U.S. Credit Swaps Surge by Most in Year on Fed Paring Statement

Investor confidence in U.S. corporate credit is plunging the most in more than a year as investors speculate the Federal Reserve is preparing to slow down the pace of its bond purchases.

The Markit CDX North American Investment Grade Index, a credit-default swaps benchmark that investors use to hedge against losses or to speculate on creditworthiness, increased 5.7 basis points to a mid-price of 91.4 basis points at 11:02 a.m. in New York, after yesterday climbing 3.9 basis points, according to prices compiled by Bloomberg. That’s the biggest two-day jump on a closing basis since the measure rose 8.8 in the period ended May 14, 2012, excluding rolls into new series of the benchmark.

Investors are anticipating that a strengthening U.S. economy may spur the central bank to pare the $85 billion in monthly bond buying that has bolstered credit markets. Fed Chairman Ben S. Bernanke said in a press conference yesterday that it may reduce the purchases of mortgage and Treasury securities later this year and may end them in mid-2014 if the economy continues to improve as it forecasts. That pushed the yield on the 10-year Treasury note as high as 2.47 percent, the highest since August 2011.

“We have a bond bubble, and it’s a massive bond bubble,” Robert Grimm, head of corporate trading at Odeon Capital Group LLC in New York, said in a telephone interview. “Bernanke’s trying to let a little air out of that bubble.”

Seeking Safety

The Markit CDX North America High Yield Index, which typically declines as investor confidence deteriorates, dropped 0.71 percentage point to 101.831 percent, the least since December.

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.

The U.S. two-year interest-rate swap spread, a measure of debt market stress, jumped 3 basis points to 19.3 basis points as of 11:29 a.m. in New York. Earlier, the gauge, which narrows when investors favor assets such as company debentures and widens when they seek the perceived safety of government securities, reached as high as 19.7 basis points, the most since August 27.

Concern that interest rates will rise further has sparked a sell-off in longer-dated corporate debt, leaving about 17.5 percent of the $945 billion of investment-grade bonds in the U.S. with maturities greater than 10 years trading below par, Bloomberg bond index data show. That’s up from about 15.7 percent as of June 7, and 2.9 percent on May 1.

Fire Alarm

Apple Inc.’s $3 billion of 3.85 percent bonds due in 2043 dropped 1.3 cents to 89.5 cents on the dollar yesterday, to yield 4.49 percent, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority. That’s the lowest price since they were issued April 30.

Home Depot Inc.’s $1 billion of 4.2 percent notes due in 2043 fell 1.4 cents to 94.1 cents on the dollar to yield 4.56 percent at 8 a.m. in New York, Trace data show.

“It will not be pretty and it will be a rush through the exit doors as the fire alarm has been pulled by the Fed,” Mark J. Grant, managing director at Southwest Securities Inc. in Fort Lauderdale, Florida, wrote today in a note. “There is not enough liquidity in the major Wall Street banks any longer to deal with the amount of securities that will be thrown at them and I expect the down cycle to get exacerbated by this very real issue.”

ETFs Plunge

BlackRock Inc.’s iShares iBoxx Investment Grade Corporate Bond exchange-traded fund plunged as much as 3.6 percent today and yesterday to $112.79, the lowest intraday level since December 2011.

The SPDR Barclays High Yield Bond ETF (JNK) dropped to 39.56, the least since July 25, 2012.

“Volatility will likely be exacerbated by aggressive traders using high-yield ETFs in attempts to profit from short-run price swings in the high-yield market,” Martin Fridson, chief executive officer at FridsonVision LLC, a financial research firm based in New York, said in an e-mailed note today.

More Americans than forecast filed applications for unemployment benefits last week, showing progress on reducing joblessness remains uneven amid slower growth this quarter. Sales of previously owned U.S. homes increased 4.2 percent to an annualized rate of 5.18 million, the National Association of Realtors figures showed today in Washington, surpassing the 5 million rate of sales predicted by the median forecast in a Bloomberg survey.

To contact the reporters on this story: Scott Harrison in New York at sharrison52@bloomberg.net; 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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