Credit default swaps are back in favor for asset managers
Nomura Asset Management’s Richard Hodges began the year by buying credit default swaps, worried that rate cut bets were becoming too aggressive. He reduced the hedge when the cost of protection increased, and now stands ready to dip in again.
He’s among money managers using CDS indexes to insure against the pain that could be unleashed if central bankers fail to deliver what bond traders have already priced in for the year. For these investors, moderating expectations on rate cuts will boost government bond yields, which would in turn hit spreads on corporate debt. But instead of selling bonds that could be harder to buy back down the line, they’re hedging any volatility with liquid CDS contracts.
Hodges, who manages the $2.4 billion Nomura Global Dynamic Bond Fund, said that this year part of his fund has “experienced some losses on the underlying holdings but had sufficient profits on the index hedge to offset the weaker prices on the assets.” He may add to CDS hedges again if there is “greater economic deterioration or a further adjustment to interest rate expectations.”
The market will get more clues on the trajectory of rates in Europe today, when the European Central Bank is expected to hold the deposit facility rate steady at 4%. The next Federal Reserve decision is on Jan. 31.
AXA Investment Managers and RBC BlueBay Asset Management have also been using CDS indexes in the quest to get ahead of the market’s reaction to what central banks do next. These index contracts insure a broad basket of companies and are the most liquid instrument in the credit market, with hundreds of billions in notional amount changing hands every month, based on Depository Trust & Clearing Corporation data compiled by Bloomberg.
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