Nov. 18 (Bloomberg) -- Credit markets slumped as data showing a weakening economy exacerbated concern that the government may not do enough to stem the financial crisis.

Top-rated securities backed by subprime and commercial mortgages fell to record lows and the cost of protecting against defaults on leveraged loans and investment-grade company bonds climbed, according to banks and credit-default-swap indexes. Yields on Fannie Mae and Freddie Mac debt over benchmarks also approached records, according to data compiled by Bloomberg.

The declines came as Treasury Secretary Henry Paulson told lawmakers that a $700 billion ``rescue package was not intended to be an economic stimulus or an economic recovery package'' and reports showed the lowest confidence among homebuilders on record and the largest drop in prices paid to U.S. producers.

The government's reversal last week on using the rescue package to buy devalued assets ``really created a problem with confidence,'' Gregory Peters, the head of credit strategy at Morgan Stanley in New York, said in a telephone interview. ``In this market, investors of all types want steady leadership.''

Weakening across debt markets accelerated after commercial- mortgage securities began plunging, following reports that two borrowers with $334 million of loans bundled into bonds were about to default. Yields on top-rated bonds backed by commercial mortgages rose a record 264 basis points to 1,118 basis points more than benchmark interest rates, according to Bank of America Corp. data. A basis point is 0.01 percentage point.

The two problem commercial mortgages ``are big loans and they went bad fast,'' said Kent Born, a senior managing director in the commercial lending group at PPM America Inc. in Chicago. ``In the current market environment, any negative news is going to cause an outsize reaction.''

Subprime Bonds

All 24 ABX indexes tied to subprime-loan securities fell to new lows, including the ABX-HE-PENAAA 07-2 linked to AAA rated bonds created in the first half of 2007. That index fell 5.2 percent to 34.36, according to administrator Markit Group Ltd.

The index is down almost 29 percent this month and indicates the bonds might fetch about 34 cents for each dollar of unpaid balances. Spreads on the safest types of AAA rated commercial- mortgage bonds have climbed from 612 basis points on Oct. 31, according to Bank of America. At the end of last week, with spreads at about 850 basis points, the debt's price was about 66 cents, according to a JPMorgan Chase & Co. report.

LCDX Index

The price of the Markit LCDX index linked to U.S. leveraged loans, which falls as sentiment worsens, dropped 1.5 percentage points to a mid-price of 82.25 percent of face value, according to Goldman Sachs Group Inc.

The price of the average actively traded leveraged loan fell 2.6 cents to 71.2 cents on the dollar since Nov. 13, according to Standard & Poor's LCD.

Credit-default swaps on the Markit CDX North America Investment-Grade index of 125 companies in the U.S. and Canada jumped 15 basis points to 229 basis points as of 4:51 p.m. in New York, according to Deutsche Bank AG. In London, the Markit iTraxx Europe index rose 7 1/2 basis points to a three-week high of 164 basis points, JPMorgan prices show.

Credit-default swaps are financial instruments based on bonds and loans that are used to speculate on a company's ability to repay debt. They 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. A rise indicates deterioration in the perception of credit quality; a decline, the opposite.

Fannie, Freddie

The difference between yields on Washington-based Fannie's five-year debt and similar-maturity Treasuries soared 13.8 basis points to 143.2 basis points as of 4 p.m. in New York, the widest since Oct. 28, according to data complied by Bloomberg.

Spreads on the debt of Fannie and Freddie, the mortgage- finance firms seized by the U.S. in September, widened to records last month amid market turmoil and plans to create competing U.S.-guaranteed bank debt. Spreads rose today partly because Paulson told the Wall Street Journal he's ``not going to be looking to start up new things'' as lawmakers near a recess, reducing chances the debt will be ``explicitly'' guaranteed soon, said Margaret Kerins, an RBS Greenwich Capital agency debt strategist.

To contact the reporters on this story: Jody Shenn in New York at jshenn@bloomberg.net; Sarah Mulholland in New York at smulholland3@bloomberg.net; Shannon D. Harrington in New York at sharrington6@bloomberg.net

Last Updated: November 18, 2008 18:44 EST