Oil-Induced Default Corporate Bond Risks Are Overblown

By Tom Lydon, ETF Trends

Despite concerns over debt issued by energy producers in a quickly falling oil market, corporate bond markets and related funds face low default risks.

Corporate bonds, notably high-yield speculative-grade debt, have been stuck in sideways trading, as skittish investors held off on concerns that oil companies would miss payments due to lower oil prices.

However, according to Moody’s Investors Service, a strong U.S. economy, improved corporate earnings and light maturity calendar will all help counterbalance falling oil prices and keep corporate default rates below historical averages this year, reports Vipal Monga for the Wall Street Journal.

“A lot of people have been surprised,” Albert Metz, a Moody’s analyst, said in the WSJ, referring to the low default rates. “But the fundamentals are there. So far, so good.”

Specifically, Moody’s calculates that global default rates could rise to 2.7% in 2015 from 2.1% in 2014, compared to the average default rate of 4.7% since 1983.

Nevertheless, some market observers are still worried that smaller oil exploration and production companies are seeing severe discounts on their debt and rising yields, which could signal potential defaults.

“Many of the credits in the exploration and production space, are deeply distressed,” Matthew Fuller, analyst for S&P Capital IQ LCD, said in the article.

However, as Joseph LaVorgna, chief U.S. economist for Deutsche Bank notes, the energy sector accounts for an “extremely small portion” of total U.S. employment and the impact of low oil prices on industry defaults could be contained. Additional LaVorgna points out that the benefits of cheap gas for large employers as an input cost would help offset any potential losses from smaller oil producers.

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AdvisorShares Peritus High Yield (HYLD) is a component of the D2 Capital Management Multi-Asset Income Portfolio. Current yield on the portfolio is 5.50% and year to date the portfolio is down 0.26% compared to the S&P 500 which is down 1.70% (as of 20 January 2015).

Disclosure:  I own the D2 Capital Management Multi-Asset Income Portfolio

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