U.S. Company Default Swaps Fall Amid European Bailout Optimism

A gauge of corporate credit risk decreased for the sixth time in seven trading sessions as Germany’s highest court said it will proceed with a ruling on the country’s role in the euro-area bailout fund.

The Markit CDX North America Investment Grade Index, a credit-default swaps benchmark that investors use to hedge against losses on company debt or to speculate on creditworthiness, declined 1.4 basis points to a mid-price of 93.6 basis points at 5:08 p.m. in New York, according to prices compiled by Bloomberg.

The swaps index fell after Germany’s Federal Constitutional Court said it will issue a ruling tomorrow on whether to allow the country to ratify the 500 billion-euro ($640 billion) European Stability Mechanism. The court rejected an argument that it delay the decision after the European Central Bank pledged unlimited funds last week to buy government bonds. The swaps index didn’t react to Moody’s Investors Service’s report that it may downgrade the U.S.’s credit rating unless Congress next year reduces the percentage of debt-to-gross-domestic product during budget negotiations.

“It’s just too far out and the market right now is focused on what’s going to happen in the next week or two in Europe,” David Brown, a portfolio manager who helps oversee $89 billion of fixed-income assets at Neuberger Berman in Chicago, said in a telephone interview. “There’s some legitimacy to that. There are a lot of other hurdles before we get to a Moody’s downgrade for the U.S.”

‘Fiscal Cliff’

The U.S. economy will probably tip into recession next year if lawmakers and President Barack Obama can’t break an impasse over the federal budget and if George W. Bush-era tax cuts expire in what’s become known as the “fiscal cliff,” according to a report by the nonpartisan Congressional Budget Office published on Aug. 22. The rating would likely be cut to Aa1 from Aaa if an agreement on the debt ratio isn’t reached, Moody’s said in a statement today.

Moody’s put the rating under review with a negative outlook in August 2011, when the U.S. pushed back a decision on spending and raised its so-called debt ceiling after months of political wrangling.

The swaps index, which typically falls as investor confidence improves and rises as it deteriorates, has declined from a two-week high of 102.9 basis points on Aug. 30. The contracts 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 stress in credit markets, was little changed at 14.75 basis points, the least since Nov. 4, 2010. The measure, which falls when investors favor assets such as corporate bonds and rises when they seek the perceived safety of government securities, is down from 54.7 in November, the highest since May 2009.

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