Rally has junk debt trading at close to face value

[My thoughts: The fact that junk debt has recovered almost all it's value, in light of the highten risk still present in the market, is mere evidence of excess liquidity. Cheap money is funding risky assets. A massive distortion in the markets has taken place since the fall of 2008. The ending will be a monumental collapse in asset markets. It is just a matter of time.]

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By Anousha Sakoui in London and Nicole Bullock in New York
Published: May 3 2010 - Financial Times

Prices of junk bonds have rallied so strongly over the past year that a key market benchmark suggests that they are collectively trading at near 100 per cent of face value, a level not seen since before the credit crisis took hold in 2007.

US junk bond prices, measured in a Bank of America Merrill Lynch index, last week reached a price of 99.55, the closest it has been to par - that is 100 per cent of face value - since June 2007.

That marks a sharp recovery in investor confidence in junk bonds - the borrowings from companies below investment grade - from a nadir struck on December 12, 2008, when the index hit a record low of 54.78.

"The return close to par is symbolic," said Martin Fridson, chief executive of Fridson Investment Advisors, which specialises in high-yield bonds.

"With the strengthening of the US economy and signs accumulating of revival in consumer demand, money is coming out of money market funds where yields are abysmally low, and going into high-yield bonds.

"Investors wouldn't do that if they did not have confidence these companies would repay them."

The European bond market has also staged a big recovery in recent weeks, but bonds are still collectively priced at a near 10 per cent discount to par. The Bank of America Merrill Lynch's index of European currency junk bonds reached a high of 92.71 last week, its highest level since November 2007.

While the recovery in European bonds has not been as fulsome as the US market, it is recovering off lower levels. The European index reached a low on December 15, 2008, of 48.02.

Mr Fridson said the lower prices in European junk bonds is a reflection of weaker growth expectations for the European economy. Concerns of a potential default of Greece also hit European junk bonds last week.

Richard Phelan, head of high-yield research at Deutsche Bank, said that despite the sovereign concerns, there was strong interest in high-yield bonds as an asset class, leading to a recovery in prices and new bond sales.

Companies have sold risky debt in record volumes this year. Global issuance of junk bonds totalled $67.8bn (£44.4bn) at the end of the first quarter - a record high for the first three months of the year, according to Thomson Reuters.

Last week alone saw $9bn sold, including a $600m issue from clothing company Phillips-Van Heusen and €500m (£435m) from the French chemicals group Rhodia.

"Investors see the high-yield market right now like a patient that's out of the operating room and been given a clean bill of health. Confidence is being driven by improving corporate quality," said Mr Phelan.

However, he said after such a rally there were fewer opportunities for investors to generate outperformance.