Default Swaps in U.S. Fall the Most in 2012 on Fed Views

A benchmark gauge of U.S. company credit risk dropped the most this year after Federal Reserve officials indicated that borrowing costs will stay low to support the economic recovery.

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, declined 5.3 basis points to a mid-price of 96.8 basis points at 5:04 p.m. in New York, according to Markit Group Ltd. That’s the biggest decline since Dec. 20.

The gauge slid as Fed Vice Chairman Janet Yellen endorsed “highly accommodative” policy in a New York speech yesterday, saying the central bank probably won’t meet its goal of full employment for years while inflation remains in check. New York Fed President William C. Dudley said today in Syracuse, New York, that he still supports holding the target lending rate close to zero through late 2014.

The credit-default swap index is reacting to “the sudden and dramatic shift in risk aversion as the market moves from risk-on to risk-off to risk-on again,” Adrian Miller, a fixed- income strategist at GMP Securities LLC in New York, said by e- mail. “Under such a seesaw environment, we see a narrowing of transactional breadth.”

The index, which typically falls as investor confidence improves and rises as it deteriorates, has fallen since touching 105 basis points on April 10, the highest level since January.

Bank Swaps Drop

Credit-default swaps on U.S. banks decreased, with contracts on Citigroup Inc. (C) declining 21.2 basis points to 240.9 basis points and those on Goldman Sachs Group Inc. (GS) falling 19.6 to 260, according to data provider CMA, which is owned by CME Group Inc. and compiles prices quoted by dealers in the privately negotiated market.

Contracts on Bank of America Corp. (BAC) dropped 20.9 to 259.8, and those on its Merrill Lynch & Co. unit declined 24 to 280.2, the data show.

Swaps on debt from American International Group Inc. (AIG) fell 23 to 217, CMA data show. Deutsche Bank AG, Barclays Plc and Credit Suisse Group AG are preparing bids for a $7.49 billion mass of real estate debt assumed by the Federal Reserve Bank of New York in 2008, according to people familiar with the potential sale.

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.

Credit-default swaps tied to MBIA Inc. (MBI) eased after it settled a lawsuit with Aurelius Capital Management LP in which the hedge fund claimed the 2009 split of MBIA’s bond-insurance business hurt owners of $240 billion of debt while benefiting stock investors. The contracts declined 3.1 percentage points to 14.4 percent upfront, and those on its unit MBIA Insurance Corp. dropped 3 percentage points to 25.5 percent upfront, CMA data show.

To contact the reporter on this story: Mary Childs in New York at mchilds5@bloomberg.net

To contact the editor responsible for this story: Alan Goldstein at agoldstein5@bloomberg.net

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