Junk Bond Yields Drop to 4-Month Low in Europe as Sales Recover

Borrowing costs for junk-rated companies dropped to the lowest in more than four months in Europe amid a revival in issuance.

The average yield on speculative-grade bonds fell 12 basis points this week to 4.6 percent, the lowest since May 31, Bloomberg bond index data show. Portuguese power company Redes Energeticas Nacionais SGPS SA led sales to a three-week high of 940 million euros ($1.3 billion) after zero issuance the previous week, according to data compiled by Bloomberg.

Investors are seeking higher-yielding debt as economists forecast record low interest rates will remain until at least 2015 even as growth strengthens. A decline in the number of companies failing to pay their debts is also boosting confidence, with default rates in Europe falling to 3.3 percent in the third quarter from 3.6 percent a year ago, Moody’s Investors Service reported this week.

“There’s been steady funds flow into high yield as we see improving economic data, low default rates, and lack of appealing investment alternatives,” said Richard Phelan, head of European credit research at Deutsche Bank AG in London. “That’s an important driver of falling yields, and a temporary lull in new issuance can provide technical support for the secondary market.”

Investors placed $736 million in European high-yield credit funds in the week ending Oct. 9, the fifth week of inflows, Bank of America Corp. analysts led by Barnaby Martin wrote in a report today. Investment-grade funds had outflows of $383 million over the same period, according to the report.

Borrowing Costs

The average yield on high-grade corporate bonds rose to a 3 1/2-week high of 2.04 percent. The U.S. government shutdown entered an 11th day, increasing speculation the Federal Reserve will delay its plan to taper stimulus.

“Dysfunction in D.C. means the era of high liquidity lives on globally,” Bank of America Corp. analysts wrote in the report. “Expect flows to favour yield, such as high-yield credit, over safety, such as investment-grade credit, over the coming weeks in Europe.”

The Markit iTraxx Crossover Index of default swaps on 50 companies with mostly high-yield credit ratings fell 8 basis points this week to 378 basis points, the lowest since Sept. 19. The Markit iTraxx Europe Index of 125 companies with investment-grade ratings dropped 2.7 basis points to 94 basis points, also the lowest in more than three weeks.

A basis point on a credit-default swap protecting 10 million euros of debt from default for five years is equivalent to 1,000 euros a year. Swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent should a borrower fail to adhere to its debt agreements.

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