Portugal Telecom and Italian carmaker Fiat spearheaded a rally in European credit on Tuesday, as investor desire to take on more credit risk bolstered the wider market.
The bellwether iTraxx Crossover index, based on 45 mainly high-yield credit default swaps, tightened one basis point to 207.5 basis points by 1555 GMT, a high-yield trader said, to hit the tightest level since the current series debuted in late September."There's been a lot of trading today," a second trader said. "The wall of selling of CDS (credit default swaps) is much bigger than the natural buyers of it at the moment."
Default swaps on big, investment-grade European borrowers such as France Telecom and Deutsche Telekom tightened across the board, bolstered by the hedging of structured credit products.
"Everything's tighter," a telecoms trader said. "It's structured activity - we're seeing a pick-up in it." Demand for structured products such as collateralised debt obligations (CDOs), which repackage credit risk, has exploded in recent years and, along with low defaults and strong corporate profits, helped sharply compress credit spreads.
In the cash bond market, the FTSE Euro Corporate Bond Index showed investment-grade corporate bonds in euros yielding an average 48.6 basis points more than similarly dated government bonds at 1615 GMT, 0.4 basis points less on the day.
The cost of insuring Portugal Telecom debt against default fell sharply, implying the credit derivatives market was pricing in less likelihood of a debt-heavy take-over by smaller rival Sonaecom.
PT Chief Financial Officer Zeinal Bava told Reuters PT is not in discussions with any other suitor. The company's board has rejected a 9.5 euro-a-share bid from Sonaecom as too low.
Five-year credit default swaps on PT fell some 12 basis points to a 127 basis point mid-price, the telecoms trader said, meaning it costs 127,000 euros a year to insure 10 million euros of the company's debt against default. But he said: "It's a bit early to assume that Sonaecom are not going to raise their bid," adding the CDS had retraced from 123 basis points earlier.
The cost of insuring Fiat's debt against default, which has already dropped sharply, continued to fall after Chief Executive Sergio Marchionne said the Italian carmaker had met its 2006 profit targets on rising car sales, and trumpeted "truly exceptional" January car sales in Italy.
Fitch analyst Elisabetta Zorzi said the ratings agency could raise its BB- rating on Fiat, which is 3 notches below investment grade, this year if Fiat "confirms or improves its business plan." Five-year credit default swaps on Fiat - which traded as high as 470 basis points in April 2005, according to GFI data - tightened 3 basis points to 72.5 basis points, the second trader said.
In high-yield, sentiment was also strong across the board, with default swaps on individual borrowers rallying by 5 to 20 basis points, the high-yield trader said. "Everything's still ramping in," he said. However, high-yield cash bonds were lagging the gains in derivatives as rising government bond yields damped appetite, he said.
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