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Credit Swaps in U.S. Rise as Investors Consider Spanish Bailout

An index of U.S. corporate credit risk rose as statements about Spain’s bailout fueled concern that private investors would be subordinated to official lenders to the country and its banks.

The Markit CDX North America Investment Grade Index, a credit-default swaps benchmark used to hedge against losses on corporate debt or to speculate on creditworthiness, rose 4.1 basis points to a mid-price of 124.7 basis points at 4:34 p.m. in New York, according to prices compiled by Bloomberg. That’s the biggest jump since the measure climbed 5.6 basis points on May 30.

Spain asked euro-region governments for as much as 100 billion euros ($125 billion) to help shore up its banking system. Statements from German and Finnish leaders, suggesting the use of the permanent European Stability Mechanism for the funds, led to a change in market sentiment, as the swaps gauge reversed a drop of as much as 1.5 basis points early in the day.

“What everyone thought the Spanish loan was and what it turned out to be are two different things,” said Mark J. Grant, managing director at Southwest Securities Inc. in Fort Lauderdale, Florida. “People are not happy about that, and the change in the gauges reflects that aggravation.”

The ESM, which gives official creditors seniority over existing bondholders, will probably be the source of the funds, Finnish Prime Minister Jyrki Katainen said in an interview today. The German finance ministry also said the bailout program should draw from the ESM, which is scheduled to be set up next month.

“If you own Spanish sovereign debt, or any of the banks’ senior debt, you are going to be subordinated, and bondholders are not going to be happy about that,” Grant said.

‘Not Undermine’

Spain said earlier that the European bailout of its banks won’t undermine the conditions of its outstanding debt.

“This financial assistance will not only not undermine the present conditions of the current stock of Spanish public debt: it will also reinforce its overall solvency,” the Economy Ministry in Madrid said in a statement today.

The swaps gauge typically rises as investor confidence deteriorates and falls as it improves. 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.

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