Sovereign Debt Worries Pressuring Corporate Bonds

In an expression of how linked corporations and governments are in the wake of the financial crisis and efforts to prevent a global financial meltdown, the corporate high-yield debt market has seen some selling recently as fears of sovereign debt defaults in Greece, Portugal and Spain spread.  While it would seem odd that government debt would affect the price of corporate debt, we must remember that corporations and financial institutions are healthy, relatively speaking, today due to extraordinary governmental efforts to stimulate the economy and backstop the financial system.

The Wall Street Journal reports that many high-yield corporate bond prices are trading lower as risk premiums, or spreads, on the bonds widen.  In bonds, as the price of the bond drops, the yield rises, and vice versa.  Friday’s most traded high-yield corporate issues included Freeport McMoran Copper & Gold’s 8.375% notes due 2017, which fell 2.2 points to 106.25, according to MarketAxess. Among other active credits, Ford Motor Co.’s (F) long bonds due 2031, often a bellwether for the high-yield market, lost a quarter point to 87. Harrah’s (HET), MGM Mirage (MGM) and Sprint Nextel Corp. (S) all traded lower as well.

High-yield corporate bonds enjoyed a spectacular rally in 2009 as investors sought the highest returns they could find.  Even with the recent equity market weakness, high-yield bonds have held their value.  However, if risk premiums continue to rise due to fears such as worries about the credit-worthiness of Greece and other deeply indebted European nations, the conclusion of the Fed’s mortgage purchase program in March and the uncertainty around proposed new banking regulations and corporate taxes, high-yield corporate bonds could see more selling pressure.