European credit spreads widened on Tuesday on increasing concerns that the planned $700 billion US bailout of the financial sector would not bring an end to market turmoil or head off a recession. By 1546 GMT, the investment-grade Markit iTraxx Europe index was at 111 basis points, according to data from Markit, 6 basis points wider versus late on Monday.
The Markit iTraxx Crossover index, made up of 50 mostly "junk"-rated credits, was at 580 basis points, 17 basis points wider. By 0811 GMT, the investment-grade Markit iTraxx Europe index was at 109 basis points, according to data from Markit, 4 basis points wider than late on Monday. A sharp rally in European credit derivative indexes stalled late on Monday as initial euphoria over the huge rescue plan waned.
"The bailout action is an important step in order to stop the financial meltdown in the US, but it will not avert an economic recession," UniCredit (HVB) credit strategists wrote in a note. There are many unanswered questions, including the price that troubled securities will be sold for, the impact that is likely to have on further bank writedowns, and the cost to the taxpayer who is funding the rescue plan.
The Markit iTraxx Crossover index, made up of 50 mostly "junk"-rated credits, was at 574.5 basis points, 12 basis points wider. US stock indexes slumped more than 3 percent overnight, while oil staged its biggest one-day jump on record and the US dollar fell sharply against the euro.
BNP Paribas credit strategists said although the injection of capital was the only way out of the crisis, the planned $700 billion may not be enough to buy all of the troubled assets from the banks. "The amount currently pledged by the Congress would be just enough to buy the $1.5 trillion of subprime paper at a 50 percent discount," BNP Paribas said.
But that leaves questions about what will happen to other mortgage and non-mortgage assets that qualify for the bailout fund, they added. In the cash bond market, the FTSE Euro Corporate Bond Index showed investment-grade corporate bonds in euros yielding an average 161.2 basis points more than similarly dated government bonds, 5.4 basis points higher on the day.
In underlying government bond markets, the yield on the interest rate sensitive two-year Schatz was 3.933 percent, 0.7 basis points down on the day. The 10-year Bund yielded 4.229 percent, 2.2 basis points lower. The 10-year euro swap rate was 4.905 percent.