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Credit Swaps in U.S. Fall as Manufacturing Data Shrank in June

A gauge of U.S. corporate credit risk declined to its lowest level in more than a month even as U.S. manufacturing contracted for the first time since 2009.

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, decreased 3.1 basis points to a mid-price of 109.2 basis points at 4:38 p.m. in New York, according to prices compiled by Bloomberg. The measure fell to its lowest level since it closed at 108.6 basis points on May 11.

U.S. manufacturing contracted in June for the first time in almost three years, with the Institute for Supply Management’s factory index falling to 49.7 from 53.5 in May. Economists had called for a decline to 52, according to the median of 70 estimates in a Bloomberg News Survey. Readings below 50 indicate contraction. The slowdown in the U.S. may signal a weakening in demand as European leaders initiate new measures to curb the turmoil spurred by the currency bloc’s financial-debt crisis.

Credit markets withstood the contraction in U.S. manufacturing, Marc Pinto, head of corporate bond strategy at Susquehanna International Group LLP, said in a telephone interview. “We’re still looking toward further concrete actions from the Europeans.”

Rising Yields

Euro-area leaders on June 29 eliminated requirements that taxpayers get preferred creditor status on aid to Spain’s banks and relaxed the means of recapitalizing lenders in an effort to curb rising bond yields in Spain and Italy. German Chancellor Angela Merkel said after the summit that produced the plans that she maintained her rejection of joint-debt sales in the currency bloc.

The volume of trading on the benchmark will also be low this week, given the July 4 holiday in the U.S., which may offer a skewed perception of investor confidence, according to Pinto.

In China, the government’s purchasing managers’ index fell to 50.2 in June from 50.4 in May, the Beijing-based National Bureau of Statistics and China Federation of Logistics and Purchasing reported, which was less than the median drop of 0.5 forecast by 24 economists in a Bloomberg News survey. Japan’s quarterly Tankan index of large manufacturers’ sentiment was minus 1 in June, compared with minus 4 in March and a median estimate of minus 4 called for by 19 economists. A negative number means pessimists outnumber optimists.

Default Rate

The 12-month trailing default rate on U.S. speculative-grade corporate debt increased to 2.7 percent in June from 2.6 percent in May, according to a Standard & Poor’s report. The total number of defaults rose by two in June for a total of 22 for the year.

The extra yield investors demand to hold U.S. high-yield, high-risk corporate debt rather than government securities fell to 685 basis points at the end of June from 702 basis points in May, according to S&P. Investment-grade spreads declined to 213 basis points from 226 basis points.

High-yield bonds are rated below Baa3 by Moody’s Investors Service and lower than BBB- by S&P.

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