Why Credit Portfolio Managers Are Worried, And What They Might Do About It

Includes: BSCB, BSCC, COY
by: Bondsquawk, CFA

According to a survey performed by the International Association of Credit Portfolio Managers (IACPM), credit spreads may widen in the coming months as risks for a double dip recession rise as stated in a Bloomberg article.

The cost of borrowing for investment-grade and junk-rated companies will rise, according to almost half of the respondents in the IACPM survey, taken at the end of the second quarter. Credit portfolio managers from more than 88 banks and financial institutions in 14 countries reversed their credit default outlook to “slightly” negative after two periods of improving sentiment.

Group of 20 leaders’ efforts to halve budget deficits by 2013 and stabilize borrowings in the three years after that might crimp the recovery and lead to another recession, according to a statement e-mailed by Jon Teall, an outside spokesman for the trade group. Portfolio managers are most concerned about defaults in commercial real estate and worry that economic growth won’t be strong enough for companies to meet their debt obligations.

“In the short run, many of our members are concerned about economic conditions as governments cut back on spending to fight rising deficits,” Som-lok Leung, executive director of IACPM, said in the statement. “Many respondents are worried about the possibility of a sovereign default and the potential impact that could have on the euro and confidence generally.”

The default outlook had its first negative reading since September 2009, with 31 percent of respondents expecting the rate to increase and 36 percent saying that it would decline, according to the statement.

The BofA Merrill Lynch U.S. Corporate Index, which contains over 4,000 investment grade corporate bonds, declined 13 basis points to a spread of 198 basis points over comparable maturity U.S. Treasuries since mid-June. Despite concerns of corporate defaults easing, the stock market has declined on concerns of a slowing economy. Furthermore, the recent tumble for equities occurred at the onset of earnings season where so far, corporate profits have been fairly robust. The S&P 500 has declined 2.8 percent during that time frame. If the risks of a double-dip continue to rise, then corporate bond spreads, especially down in the credit spectrum, may widen in the coming months. If such an event occurs, U.S. Treasuries may be the better alternative.