.S. returns. Speculative-grade debt in euros has returned 25.1 percent this year, topping the 14.1 percent gain for American junk bonds, according to Bank of America Merrill Lynch index data.

“We look at Europe as the biggest opportunity globally,” Bruce Richards, chief executive officer of Marathon Asset Management LP, which manages $10 billion of assets, told Bloomberg Television’s “Market Makers” with Erik Schatzker and Stephanie Ruhle yesterday. “There are going to be a lot of assets available.”

Elsewhere in credit markets, Freeport-McMoRan Copper & Gold Inc., the world’s largest publicly traded copper producer, obtained $9.5 billion in financing to support its purchase of Plains Exploration & Production Co. and McMoRan Exploration Co. Humana Inc., the health-care company that is acquiring Metropolitan Health Networks Inc. (MDF:US), is planning to sell about $1 billion of bonds in its first offering in more than four years to help fund the purchase.

Rate Swaps

The U.S. two-year interest-rate swap spread, a measure of debt-market stress, fell 0.15 basis point to 11.75 basis points as of 11:45 a.m. in New York, approaching the three-week low of 11.5 reached Nov. 28. The gauge narrows when investors favor assets such as corporate bonds and widens when they seek the perceived safety of government securities.

Bonds of Santa Clara, California-based Intel Corp. (INTC:US) are the most actively traded dollar-denominated corporate securities by dealers today, with 209 trades of $1 million or more as of 11:46 a.m., according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority.

Intel Bonds

Intel, the world’s largest semiconductor maker, raised $6 billion yesterday in its first bond offering since September 2011. Its $1.5 billion of 2.7 percent notes due December 2022 climbed 0.6 cent from the issue price to 100.1 cents on the dollar, Trace data show. The relative yield over similar- maturity Treasuries fell to 110 basis points from 115.

Freeport-McMoran’s financing is being provided by JPMorgan Chase & Co. to fund the cash portion of the transaction and to repay borrowings under Plains’s existing term loans and revolving credit line, the companies said today in a statement distributed by Business Wire.

Plains had about $4.5 billion of long term debt as of Sept. 30, according to a Nov. 1 regulatory filing. It had about $503.8 million available under its senior credit line, which had $1.4 billion in commitments and a borrowing base of about $2.3 billion, according to the filing. Plains Offshore, a unit of Plains, has a $300 million revolver that expires in November 2016.

Humana, the second-biggest private Medicare insurer, may sell 10- and 30-year debt as soon as today, according to a person familiar with the transaction. Fitch Ratings said in a statement today that it expects to grade the $1 billion of securities BBB, two levels above speculative-grade.

Retiring Debt

Proceeds will go toward acquiring Metropolitan and retiring its debt and and for general corporate purposes, Humana said today in a regulatory filing.

Speculative-grade bonds are rated below Baa3 by Moody’s Investors Service and lower than BBB- at Fitch and Standard & Poor’s.

While corporate bond yields in Europe dropped to a record 2.13 percent last week, from 4.4 percent at the start of the year, according to Bank of America Merrill Lynch’s EMU Corporate Index, the price for easing Europe’s debt crisis is mounting.

The first tranche of as much as 39.5 billion euros ($52 billion) of a bailout for Spanish banks will be disbursed next week as European finance chiefs approve the latest 34.4 billion- euro payout to Greece. That’s on top of the 148.8 billion euros the nation’s already received, according to the Ministry of Finance in Athens.

Euro Breakup

Portugal will get a further 2.5 billion euros of its 78 billion-euro aid program in January, while Ireland has tapped 55.3 billion euros of its 67.5 billion-euro rescue fund. Cyprus is also negotiating a bailout.

Since July 26, when Draghi said he would do “whatever it takes” to save the 17-nation euro, the currency has appreciated versus each of its 16 major counterparts tracked by Bloomberg except the Norwegian krone. Odds on a euro breakup by the end of this year fell to 1.7 percent yesterday from 39.4 percent in June, data compiled by Dublin-based Intrade show. The probability of that happening by the end of 2013 has fallen to 33.3 percent from 57.6 percent.

Bloomberg/EFFAS indexes show the five biggest bond gains since June are nations in the EU, ranging from 9.42 percent for Spain to 124.2 percent for Greece.

Campbell Soup

In the U.S. the Congressional Budget Office in Washington says the failure of lawmakers to avert the so-called fiscal cliff of mandated tax increases and automatic spending cuts starting in January may tip the economy back into recession.

The Markit CDX North American Investment Grade Index of 125 companies including Campbell Soup Co. and Dell Inc. has climbed 20 percent to 100 basis points through yesterday from as low as 83 in September.

Default swaps on high-yield companies in Europe are the safest relative to the U.S. since October 2011. The Markit iTraxx Crossover Index of contracts on 50 companies with mostly high-yield credit ratings dropped 36 percent since the start of the year to 486 basis points from 755, while the Markit CDX North American High Yield Index fell 24 percent to 516 from 680.

The European benchmark was 30 basis points lower than the U.S. measure yesterday after being 136 basis points higher in September 2011, data compiled by Bloomberg show.

A basis point on a credit-default swap protecting 10 million euros of debt from default for five years is equivalent to 1,000 euros a year. Swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent should a borrower fail to adhere to its debt agreements.

Fiscal Cliff

Europe’s investment-grade swaps index dropped 45 percent to 118 basis points as of yesterday from as high as 214 in November 2011, while the Markit CDX North American Investment-Grade Index declined 32 percent to 100 from 148, Bloomberg data show. The European measure has been higher than the U.S. equivalent since 2010 and the gap is down from a record 64 basis points in July.

The difference will collapse to 10 basis points, according to Ioannis Angelakis, a strategist at Bank of America Merrill Lynch in London, without giving a timeframe. At the peak of the financial crisis in November 2008, the relationship was reversed and the U.S. measure exceeded the European equivalent by a record 101 basis points.

“Europe is poised to relatively outperform the U.S.,” said Angelakis. “In the U.S., fiscal cliff issues this month could keep spreads volatile.”

At least 10 companies in the European index, including Credit Agricole SA and Iberdrola SA, have fallen by more than 50 percent in the last six months, while only Computer Sciences Corp. and Goodrich Corp. dropped by more than half in the U.S.

‘Tail Risks’

Investment grade securities in Europe are also poised to outperform the U.S. this year, returning 12.1 percent compared with 10.5 percent in America. The relative yield on Bank of America Merrill Lynch’s EMU Corporate Index of investment-grade bank and company bonds fell below the spread on the bank’s U.S. Corporate Master Index last month for the first time since June 2011. The European measure last week was 10 basis points lower than the U.S. after being 59 basis points higher a year ago.

“The ECB has taken the tail risks out of the equation,” Saul Doctor, a strategist at JPMorgan in London, said in a phone interview. “People are getting more comfortable with risk in Europe and they’re starting to buy a lot more peripheral exposure.”

To contact the reporter on this story: Abigail Moses in London at Amoses5@bloomberg.net

To contact the editor responsible for this story: Paul Armstrong at Parmstrong10@bloomberg.net


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