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Bank of America Credit-Default Swaps Lead Surge in Lender Risk

August 11, 2011

Aug. 11 (Bloomberg) -- The cost to protect against a default by U.S. banks soared a second day and a benchmark gauge of corporate credit risk reached a 14-month high amid fear that Europe’s debt crisis will infect the global financial system and sink the economy back into recession.

Credit-default swaps on Bank of America Corp., the nation’s biggest lender, surged to the highest since April 2009 before paring the gain. A swaps index that gauges the perceived risk of owning junk bonds, which falls as sentiment deteriorates, plunged to the lowest in almost two years.

Investors are turning to the derivatives to protect against losses as European leaders struggle to contain a crisis of confidence that has sent borrowing costs for Spain and Italy to euro-region records and this week caused credit swaps on France to soar. Confidence in corporate credit deteriorated even as U.S. jobless claims fell and stocks rose.

“There’s clearly a panic going on in the market,” Andrew Feltus, a money manager at Pioneer Investment Management Inc. in Boston, said today in a Radio interview on “Bloomberg Surveillance” with Ken Prewitt and Tom Keene, discussing junk bonds. “Prices are at such a point that you can even survive a recession, but people aren’t looking at the fundamentals. They’re just looking at the technicals, and ‘get me out of here,’” said Feltus, who oversees the $2.1 billion Pioneer High Yield Fund.

Swaps on Charlotte, North Carolina-based Bank of America soared as much as 71 basis points to a mid-price of 375 basis points before trading at 345 basis points as of 9:43 a.m. in New York, according to broker Phoenix Partners Group.

Goldman, Morgan Stanley

The contracts have been pushed to the highest ever relative to its peers as investors speculate the bank will have to bolster capital after insurer American International Group Inc. this week sued to force the lender to buy back faulty mortgages.

Credit swaps on Goldman Sachs Group Inc. added 29 basis points to 224, and those on Morgan Stanley jumped 32 basis points to 289, according to data provider CMA.

“Concerns around the EU and risk in general seem to be dominating fundamentals at this point,” said Joel Levington, a managing director of corporate credit at Brookfield Investment Management Inc. in New York.

Swaps on Societe Generale SA, the French bank whose shares have plunged 16.5 percent the past two days, climbed 42 basis points to 379 basis points, CMA data show.

Helping to temper concerns the economy is slowing, first- time applications for jobless benefits in the U.S. decreased 7,000 in the week ended Aug. 6 to 395,000, the fewest since April, the Labor Department said today in Washington.

High Yield Index

The Standard & Poor’s 500 Index rose 2.2 percent to 1,145.07 at 10:22 a.m. in New York after tumbling 4.4 percent yesterday.

The Markit Group CDX North America High Yield Index, tied to the debt of 100 companies with below-investment grade ratings, dropped 0.8 percentage point to 92.2 percent of face value as of 10:29 a.m. in New York. It earlier fell to as low as 90.9, the lowest since September 2009.

The index includes companies such as Texas power producer Energy Future Holdings Corp. and Clear Channel Communications Inc. that were acquired in leveraged buyouts before the credit crisis three years ago.

A broader gauge of U.S. corporate credit risk that gains as investor confidence deteriorates climbed to the highest level since June 2010. The Markit CDX North America Investment Grade Index of credit-default swaps, which investors use to hedge against losses on corporate debt or to speculate on creditworthiness, added as much as 11.1 basis points to a mid- price of 126.5 basis points earlier today. The gauge was up 4.8 basis points to a mid price of 120.2 at 10:29 a.m. in New York.

Hedge Funds Traded

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

Investors have gravitated to the credit swaps market this week at about double the volumes from the previous month, data from London-based Markit Group Ltd. show.

Banks, hedge funds and other money managers traded 770 contracts on the benchmark investment-grade index yesterday, compared with an average of 445.6 the past month, the data show. A day earlier, 926 five-year index contracts were traded, according to Markit. Most of the trading is done in five year contracts.

--Editors: Pierre Paulden, Alan Goldstein

To contact the reporters on this story: Will Robinson in New York at; Shannon D. Harrington in New York at; Mary Childs in New York at;

To contact the editor responsible for this story: Alan Goldstein at

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