Federal Reserve

Investment banks favour loans over junk bonds

PUBLISHED : Tuesday, 16 October, 2012, 12:00am
UPDATED : Tuesday, 16 October, 2012, 4:03am

Firms from JP Morgan Chase to Morgan Stanley are shifting their preference to leveraged loans over junk bonds, seeking debt that offers higher claims on corporate assets as the economy slows and profits diminish.

"It's the right time to be getting a little more defensive," said Adam Richmond, a Morgan Stanley credit strategist. "Why not get a similar yield in the loan market as you can get in the bond market without the rate risk?"

US high-yield, high-risk bonds had returned 113 per cent since the end of 2008, pushing yields to as much as 13 basis points below interest rates on loans as of September 14 even though they offered less security in a bankruptcy, JP Morgan analysts wrote in a report. The bonds had paid about 100 basis points, or 1 percentage point, more than loans in the past three years.

The tide may be turning back to loans, as concern mounts that an economy on pace to expand at the slowest rate since 2009 will curb profits.

The amount of loans outstanding rose for the first time since 2008, climbing to US$623 billion from US$619 billion last year, according to Credit Suisse. This was the first time the market had grown since falling from a peak of US$856 billion in 2008.

Investors poured US$314 million into US loan funds last week while removing US$114 million from junk-bond funds, JP Morgan data showed.

Analysts at the bank shifted their preference to loans from junk bonds after the Federal Reserve announced its third round of quantitative easing last month.