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Greece Aid Pledge Pushes European Corporate Default Swaps Lower

The cost of insuring against default on European corporate bonds fell for the first time in four days after Germany and the International Monetary Fund pledged to speed up efforts to overcome the Greek fiscal crisis.

The Markit iTraxx Crossover Index of credit-default swaps on 50 mostly high-yield companies fell 18 basis points to 438 as of 3:02 p.m. in London, after yesterday climbing to the highest level since March 22, according to Markit Group Ltd. Contracts tied to Greece’s government debt dropped 97.5 basis points to 657, CMA DataVision prices show.

German Chancellor Angela Merkel said yesterday that the “stability of the euro zone” was at stake if a loan package for Greece can’t be delivered quickly, with a lawmaker suggesting the aid may be extended to 120 billion euros ($159 billion) over three years. Concern over how staunchly the international community stood behind Europe’s most indebted nation had pushed default swaps on Greece to a record high and prompted Standard & Poor’s to cut the country’s rating to junk.

“A bigger and longer Greek aid package is what the market needs,” said Aziz Sunderji, a London-based credit strategist at Barclays Capital. “It would give Greece the breathing space to try to get its economy back on track and bring its deficit down and would underpin its short-term obligations.”

‘Extended Period’

Confidence Greece will now get the money it needs, combined with the Federal Reserve’s pledge yesterday to keep U.S. interest rates “exceptionally low” for an “extended period” to stoke an economic recovery, also helped Europe’s government bond markets. The extra yield that investors demand to hold Greece’s 10-year bonds rather than benchmark German bunds fell 92 basis points to 601, after soaring above 800 basis points yesterday, the highest ever. A basis point is 0.01 percentage point.

Greece is Europe’s most-indebted country relative to the size of its economy and has about 296 billion euros of bonds outstanding, Bloomberg data show. It may need as much as 600 billion euros in aid, according to JPMorgan Chase & Co. and Royal Bank of Scotland Group Plc estimates.

S&P cut Greece’s rating three steps to BB+ on April 27 and said bondholders may recover only 30 percent to 50 percent of their investments if the nation defaults. The New York-based firm downgraded Spain by one step to AA yesterday and also cut Portugal’s rating this week.

“From a credit perspective” the Greek aid package “will prevent the spillover of sovereign risk into the banking system, which is essential to foster the weak recovery and the recapitalization of the system,” BNP Paribas SA analysts wrote in a note to investors.

Bank Bonds

The Markit iTraxx Europe Index of 125 investment-grade companies dropped 6.8 basis points to 91.2, Markit Group prices show. The cost of insuring financial-company bonds fell the most in a month, with the Markit iTraxx Financial Index of 25 banks and insurers declining 11 basis points to 120, down from the highest level in a year, and the subordinated index plunging 15 basis points to 183, according to JPMorgan.

Credit-default swaps on Portugal dropped 37.5 basis points to 295.5 and Spain declined 13.5 basis points to 173.5, CMA prices show. Swaps linked to Italy fell after the government raised close to the maximum amount it planned from bond sales, in the first debt auction by a so-called peripheral euro-region member since the S&P downgrades. The contracts dropped 6.5 basis points to 143.5, CMA prices show.

Italy raised about 7.7 billion euros from the bond issues today, having targeted as much as 8 billion euros, according to a statement from the Treasury. The nation is rated A+ by S&P, the fifth-highest ranking.

Credit-default swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent should a company fail to adhere to its debt agreements. A basis point on a contract protecting 10 million euros of debt from default for five years is equivalent to 1,000 euros a year.

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