The biggest banks are boosting their corporate-bond stockpiles at the fastest pace since 2007, supporting a market that is posting losses for the first time since March and keeping a record volume of debt sales on track.
The 21 primary dealers that trade with the Federal Reserve increased holdings of the debt by $13 billion to $57.8 billion in the five-week period through Nov. 14, according to data compiled by Bloomberg.
As of Nov. 27, borrowers had sold $119.3 billion of the debt for the month, the second-most for the period ever, even though the bonds were losing 0.45%.
After paring their debt holdings by 75% since inventories peaked at $235 billion in 2007, Wall Street banks are reprising their role as market makers heading into the end of an unprecedented year for bond sales. Dealers have increased their holdings to the highest levels since the third quarter of last year as funds that buy the notes report withdrawals.
“When the market has a really good tone and it's feeling more liquid, the Street is probably more inclined to take down inventory with the expectation that they'll be able to mark it up and sell it,” said Thomas Murphy, who oversees about $26 billion in investment-grade credit at Columbia Management Investment Advisers LLC.
The extra yield, or spread, that investors demand to own corporate bonds rather than government debentures rose to 242 basis points in mid-November, from this year's low of 222 basis points Oct. 18, according to the Bank of America Merrill Lynch U.S. Corporate & High Yield Master index.
Dealers such as The Goldman Sachs Group Inc. and JPMorgan Chase & Co. are holding the highest level of corporate bonds since Sept. 28, 2011, when holdings reached $60.4 billion, Bloomberg-compiled data show. They have expanded inventories by 29% since Oct. 10, the fastest rate since 2007.
The Markit CDX North American Investment-Grade index, a credit default swap benchmark used to hedge against losses or to speculate on corporate creditworthiness, climbed 1.7 basis points to 100.8 basis points. The index reached 111.4 on Nov. 15, the highest level since July 25.
The indexes typically go up as investor confidence deteriorates and fall as it improves. Credit default swaps pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt.
A basis point equals $1,000 annually on a contract protecting $10 million.
Although banks have been net buyers in the past five weeks, they have reduced their holdings to just 25% of the $235.3 billion accumulated in October 2007 as the Dodd-Frank Act's Volcker rule in the United States seeks to limit risk taking. They are curtailing the amount of their own money they use to facilitate bond trading after the 27-country Basel Committee on Banking Supervision raised minimum capital requirements in 2010.
Fed Chairman Ben S. Bernanke has been trying to galvanize U.S. economic growth by saying that the central bank expects to keep interest rates at about zero until at least mid-2015 and by buying bonds.
The stimulus plans pushed investors into riskier assets, spurring $1.33 trillion of high-yield- and investment-grade-bond sales this year, already exceeding the record reached in 2009.
Since Sept. 19, speculative-grade borrowers have sold $90.2 billion in notes as funds that buy the notes reported $3.1 billion of withdrawals, RBS data show.
LOCK IN YIELDS
BofA, Citigroup Inc. and JPMorgan Chase & Co. are leading underwriters of the debt as borrowers seek to lock in yields that plummeted to an unprecedented 2.73% for investment-grade notes Nov. 8 and 6.84% for speculative-grade debt Oct. 18, Bank of America Merrill Lynch index data show.
Top-tier corporate bonds have gained 9.9% this year, while junk debt has returned 12.8%, according to the data.
As dealer inventories rose, investors yanked $1.3 billion from high-yield-bond funds in the one-week period through Nov. 14, the most since June, with concern mounting that U.S. lawmakers would be unable to avoid $600 billion in scheduled spending cuts and tax increases by resolving discord over how to manage the nation's deficit.
Speculative-grade bonds lost 0.1% in November, the first decline since May, Bank of America Merrill Lynch's U.S. High Yield Master II Index shows.
Banks are “supposed to be in the moving business and not the storage business,” Mr. Murphy said. “Whenever volatility picks up, they end up sometimes being stuck in the storage business, and that probably makes them uncomfortable.”
