The financial impact of the Wuhan coronavirus on corporate America’s balance sheets has tripled the premium investors are demanding to hold even the highest-rated corporate bonds.
According to the ICE/BofA investment grade index, the difference between the average yield of investment-grade U.S. bonds over virtually risk-free U.S. Treasury bonds widened to 303 basis points (bps) on Wednesday, up from 101 bps at the start of the year. This is its highest since July 2009.
In the case of riskier high-yield securities, the average spread over Treasuries was 904 bps – the highest since October 2011; if one were to use the ICE/BofA high-yield index this is also more than 2-1/2 times the rate at the start of the year.
Sectors that have been affected by reduced travel have taken a massive hit from the Wuhan coronavirus; this includes the hotel industry, airlines, and casinos. Sectors which depend on discretionary spending have also been affected since customers spend more time indoors.
Companies with supply chains in China have have been routed.
This hit on corporate earnings come at a time when U.S. corporate debt is near its all-time high, with the size of the triple-B segment of the market being just one notch above junk status.
With cash flows being deeply affected, companies are more dependent on finding funds from markets. The cost of borrowing money has however risen in recent weeks and as a result, the reduced access to funds have placed these companies at a greater risk of a downgrade.
Moody’s Investors Service expects % to 45% of North American companies to be negatively affected by the Wuhan coronavirus which has now gone pandemic.
In recent weeks, even investment-grade and high-yield exchange-traded funds have also fallen given the negative outlook facing companies.
“The iShares iBoxx High Yield Corporate Bond ETF has fallen 18% this year, while the same company’s investment grade fund is down nearly 14%. Short interest in both has also risen, with the cost to borrow shares of LQD currently at a six-year high,” said Samuel Pierson, director of securities finance at IHS Markit.