Company Credit-Default Swaps Rise as U.S. Manufacturing Shrinks

A gauge of U.S. corporate credit risk rose after a report showed manufacturing activity unexpectedly contracted in May at the fastest pace in four years.

The Markit CDX North American Investment Grade Index, a credit-default swaps benchmark that investors use to hedge against losses or to speculate on creditworthiness, increased 1.4 basis points to a mid-price of 80.5 basis points at 11:59 a.m. in New York, according to prices compiled by Bloomberg. That’s the highest level since April 23.

The Institute for Supply Management’s factory index contracted at the fastest pace since June 2009, indicating industry will provide scant support for the U.S. economy, pushing up the credit-swaps index, which typically rises as investor confidence deteriorates.

“Much of Monday’s activity is the result of the weaker-than-expected ISM result, which signals that the manufacturing expansion is likely to be modest in 2013,” said Guy LeBas, chief fixed-income strategist at Janney Montgomery Scott LLC in Philadelphia. “Good news is tough for credit because of the potential for higher rates, and bad news is tough for credit because, well, it’s bad news.”

The factory index fell to 49 from the prior month’s 50.7, the Tempe, Arizona-based group’s report showed today. The median forecast of 81 economists surveyed by Bloomberg was 51. Fifty is the dividing line between growth and contraction.

The yield on 10-year Treasury bonds, a benchmark for the entire fixed-income market, rose to 2.165 percent on May 28, the highest since it closed at 2.18 percent on April 5, 2012.

Deteriorating Quality

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.

Markit’s high yield index, tied to debt rated below Baa3 by Moody’s Investors Service and lower than BBB- at Standard & Poor’s, climbed 9 basis points to 399.3.

Credit quality has deteriorated among speculative-grade companies, high-yield credit analysts at Morgan Stanley led by Adam Richmond wrote in a note dated today.

“Today’s record low cost of debt has led to strong issuance and a double-digit increase in total debt for our high-yield universe,” up 10 percent year-over-year in the first quarter, he wrote. Companies are “no longer feeling the need to hoard cash,” while at the same time “the weak macro backdrop is serving as a meaningful headwind to profitability,” he wrote.

The average relative yield on speculative-grade, or junk-rated, debt widened 10.7 basis points to 519.2 basis points, Bloomberg data show.

Before it's here, it's on the Bloomberg Terminal.