Have Corporate Bonds Peaked?

UK and European companies have issued a record amount of bonds during 2009, but issuance has begun to decelerate since October and returns have fallen from their highs amid signs investors are looking for opportunities among other asset classes.

According to a survey by Bank of America-Merrill Lynch, investors reduced their investment-grade bond holdings during October.However, sales of high-yield bonds have soared with demand for riskier assets rising as investors have become more confident borrowers will honour their obligations. According to Moody's Investors Service, the global speculative-grade default rate increased to 12.4% during October, the largest proportion of defaults since the Great Depression.

The ratings agency believes default rates are near their peak and are likely to decline. So far this year, €19bn-worth of high-yield bonds have been sold on a pan-European basis - almost quadruple the amount sold during the same period in 2008.

The rate of UK inflation climbed more quickly than expected during October, rising by 1.5% year on year. The consumer price index increased month on month for the first time in eight months, boosted by rising prices for fuel and airfares. Retail sales reached their highest level for two years during November, fuelling speculation the UK economy has returned to growth.

The Bank of England (BoE) extended its asset-purchasing scheme by £25bn to £200bn, with the smaller-than-expected increase boosting optimism the economy is on the mend. Nevertheless, the BoE remains concerned about the lack of availability of credit.

BoE governor Mervyn King believes the UK economy will have to tread a "hard path" and also warned that he retains an "open mind" over the possibility of further asset purchases. Meanwhile, the deputy governor, Charles Bean, cautioned that credit remains tight and that some companies are being forced to refuse orders because they do not have sufficient capital. According to the BoE, the UK economy is set to grow by 2.2% during 2010 and by 4.1% during 2011.

The UK's budget deficit during October was the worst since records began, fuelled by lower tax revenue and higher social security costs. The Organisation for Economic Co-operation & Development has warned the deficit will continue to deteriorate during 2010. Meanwhile, the Confederation of British Industry urged the UK government to pursue "ambitious" cuts in Britain's budget deficit in order to help interest rates to remain at their current exceptionally low levels.

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