(Bloomberg) -- Insatiable demand for blue-chip bonds in the US is pushing investors to shrug off any jitters tied to New York Community Bancorp’s risky exposure to real estate.
Financial institution debt has outperformed the broader market since late last month, when NYCB said it would slash its dividend and build a loan-loss provision that was much bigger than analysts expected. That stands in contrast to lingering unease among regulators and in the stock market, where a wider gauge of bank shares has slipped about 5% from a late-January peak.
The divide on Wall Street is driven by bond investors, who are feverishly loading up on new debt with elevated yields before the Federal Reserve has the chance to pivot toward interest-rate cuts. Of course, the odds of imminent easing have dropped thanks to still-hot US inflation data.
“There’s so much demand for fixed income at these yield levels that investment-grade has become a hot spot,” said Lauren Wagandt, co-portfolio manager of US investment grade corporate bond strategy at T. Rowe Price. “There is some concern still in the regional banking sector, but clients have gotten a little more comfort around the stability of the banking system as a whole.”
Investors demand an extra 115 basis points to hold bank debt over US Treasuries, compared to 127 basis points for non-financial corporate bonds, according to data compiled by Bloomberg. But the gap between those risk premiums has fallen to just about 12 basis points — less than half what it was during the regional banking turmoil of early 2023, the data show.
“This is evidence of how strong demand is for high-grade credit,” JPMorgan analysts led by Eric Beinstein wrote in a note.
Given ample investor demand, corporate borrowers stormed blue-chip markets at a record-setting pace to start this year. With nearly $59 billion already sold so far this month, issuance is on track to meet analyst estimates of $150 billion — and could still challenge the record $150 billion seen in 2023.
Big banks have dominated much of the issuance spree, with financial companies accounting for about 55% of the blue-chip debt sold so far this year.
“Investors started realizing, ‘Oh, yields are still really attractive right now, so this might be my last chance to buy investment-grade bonds with a coupon of 5.5%,’” said Winnie Cisar, global head of credit strategy at CreditSights Inc.
To Travis King, head of US investment-grade corporates at Voya Investment Management, that momentum is set to continue.
“With rates backing up again above 4% on the 10-year, the yield story for investment-grade remains intact,” he said. “We should continue to see inflows into the asset class.”
Bank Bond Resilience
The outperformance of bank bonds — and investment-grade debt, in general — is also an indication that investors are willing to overlook other risks.
After a series of bank failures last year shook markets, some on Wall Street are keenly watching for any fallout tied to NYCB’s woes. Treasury Secretary Janet Yellen earlier this month said that regulators have been watching commercial real estate in case the sector presented any potential risks to the banking system.
Shares in NYCB plunged after the bank’s announcement in late January, though they rallied sharply at the end of last week on signs of insider-buying. The bank’s floating-rate notes due 2028, meanwhile, fell to as low as 70 cents on the dollar. NYCB also had its credit rating cut to junk by Moody’s Investors Service.
Elsewhere in the market, divergences appear. Regional and broad gauges of bank shares are down so far this year, by 12% and 3% respectively, in contrast to a rise in the S&P 500. The debt of financial institutions, meanwhile, has handed investors losses of just 1.4% so far this year, compared to a decline of 2.3% in broader corporate bonds, according to data compiled in Bloomberg indexes.
Despite recent angst over the health of the financials industry, “US bank bonds may be better prepared for potential headwinds this year,” Bloomberg Intelligence credit analysts Arnold Kakuda and Nick Beckwith wrote in a Feb. 12 note, citing the relative valuation of the debt, annual stress testing and regulatory requirements that would have banks boost their capital cushions.
Robert Smalley, a financials credit desk analyst at UBS Group AG, likewise pointed to a slew of key supports for banks with at least $100 billion of assets: existing reserves, capital generation, existing capital levels and transparency.
“Investors rightly have seen this as an opportunity to add to existing positions at better levels,” he said.
(Updates with Bloomberg Intelligence comment in 16th paragraph. An earlier version of the story corrected a strategist comment.)
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