Big Investors Turn to Corporates

Asset managers seek safety and are fed up with low rates on government bonds.

The world’s biggest fixed-income investors, fed up with yields on benchmark government bonds that pay less than zero percent, say they’ve found a new haven from turmoil sweeping global markets: corporate debt.

BlackRock Inc., Glenmede Corp. and at least four other firms that collectively manage in excess of $4 trillion are putting more of their money into the bonds of companies, contributing to a record rally. The Bank of America Merrill Lynch Global Broad Market Corporate Index, which tracks 9,542 debentures, is on pace to gain 3.61 percent in July, the most since being created in 1997, and 14 percent for the year including reinvested interest.

“You have rates markets like the U.S., the U.K. and Germany which look incredibly expensive,” Ewen Cameron-Watt, the chief investment strategist for a unit of New York-based BlackRock, the world’s biggest money manager with $3.56 trillion in assets, said in a July 17 conference call from London. The firm favors “stuff that gives you a real yield,” he said.

Even though the global economy is slowing and credit-rating downgrades exceed upgrades, rising demand has allowed companies worldwide to sell about $2.16 trillion of bonds this year, the second-fastest pace on record based on data compiled by Bloomberg. Instead of using the proceeds to expand and hire more workers as desired by central banks that have cut interest rates to record lows, companies are mainly refinancing existing obligations or hoarding the money.

The ratio of cash to total assets for companies in the Standard & Poor’s 500 Index rose to about 10 percent from 5.7 percent five years ago, data compiled by Bloomberg show.

AT&T Inc., the Dallas-based wireless carrier and biggest U.S. nonfinancial issuer of debt securities, has extended the weighted average maturity of its bonds to 15.6 years from 13.3 years in 2009 while cutting the average coupon on its $64.4 billion of notes to 5.34 percent from 6.42 percent, according to data compiled by Bloomberg.

“People are saying the economy is sluggish, but it’s not so bad that companies are going to start defaulting left and right and getting downgraded severely because they’ve got a lot of cash and have funded out their debt maturities,” Martin Fridson, a global credit strategist in New York at BNP Paribas Investment Partners who started his career as a corporate debt trader in 1976, said in a telephone interview last week.


Double Yields

While investment-grade corporate bond yields are at record lows of about 3 percent, that’s more than double what government securities pay, Bank of America Merrill Lynch indexes show. The gap, which ended last week at 2.05 percentage points, averaged 0.71 percentage point in 2006 and the first half of 2007, before the start of the worst financial crisis since the Great Depression.

Those rates are a powerful lure because government bond yields in the U.S., Germany and the U.K. are either below zero on an absolute basis or after accounting for inflation. So-called real yields on 10-year Treasuries are about negative 0.2 percent. Similar measures are negative 0.48 percent in Germany and negative 0.88 percent in the U.K.

Yields on 10-year Treasuries fell to a record 1.3960 percent today, according to Bloomberg Bond Trader prices. Five-year yields also reached an all-time low of 0.5411 percent.

“Given that the risk-free rate is very expensive, you’ve got to somehow generate some return,” Roger Bridges, who oversees $15.3 billion as the Sydney-based head of fixed income at Tyndall Investment Management Ltd., said in a July 16 telephone interview. “Corporate bonds look very good.”

Bridges said he was considering buying bonds sold in Australia last week by Export-Import Bank of Korea. The three-year securities pay 5 percent annual interest.

BlackRock’s Cameron-Watt said he favored credit- and emerging-market debt. Glenmede, which is based in Philadelphia and oversees $20 billion, is leaning toward high-yield bonds, those rated below Baa3 by Moody’s Investors Service and less than BBB- at S&P, and developing-nation debt, Jason Pride, the director of investment strategy, told Pimm Fox on Bloomberg Television’s “Taking Stock.” on July 11.

High-yield corporate bonds globally have returned 1.53 percent this month and 9.82 percent for the year based on the Bank of America Merrill Lynch Global High Yield Index. The firm’s emerging market index has gained 2.92 percent in July and 11.8 percent for the year.


Rising Sales

Companies have taken advantage of falling borrowing costs and a rebound in confidence in credit markets.

The $2.16 trillion raised by borrowers from Fairfield, Connecticut-based General Electric Co. to South Korea’s STX Offshore & Shipbuilding Co. is second only to the $2.44 trillion that was issued at this point in 2009, data compiled by Bloomberg show.

Investors are pouring money into credit markets even as the global economy slows, earnings growth decelerates and credit-rating downgrades exceed upgrades. S&P said it reduced the grades for $2.16 trillion of corporate debt worldwide in the first half of this year and raised $707 billion.

“We don’t expect improvements by region or sector in the foreseeable future,” Diane Vazza, head of New York-based S&P’s global fixed-income research, wrote in a July 12 report.

The International Monetary Fund in Washington cut its 2013 global economic growth forecast to 3.9 percent from April’s estimate of 4.1 percent as Europe’s debt crisis prolongs Spain’s recession and slows expansions in emerging markets from China to India already facing weaker domestic demand.

With recent moves by central banks from the U.S. to Europe, and the U.K. to China to ease monetary policies causing government bond yields to drop, “bond investors need to venture further out on the risk spectrum” to generate returns, Gene Tannuzzo, a money manager at Columbia Management Investment Advisers LLC, wrote in a report on the company’s website July 9.

Columbia favors investment-grade company bonds and agency mortgage-backed securities such as those issued by Fannie Mae, according to the report.

Corporate bonds have never been riskier. The duration of global company bonds, a measure of price sensitivity to yield changes that rises with longer maturities, reached a record of high 5.86 years last week, according to Bank of America Merrill Lynch index data.


‘Headed Down’

An investor holding $10 million of Hartford-based United Technologies Corp.’s 4.5 percent debentures due 2042 would lose about $565,000 if the yield increased to 4 percent from 3.7 percent now, data compiled by Bloomberg show.

The danger for investors is that a slowdown will make it tougher for borrowers facing declining earnings to service their debts. Companies in the MSCI World Index earned $92.49 per share excluding one-time gains or losses in the past 12 months, down from this year’s high of $95.98 in February, data compiled by Bloomberg show.

Assets that carry risk are “headed down,” Bill Gross, who runs the world’s biggest bond fund at Newport Beach, California-based Pacific Investment Management Co., wrote on Twitter July 12. He wrote in a separate Twitter post that real assets are a “better bet” because Treasuries offer negative yields.

His $263 billion Total Return Fund had 52 percent of its assets in mortgage-related debt, 35 percent in Treasuries and 13 percent in corporates on June 30, according to Pimco’s website.

James Bianco, president of Chicago-based Bianco Research LLC, said he favors the safety of government debt.

“If you want to play it safer, you can go to the two-year note -- it won’t lose you money,” he said July 17 on Bloomberg Television’s “First Up” with Susan Li. “But stocks can lose you money, commodities can lose you money, high yield can lose you money.”

With the U.S struggling with a $1 trillion budget deficits and shortfalls in Germany, the U.K., Canada, France and Japan, rising corporate cash balances and declining leverage levels offer a degree of safety.

“Corporate credit is the place to be,” Gregory Peters, chief cross-asset strategist at Morgan Stanley in New York, said July 10 on Bloomberg Television’s “Lunch Money” with Stephanie Ruhle and Adam Johnson.

The global speculative-grade corporate default rate stood at 2.7 percent at the end of the second quarter, compared with a historical average of 4.8 percent since 1983, according to Moody’s. The firm’s Liquidity-Stress Index, which measures the ability of companies to meet debt payments, was 3.6 percent in June, compared with a peak of 20.9 percent in March 2009 and the record low of 3.3 percent last year.


‘True AAA’

Barry Allan, who oversees C$6 billion ($5.9 billion) at Marret Asset Management Inc. in Toronto, is betting that corporate yields will decline below those of Treasuries as the U.S. falls back into recession.

Allan favors companies rated AAA and AA such as Cincinnati-based Procter & Gamble Co., New Brunswick, New Jersey-based Johnson & Johnson, Redmond, Washington-based Microsoft Corp. and Mountain View, California-based Google Inc.

“These companies are the true AAA balance sheets,” Allan said in an interview.

Investment-grade corporate bonds have returned more than 3 percent in one month only three times since 1997, gaining 3.3 percent in July 2009, 3.2 percent in May of that year and 3.1 percent in December 2008, according the Bank of America Merrill Lynch index.

The gauge, which tracks bonds with a par value of $6.8 trillion, has advanced 7.31 percent this year, more than double the 3.55 percent return of the index that tracks $22.5 trillion of government bonds and topping the 5.34 percent for the MSCI All-Country World Index of stocks, including dividends.

3M Co. sold $650 million of five-year notes last month that yielded 1.095 percent, or 37 basis points more than similar-maturity Treasuries. The St. Paul, Minnesota-based maker of Scotch tape and Post-It-Notes, which is rated AA- by S&P with a “stable” outlook, paid a spread of 65 basis points when it sold five-year notes in September.

Anheuser-Busch InBev NV, the world’s biggest brewer, sold $1.5 billion of three-year notes this month at 50 basis points more than government debt, compared with 87.5 when it issued similar-maturity bonds in March 2010. The Belgium-based maker of Budweiser beer is rated A by S&P.

There’s no danger of a bubble in company bonds because investors will get their money back as long as they hold the securities to maturity, said Marc Fovinci, head of fixed income in Portland, Oregon at Ferguson Wellman Capital Management Inc., which has $3.1 billion in assets.

“We’re comfortable with credit,” said Fovinci, who invests for wealthy individuals and for institutional clients. “We’re happy to soak up the additional yield.”

Fovinci said he bought bonds last week of Philadelphia-based Comcast Corp., the largest U.S. cable company, New York based JPMorgan Chase & Co., the biggest U.S. bank, and Omaha, Nebraska-based railroad company Union Pacific Corp.

“We’re not compelled to go into government bonds at one, one and a half percent yields,” Toby Nangle, head of multi-asset allocation for London-based Threadneedle, which has the equivalent of $120.9 billion in assets, said July 16 on Bloomberg Television’s “The Pulse” with Maryam Nemazee. “We’re reducing from equity, reducing government bonds, adding to corporate bonds and high-yield bonds.”



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