Corporate Bond Spreads Widen on Fear Factor

Rough markets bring record corporate bond spreads as investors demand more reward for the risk they are taking.

Volatility and weak fundamentals in the credit markets have pushed corporate bond spreads to a four-year high, according to a new report by Standard and Poor’s, a credit-rating agency.

After stabilizing last month, spreads have reached 2003 levels, according to the report. Spreads are the additional yields investors demand in return for the risk of holding investment-grade corporate bonds. Speculative-grade paper now stands at 514 basis points, up by 85 basis points since the end of last month. Investment-grade corporate bonds have widened by 20 basis points this month, to 183 basis points as of November 19.

During October, $90 billion in corporate debt was issued, $19 billion of which was high-yield. Diane Vazza, head of Standard & Poor’s global fixed-income research group, notes that oversupply and some pullback from investors delayed the issuance of some bonds and leveraged loans in November.

“This appears to be creating some overhang in supply, as the impending issuance weighs on credit spreads,” says Vazza. Some of the existing pressure could be eased in December, she adds, thanks to light refinancing needs for investment-grade and high-yield bonds.

The corporate bond market has been especially volatile in the wake of subprime-mortgage defaults. News last week of huge losses weathered by Freddie Mac, the mortgage-finance company, added further to the growing aversion to risk. Last Monday the spreads on two-year swaps, an indicator of risk aversion, traded above 100 basis points; the previous record was 97 basis points in 1989.

Prior to the turmoil in the credit markets that became apparent this summer, corporate bonds were having a stellar year. In the first half of 2007, issuance volume rose to a record of $647.3 billion. That was a 22.7 percent increase over the first half of 2006, according to the Securities Industry and Financial Markets Association.

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