The cost of raising debt for companies is likely to increase over the coming months owing to concerns about liquidity and a lower appetite for risk, according to credit portfolio managers at large global banks and financial institutions.
The outlook for credit risk premiums, or spreads, is worse for the US than for Europe and has also deteriorated since the first quarter, according to the latest quarterly survey of members of the International Association of Credit Portfolio Managers.
“It’s a reflection of the volatile market and a reflection of the things, such as views on liquidity and the market price of risk, affecting the credit markets,” said Som-lok Leung, executive director of the IACPM, which consists of credit portfolio managers at 87 banks and other financial institutions in 16 countries across north America, Europe and Asia.
The previous quarterly survey at the end of March found expectations of tighter spreads in the ensuing three months. The cost of corporate credit hit its highest levels this year in the run-up to the rescue of Bear Stearns in mid-March, when investors were consumed with fears of risk across the financial system.
Spreads fell sharply as credit markets rallied once the US Federal Reserve orchestrated the Bear rescue, but spiking oil prices, signs of additional writedowns for banks and indications that the real economy was beginning to suffer have made credit markets change direction once more since late May.
In the derivatives markets, the cost of protecting US investment-grade companies against default in the five-year CDX IG10 index has jumped to 142.5 basis points from about 86bp in early May, according to Markit Group. This means it costs $142,500 a year to protect $10m worth of debt against default over five years.
Europe’s iTraxx investment-grade index has seen a slightly smaller jump in the cost of protection, from 64.5bp to 103.6bp.
The cost of protecting junk-rated debt against default has also risen rapidly in both markets, although the spreads on riskier debt have seen proportionally smaller moves.
The survey found that credit portfolio managers believe corporate borrowers, individual consumers and real estate will contribute to higher defaults ahead, although expectations about the rate of defaults have not increased.
Standard & Poor’s re-ported this week that corporate debt ratings downgrades hit a five-year high in the second quarter.
“The view on default has not changed,” Mr Leung said. “But a spread is more than just an indication of default risk. Other factors, such as liquidity issues and risk appetite, contribute to the size of the premium investors demand to extend credit.
“By definition, given that the view on defaults has remained constant, it’s these other views that are changing.”
