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Top links: High-yield corporate bonds get whacked

A roundup of what The Globe and Mail's market strategist Scott Barlow is reading this morning on the World Wide Web.

Weakening U.S. corporate debt markets forms the biggest risk for global equity markets. Thursday, the iShares IBOXX High-Yield Corporate Bond Fund dropped 0.7 per cent and fell through some important technical barriers. Selling in the sector has been intense. Bank of America reported the largest weekly outflow from U.S. high yield bond funds, $2.7-billion (U.S.) in over a year.

Institutions are also fleeing corporate bonds. Investment dealer inventories (Morgan Stanley, Goldman Sachs and the like) dropped $3.8-billion or almost ten per cent of total holdings.

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Corporate debt markets have been fueling the financial engineering that has supported profit growth in equity markets despite weak revenue growth. Lower bond rates led to debt refinancing which reduced corporate interest expenses and boosted the bottom line. Low rates also allowed companies to borrow money to repurchase shares which also increased profits.

More weakness in corporate debt markets causes two problems. The obvious issue is investment losses to investors holding corporate bond funds and ETFs. And there's a lot of them. The iShares IBOXX ETF mentioned above, for example, has seen its market cap more than quadruple to $12.6-billion since the financial crisis.

The other issue is that rising rates on corporate borrowing rates will end the debt-driven profit enhancement methods. Equity markets will likely weaken as a result, particularly if sales growth remains slow.

High yield, high noon? Junk debt appetite wanes – FastFT (subscription required)

On Current Credit Conditions – Aleph Blog

Dealer Positions – Across the Curve

Good news! The Pentagon announced it has no immediate plans to invade Canada, so our resource and fresh water wealth remains safe for now. In testimony to U.S. congress, Gen. Martin E. Dempsey, said "Let me first assure you we do not have a plan on the shelf for the invasion of Canada."

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No Plans for Canada Invasion, Pentagon Leader Says – Roll Call

An announced $54-billion (U.S.) merger between Chicago-based Abbvie Inc. and Ireland-based purveyor of Adderall Shire PLC is another example of large-scale tax management by a U.S. firm. FT Alphaville provides a succinct summary of how it works,

It's not about the [corporate tax] rate. It's about AbbVie being able to use its offshore cash without paying 35 per cent to the IRS if it repatriates the cash through the US."

One wonders how long the U.S. government will remain patient with this trend.

Inverting Abbvie – FT Alphaville (registration but not subscription required)

Pundit and frequent CNBC commentator Josh Brown provided a highly topical primer on how asset markets deal with geopolitical tensions. After expressing his sympathy with those affected, Mr. Brown writes, "The first change we notice is that momentum-oriented trades and stories are quickly abandoned. This is because these stocks are typically held by Greater Fool-playing investors who are not fundamentally bullish."

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He goes on to discuss the potential for multiple compression (lower PE ratios) in a post that's worth reading in its entirety.

How Geopolitical Threats Affect the Stock Market – Reformed Broker

Tweet of the Day is from @fxmacro "BoaML: Either HY rallies or Equities are in trouble "

Diversion: The curious case of the massive crater that just appeared at 'the end of the Earth' – Washington Post

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About the Author
Market Strategist

Scott Barlow is The Globe's in-house market strategist. He is a 20-year veteran of Canadian investment banks, including Merrill Lynch Canada, CIBC Wood Gundy and Macquarie Private Wealth (MPW). He was a highly ranked mutual fund analyst for 10 years and then, most recently, the head of a financial adviser support team at MPW. More


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