Felix Salmon

When corporates trade through the sovereign

By Felix Salmon
September 22, 2010

The CFR’s geographics blog notes that in some European countries, whole sectors of the economy are trading at lower spreads than the government’s debt:

In Greece, Ireland, and Portugal, a number of sectors have negative corporate spreads, suggesting that firms are either less likely to default than their governments or will have higher recovery rates if they do default.

I suspect that we’re seeing a number of things here, but primarily a recognition of the fact that European integration is further along economically than it is politically. The kind of companies which are big enough to issue publicly-traded bonds are also the kind of companies which tend to have operations in a lot of different European countries. As a result, they’re diversified from their home base.

It’s also the case that many individual firms have modest levels of debt, and might be able to keep on servicing it even in the event of a full-blown economic crisis. If, that is, the government allows them to do so. If Greece devalues, for instance, the sovereign will find it impossible to service all its euro-denominated debt. But some corporates might be able to stay afloat.

That said, sovereign defaults are devastating things for any country’s bond markets, and a lot of the hopefulness that the CFR is seeing is likely to vanish should a crisis arise. Those companies might be trading through the sovereign now. But don’t count on that to continue to be the case even in the chaos of a default.

2 comments so far | RSS Comments RSS

Was just considering this question myself…

Clearly the default risk on longer-term US Treasuries is non-zero. Fiscal sanity in this country is cowering in the corner, beaten alternately by the borrow-and-spend crowd and the spend-and-borrow crowd. Maybe Washington wakes up before this oliphaunt comes crashing down. Maybe not.

So what then is the “gold standard” for wealth preservation? If I had sufficient accumulation to retire comfortably, and wished to minimize risk, what would be the best strategy? Broad diversification? Gold itself?

What risks would a 60/40 split between top-quality multinational dividend stocks and top-quality multinational corporate bonds face? (The latter could be diversified across foreign currencies to minimize inflation risk.) Is there an economic scenario that would pull down low-leverage companies such as P&G, J&J, Nestle, Unilever, and Coke? Is there any investment that would hold up BETTER than these in the event of a US sovereign default and major economic crash/inflationary depression?

Posted by TFF | Report as abusive

“If Greece devalues, for instance, the sovereign will find it impossible to service all its euro-denominated debt…”

Stop this insanity. There is no way they can devalue. They don’t have their own currency. You don’t honestly suppose they will leave the EUR?

Posted by Meriwether | Report as abusive

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