Bank Bonds Beat Industrials as Bill Advances

Bank Bonds Beat Industrials as Bill Advances: Credit Markets

By John Detrixhe

July 16 (Bloomberg) -- Bank bonds are outperforming debt from industrial companies by the most since March as investors wager the biggest overhaul of Wall Street regulations since the Great Depression won’t cripple profits at financial firms.

U.S. bank bonds returned 1.35 percent this month, the second-best performing class of investment-grade debt after tobacco companies, compared with a gain of 0.5 percent for industrial companies, according to Bank of America Merrill Lynch index data. Non-financial firms returned 2.09 percent in June versus 1.89 percent for banks.

Bank debt yields 252 basis points more than similar- maturity Treasuries, a spread that’s 81 basis points wider than industrial debt, Bank of America Merrill Lynch index data show. The cost of protecting Goldman Sachs Group Inc. bonds from default fell to the lowest since April after the bank settled its fraud lawsuit with the Securities and Exchange Commission, the same day the U.S. Senate sent its bill to the White House for President Barack Obama’s signature.

“It’s a good situation for the market that we do have a little clarity on both” regulatory reform and the Goldman Sachs lawsuit, said Lon Erickson, managing director at Santa Fe, New Mexico-based Thornburg Investment Management, which oversees about $9 billion in fixed-income assets.

JPMorgan Chase & Co., the second-biggest U.S. bank by assets, raised $2.9 billion in its largest bond offering in more than a year after reporting that quarterly profit rose 76 percent. Charlotte, North Carolina-based Bank of America Corp., the largest U.S. lender, and Citigroup Inc., the third-biggest, posted earnings today that beat analysts’ estimates.

Spread to Treasuries

Elsewhere in credit markets, the extra yield investors demand to own company bonds instead of government debt was unchanged at 188 basis points, or 1.88 percentage point, according to Bank of America Merrill Lynch’s Global Broad Market Corporate Index. Average yields fell to 3.891 percent from 3.929 percent.

A benchmark credit-default swaps indicator in the U.S. rose. The Markit CDX North America Investment Grade Index, which investors use to hedge against losses on corporate debt or speculate on creditworthiness, increased 3.5 basis points to a mid-price of 111.4 basis points, according to Markit Group Ltd.

The index typically rises as investor confidence deteriorates and falls as it improves. Credit-default 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.

Surging Bonds

Energy Future Holdings Corp. bonds jumped the most since July 2009 after the Dallas-based electricity provider formerly known as TXU Corp. said it’s seeking to swap bonds at a discount to help cut $38 billion of outstanding debt.

Energy Future’s 11.25 percent notes due in 2017 rose 0.75 cent to 66.75 cents on the dollar as of 12:34 p.m. in New York after earlier jumping as much as 4.75 cents to 70.75 cents, the biggest gain since last July 31, according to Trace, the bond- price reporting system of the Financial Industry Regulatory Authority.

The securities have climbed from 62 cents in May as the utility has been seeking to reduce debt and extend maturities after private-equity firms KKR & Co. and TPG Capital acquired the company for $43.2 billion in the biggest buyout ever before a collapse in credit markets.

JPMorgan bonds were the most actively traded U.S. corporate securities yesterday by dealers, with 204 trades of $1 million or more, followed by General Electric Co., with 173, Bloomberg data show. The most active in junk bonds was Ford Motor Co. with 52 trades. High-yield, high-risk debt is rated below Baa3 by Moody’s and lower than BBB- by Standard & Poor’s.

‘More Attractive’

“Financials definitely are more attractive than industrials on a spread basis,” said Rajeev Sharma, who oversees $1.4 billion of investment-grade credit at First Investors Management in New York. “In this kind of market, where yields are so low, it’s kind of hard to not take a close look at financials because they do look attractive relative to industrials.”

Senators voted 60-39 yesterday in favor of rewriting rules governing Wall Street firms, passing a bill that aims to avoid a repeat of the 2008 credit crisis.

Rules on derivatives and proprietary trades are largely left for the Federal Reserve, SEC and Commodities Futures Trading Commission to complete.

‘Multi-Year Process’

“Given all the uncertainty of what the financial bill is ultimately going to look like, what the regulators are going to do, this is going to be a multi-month, multi-year process before all the rules are set in stone,” said William Dennehy, senior fixed-income portfolio manager at Chicago-based Northern Trust Co., which has $150 billion in assets under management.

Credit-default swaps on Goldman Sachs for five years fell 20 basis points yesterday to a mid-price of 150 basis points, according to broker Phoenix Partners Group. The swaps had been trading as high as 177 basis points before the SEC’s announcement.

Goldman Sachs agreed to pay $550 million and change its business practices to settle U.S. regulatory claims it misled investors in collateralized debt obligations linked to subprime mortgages. The penalty is the largest ever levied by the SEC against a Wall Street firm, the agency said in a statement. Goldman Sachs acknowledged it made a “mistake” and that marketing materials for the instruments had “incomplete information,” the agency said.

‘Economic Win’

The settlement appears to indicate “negligence, not fraud,” Brad Hintz, an analyst at Sanford Bernstein & Co., said in an e-mail, citing the SEC’s use of words such as “mistake” and “incomplete information.”

“Bottom line the SEC and the administration gets a headline and a ‘political win’ and GS gets an ‘economic win,’” he said.

JPMorgan’s offering was its biggest since selling $3 billion of 10-year debt in April 2009, according to data compiled by Bloomberg. The two-part offering yesterday included $2.5 billion of 4.4 percent, 10-year notes that priced to yield 145 basis points more than Treasuries, the data show. The bank paid a spread of 127.5 basis points in its sale of similar- maturity 4.95 percent notes in March.

JPMorgan took a $6.3 billion reduction in provisions for soured mortgages and credit-card loans from last year, as second-quarter net income climbed to $4.8 billion.

Citigroup said profit dropped 38 percent even as falling stock and bond markets curbed trading revenue and prompted companies to pull or delay mergers and underwriting mandates, and Bank of America said pressure from overdue loans abated.

“Loan performance is the biggest thing we’re watching in the short term,” said Guy Lebas, chief fixed-income strategist at broker dealer Janney Montgomery Scott LLC in Philadelphia. “The markets can’t place a valuation on trading profits if there’s little way to guess what future trading profits will be.”