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Credit Risk Gauge Falls to Two-Month Low After Test Results

July 23 (Bloomberg) -- A benchmark indicator of corporate credit risk in the U.S. fell to the lowest level in more than two months as 84 of 91 European Union banks passed stress tests.

Credit-default swaps on the Markit CDX North America Investment Grade Index, which decline as investor confidence improves, dropped 1.9 basis point to a mid-price of 106.5 basis points, the lowest level since May 13, as of 6:03 p.m. in New York, according to index administrator Markit Group Ltd. Swaps on Ford Motor Co. and Verizon Communications fell after they reported better-than-expected quarterly profits.

EU regulators scrutinized the bloc’s banks as the region’s governments seek to reassure investors about the health of financial institutions after a debt crisis pummeled the bonds of Greece, Spain and Portugal. Releasing details on the stress tests had little effect on credit swaps because the results were so broad, said Brian Yelvington, head of fixed-income strategy at broker-dealer Knight Libertas LLC in Greenwich, Connecticut.

“It’s a huge non-event, it’s like the Y2K of banking,” Yelvington said. “The broad expectation was it wouldn’t be transparent and it wouldn’t be stringent and that’s exactly what we had delivered.”

The seven banks that failed the tests had a combined capital shortfall of 3.5 billion euros ($4.5 billion), according to the Committee of European Banking Supervisors, which coordinated the initiative.

“National authorities are in close contact with these banks to assess the results of the test and their implications, in particular in terms of need for recapitalization,” the committee said today in a statement on its website.

Not ‘Granular Enough’

The evaluations took into account potential losses only on government bonds the banks trade, rather than those they are holding to maturity, according to CEBS. That means the tests are set to ignore the majority of banks’ holdings of sovereign debt, investors said.

The results weren’t “granular enough for people to use their own assumptions,” Yelvington said. “There may be a point now where the market presses for that additional release of detail.”

The cost of insuring against losses on European financial company bonds pared a decline after a report showed the U.K. economy in the second quarter grew almost twice as much as economists forecast. The Markit iTraxx Financial Index linked to 25 banks and insurers fell 2.5 basis points to 130.5, after earlier dropping to 127.5, according to CMA.

The Markit iTraxx Europe Index of 125 companies with investment-grade ratings decreased 2.4 basis points to 111.8, Markit prices show.

Ford, Verizon Fall

Swaps on Ford declined 23.5 basis points to 582.3 and those on Verizon dropped 2 basis points to 87.6, CMA data show. Ford said it had its most profitable first half in more than a decade as buyers pay more for its new models, while Verizon’s new phones spurred subscriber growth.

“This week has been slightly better in terms of news,” said Nick Burns, a credit strategist at Deutsche Bank AG in London. “Earnings have been fairly decent.”

Credit swaps pay the buyer face value in exchange for the underlying security if a borrower fails to meet its debt obligations, less the value of the defaulted debt. A basis point, 0.01 percentage point, equals $1,000 annually on a contract protecting $10 million of debt.

To contact the reporter on this story: Mary Childs in New York at mchilds5@bloomberg.net Shannon D. Harrington in New York at sharrington6@bloomberg.net

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

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