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Credit Insights

Declining Interest Rates Help Investors Recuperate Losses

Interest rates have declined since the Fed announced it was holding its bond-buying program steady and will probably continue to trend lower in the near term.

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Last week, corporate-bond investors continued to recuperate some of their losses from earlier this year. The Morningstar Corporate Bond Index rose 0.48% after having risen 1.14% the prior week. The gains in corporate bonds were due to declining interest rates as the 10-year Treasury bond fell 13 basis points to 2.62%. At this yield, the 10-year has retraced about 25% of the 140-basis-point increase from the lowest yield reached this year in May to the almost 3% yield the 10-year hit in September.

The average credit spread in our corporate-bond index widened 2 basis points to +146 as the market finished digesting the huge serving of Verizon Communications (VZ) (rating BBB, narrow moat) bonds served to it in mid-September as well as a significant amount of new issues brought to market last week. In the secondary trading market, portfolio managers finished selling positions to make room for the new Verizon bonds as well as window-dress their portfolios for quarter-end. Other traders bulked up on the Verizon bonds in anticipation that the fixed-income index funds will need to purchase those bonds as they enter the indexes on Oct. 1. Many index funds have already been buying Verizon bonds in anticipation of their increased weighting in the corporate-bond index, but there may still be some more room for the bonds' credit spreads to tighten until these funds match the increased weighting.

David Sekera does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.