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Credit Insights

U.S. Corporate Bonds Strengthening as Demand From Foreign Investors Picks Up

Corporations benefit in new issue market as demand drives cheaper financing.

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Strong demand for U.S. corporate bonds drove credit spreads tighter across both investment-grade and high-yield markets. In the investment-grade space, the average spread of the Morningstar Corporate Bond Index tightened 6 basis points to +133. Demand was especially strong for 5-year duration bonds of on-the-run issuers. This demand was attributed to a significant amount of assets being reallocated by Japanese investors into U.S. dollar-denominated fixed-income assets. Reportedly, several investment managers were operating under the same mandate and were bidding against one another for the same limited supply of bonds. This demand drove spreads tighter.

In addition to the investments from Japanese buyers, we expect that additional demand will come from European buyers as the European Central Bank begins its quantitative easing program next month. As the ECB purchases sovereign debt and asset-backed securities, the proceeds will need to be reinvested somewhere, and the path of least resistance will be the corporate bond market. This demand is likely to drive corporate credit spreads tighter in Europe. As corporate credit spreads in Europe contract, this will naturally pull credit spreads tighter in the United States. Investors who can purchase debt in either euros or U.S. dollars will gravitate toward the debt that offers both greater spread and a higher all-in yield, which is currently U.S. dollar-denominated debt. In addition, as the ECB prints new euros with the intention of pushing down exchange rates, European investors in U.S. dollar-denominated debt will benefit from the appreciation of the dollar. According to several sources, global investors are already beginning to reallocate funds from the European fixed-income markets into the U.S. markets.

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