US corporate bond spreads widen as hopes dim for soft landing

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(Reuters) – U.S. corporate bond spreads widened on Tuesday and are expected to widen further after the latest jobs data helped confirm many investors’ expectations of higher-for-longer U.S. interest rates and an upcoming economic downturn.

High-grade bond spreads jumped two basis points (bps) on Tuesday to an average 128 bps over U.S. Treasuries, according to the ICE BofA Index Option-Adjusted Spread.

Spreads have now widened in seven consecutive sessions, moving a total of nine to 10 bps wider during that span, according to a Wednesday note from Dan Krieter, head of fixed income strategy at BMO Capital Markets.

Credit spreads could widen further, especially if U.S. Treasury bonds continue their sell-off and the market accepts higher-for-longer interest rates from the U.S. Federal Reserve, said Krieter.

High yield bond spreads widened 15 bps on Tuesday to 426 bps, according to the ICE BofA High Yield Index Option-Adjusted Spread.

High yield bond funds saw outflows of $816 million on Tuesday following similar outflows of $717 million on Monday, according to JPMorgan research. No new junk debt was issued on Tuesday.

“With longer dated Treasury yields up more than 50 bps in less than a month, the market continues to show caution around adding risk until a new equilibrium in rates has been reached,” said Blair Shwedo, head of fixed income sales and trading at U.S. Bank.

Investors’ Treasury bond selling spree continued Wednesday, following Tuesday’s JOLTS jobs data for August which showed the highest number of U.S. job openings in two years. This renewed concerns the Fed has yet to finish hiking rates.

U.S. 30-year Treasury yields rose to 5% for the first time since 2007 on Wednesday. The 10-year Treasury note yield, meanwhile, has spiked 20 bps to 4.8% this week.

Rising government borrowing costs combined with an expected higher for longer mantra from the Fed has made U.S. corporate bond investors more defensive.

“If rates continue to move higher or simply remain at these elevated levels for a significant period of time, it is going to have a pronounced effect on the credit worthiness of corporate borrowers, particularly in the high yield space,” Krieter noted.