Campbells Soup Safer Credit Risk Than US Government
Wednesday, December 10, 2008 18:27Credit default swaps on treasuries hit another record. It now costs 66 basis points (0.66%) to buy protection against a US Government default on its treasury bonds. The cost has risen over 100 times the January 2007 level of .06 basis points (0.006%) .
Credit default swaps (CDS) are a kind of insurance contract that can be taken out to protect against the possibility of a bond default. If you own $10 million in US treasury bonds, and are worried about a default, you can hedge your bet by buying a swap. In this example you would be paying 66 basis points (0.66%) or $66,000 to a firm who is willing to pay you the full $10 million if the US Government defaults on the bonds. The same $10 million protection would have only cost $600 one year ago ($65,400 less).
As with any insurance policy, the cost of protection rises along with the risk associated. The recent spike in CDS spreads should ring alarms. Never before has the financial markets priced in the possibility of the US Government failing to meet its obligations. US treasuries are known to be “Risk free” investments throughout the financial community.
The CDS market is telling us that a US Government default is more likely than the governments of Japan or Germany. US corporations such as Campbells Soup and Baxter International are even seen as a better credit risk than treasuries. All have lower default protection costs than the United States.
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