US Credit Market Update: Credit spreads see another volatile week

The continued weak performance of US equity markets caused bearish investors to seek credit protection in the US last week. This caused volatility in the US credit derivatives market, with most company credit spreads widened in relatively high levels of trading.

Again, accounting investigations, rating downgrades and disappointing earnings fuelled negative sentiment. The cost of five-year debt protection for Allegheny Energy widened more than 100 basis points after the company reduced its 2002 earnings predictions. Its spread widened steadily over the week from 210/230bp to 300/350bp.

Weaker forward sales projections also hit US autos, with five-year credit default swaps on Ford widening 20-25bp over the week to 255/265bp. Credit protection on five-year GMAC debt widened about 15-20bp, to 200/210bp, while protection for Daimler Chrysler performed slightly better, widening only 5bp on the week to close at 140/150bp.

US Pharmaceuticals were also under pressure. Five-year protection for Wyeth expanded from 45bp to beyond 100bp following concerns about its best-selling hormone replacement drug. And credit default swaps on Bristol Myers Squibb widened 35bp to 85bp following the launch of an inquiry into its accounting practices by the Securities and Exchange Commission on Thursday.

“Almost all credits have widened just in general response to a faulty Dow and poor corporate picture,” said one US-based credit derivatives trader.

But some credits managed to tighten after poor performance in recent weeks, according to Martin Gonzalez, a credit derivatives analyst at Banc of America Securities in New York. The cost of credit protection on Reliant Energy ended 50bp tighter for the week after the company received SEC approval for a new holding structure that will allow the spin-off of subsidiary Reliant Resources.

Banking and brokerage default swap levels also continued to hold well, considering investors’ concerns over the creditworthiness of so many of the banks’ corporate clients, said Gonzalez.

The contagion effect of WorldCom’s troubles on similar credits also dissipated. Credit protection for AT&T and Sprint ended 100bp tighter for the week.

No credit event for WorldCom has been triggered yet. Gonzalez predicted that obligation acceleration is the most obvious trigger, despite being recently excluded from standard obligations. As a widely traded credit for many years, some outstanding contracts still carry this clause.