Bank Swaps, Libor Spreads Show Doubts Over Europe Bailout: Credit Markets
Money markets and the cost of protecting bank bonds from losses show investors are concerned Europe’s almost $1 trillion rescue plan may not be enough to contain the region’s sovereign debt crisis.
The Markit iTraxx Financial Index of credit-default swaps on European banks and insurers rose to 38 basis points more than the Markit iTraxx Europe Index tied to investment-grade companies from 31 yesterday. While the gap narrowed from 58 basis points before European leaders agreed to the rescue plan, the bank index on average has traded 10 basis points less the past three years. A measure of banks’ reluctance to lend also rose to more than three times the level from March.
The loan package for debt-laden nations including Greece is part of an attempt to stop a decline in the euro and stave off a sovereign default that would threaten recovery from the worst global recession since the 1930s. European financial companies, which hold more than 134 billion euros ($170 billion) in Greek, Portuguese and Spanish sovereign debt, are under scrutiny by investors concerned that they’re owed too much by Europe’s most- indebted countries.
“Sovereign risk hasn’t gone away in the slightest,” said Jim Reid, head of fundamental strategy in London for Deutsche Bank AG, Germany’s biggest bank. “What this package has done is massively reduce the tail risk in European markets without necessarily changing the medium- to long-term dynamics of financial markets.”
Elsewhere in credit markets, the extra yield investors demand to own corporate debt instead of government securities fell 8 basis points to 169 basis points, or 1.69 percentage point, after soaring 28 basis points last week, according to Bank of America Merrill Lynch’s Global Broad Market Corporate Index. It peaked at 511 basis points on March 30, 2009, and dropped to as low as 142 on April 21. Average yields fell 0.5 basis point to 4 percent.
The cost of protecting corporate and bank bonds using credit-default swaps rose today as investor “euphoria” about the European rescue measures abated, according to Fumihito Gotoh, head of Japan credit research for UBS AG in Tokyo.
Markit’s iTraxx Financial index climbed 14 basis points to 142 basis points as of 3:30 p.m. in London, JPMorgan Chase & Co. prices show, paring yesterday’s 49 basis-point decline after European Union finance chiefs agreed to 750 billion euros ($952 billion) of loans to nations facing deep budget deficits.
European financial companies hold more than 61 billion euros in Greek and Portuguese sovereign debt and more than 73 billion euros in Spanish government bonds, according to figures provided to Bloomberg News in interviews and e-mails, or culled from company reports and presentations.
Europe, U.S. Swaps
The iTraxx Europe index increased 3.5 basis points to 104.5, after dropping 32 basis points yesterday.
Credit-default swaps on the Markit CDX North America Investment Grade Index, which investors use to hedge against losses on corporate debt or to speculate on creditworthiness, rose 5 basis points to a mid-price of 104.48 basis points as of 10:50 a.m. in New York, according to Markit Group Ltd.
Credit-default swaps pay the buyer face value if a borrower fails to meet its obligations, and prices decline as perceptions of creditworthiness improve. A basis point equals $1,000 annually on a contract protecting $10 million of debt.
The Markit iTraxx Asia index of swaps on 50 investment- grade borrowers outside Japan climbed 3 basis points to 108, reducing a 28 basis-point drop.
“Soberness is returning quicker than most market participants had expected as investors start to evaluate the long-term consequences of the bailout measures,” Stefan Kolek, a credit strategist at UniCredit SpA in Munich, wrote in a client note.
Credit swaps on Greece dropped 44 basis points to 541, after tumbling 329.5 basis points yesterday, the biggest decline since March 2005, according to CMA. The swaps are still up from 364 on April 12.
Contracts on Portugal, which were 152 basis points four weeks ago, fell 4 basis points to 251. Spain declined 1 basis point to 173 basis points, while Italy fell 7 basis points to 150, CMA prices show.
“Maybe Greece won’t default in the near term or even the medium term, but the debt hasn’t gone away,” said John Anderson, head of credit at Gartmore Investments in London. “Budget deficits still need to be cut for the debt to be paid down.”
Procter & Gamble Co., the world’s largest consumer products company, started offering 50 billion yen ($538 million) of five- year bonds today in its first debt sale in the Japanese currency in almost 10 years.
The Cincinnati-based maker of Gillette razors and Tide detergent may price the notes to yield 28 basis points to 35 basis points more than the benchmark swap rate, according to a banker involved in the transaction, who declined to be identified before it’s completed.
Luxembourg plans to sell 10-year bonds in euros, one of the banks hired to manage the issue said in a statement. The top- rated nation will start selling the notes subject to market conditions, according to the statement.
Xcel Energy Corp. led $1.15 billion of U.S. investment- grade corporate bond sales yesterday, more than double last week’s issuance. The Minneapolis-based operator of utilities in eight U.S. states issued $550 million of 10-year notes, according to data compiled by Bloomberg.
Chesapeake Energy Corp., the third-largest U.S. natural gas producer, said it will raise as much as $5 billion to cut debt and achieve investment-grade credit ratings.
The company, based in Oklahoma City, said in a statement that steps such as issuing preferred stock and selling a stake in a unit will raise cash to cut debt by as much as $3.5 billion and fund increased investment in drilling for oil and gas. Chesapeake is rated BB by Standard & Poor’s, two levels below investment grade.
There were no U.S. sales of high-yield bonds yesterday, as notes rated below Baa3 by Moody’s Investors Service and lower than BBB- by S&P are known.
AmeriCredit Corp., the lender to auto buyers with poor credit, plans to sell $600 million of bonds backed by vehicle loans. Wells Fargo & Co., Deutsche Bank, and JPMorgan are underwriting the sale for the Fort Worth, Texas-based consumer finance company, according to a person familiar with the transaction.
JPMorgan and Deutsche Bank are in talks to provide about $2 billion of financing to a group led by Centerbridge Partners LP and Paulson & Co. that’s committed to investing as much as $905.4 million in bankrupt U.S. hotel chain Extended Stay Inc., two people familiar with the situation said.
The extra yield investors demand to own emerging-market bonds instead of government debt declined. The gap fell 38 basis points to 290, the biggest drop since October 2008, after expanding 70 basis points last week, according to JPMorgan’s Emerging Market Bond index. Spreads on Argentine dollar bonds over Treasuries fell 81 basis points to 696, JPMorgan’s EMBI+ index shows.
The three-month London interbank offered rate in dollars, the rate banks pay for loans, fell to 42.1 basis points from 42.8 on May 7. The rate climbed 8.2 basis points last week, the biggest increase since October 2008, a month after Lehman Brothers Holdings Inc.’s bankruptcy filing.
The difference between it and the overnight indexed swap rate, the so-called Libor-OIS spread, advanced to 19.28 basis points from 18.92 yesterday and 6 basis points on March 15.
Predictions for the spread in the months ahead, based on contracts trading in the forwards market, or so-called FRA/OIS spreads, are for 29.75 basis points by June, down from 38 on May 7 and still twice the 14.5 basis points from two weeks ago, according to UBS AG data.
“People will remain somewhat on edge,” said David Watts, a London-based strategist at CreditSights Inc. “There are still a lot of hurdles to overcome before we get settled back to where we were a month-and-a-half to two months ago.”
The European bailout may unravel if countries fail to meet austerity targets under terms of the loan package, Watts wrote with strategist Louise Purtle in a note to clients yesterday.
“You now have moral hazard at a sovereign level and investors should still be wary of the whole situation,” said Gartmore’s Anderson. “There are record deficits in just about every country in Western Europe and something ultimately needs to be done about them.”
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