Energy Sector Continues to Pressure Corporate Bond Credit Spreads
Fixed-income returns in 2014 primarily driven by declining interest rates.
Since the beginning of the year, the average spread of the Morningstar Corporate Index has widened 3 basis points to +143. The widening was predominantly driven by the energy sector, which has widened 14 basis points thus far this year. Oil prices have continued to decline, but the rate of decline has slowed dramatically and appears to be finding support in the upper $40s. Similarly, the average spread of the Bank of America Merrill Lynch High Yield Master II Index has widened 16 basis points to +477. Within the high-yield index, the energy sector had widened +27 basis points to +783. Investors have remained cautious and continued to redeem funds from high-yield open-end mutual funds and exchange-traded funds. Last week was the eighth consecutive week of outflows and resulted in net redemptions of $8 billion over the past two months.
The new issue market was surprisingly quiet. Among the issuers for which we provide credit ratings, CBS (CBS) (rating: BBB, narrow moat) was one of the few that priced new bonds. CBS sold $1.2 billion of debt, consisting of $600 million each of 10-year and 30-year bonds priced at +165 and +215 basis points over Treasuries, respectively. These levels were slightly more expensive than our fair value estimates of +170 and +220. Last November, we highlighted that the company had $2.0 billion of debt capacity in its rating to fund additional share repurchases and it was on our Potential New Issue Supply list. CBS had raised its leverage target to 2.5 times earlier in 2014 and leverage stood at 2.1 times at the end of its third quarter. CBS could not repurchase shares during much of the third quarter as it was completing the spin-off of its outdoor business, but we expect repurchases to accelerate.
David Sekera does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.
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