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Look No Further Than U.S. Corporate Debt for Libor's Next Victim

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The surge in U.S. dollar Libor rates has trickled into funding markets globally. American investors may not have to look further than their domestic corporate-bond market to see more pain.

The three-month London interbank offered rate rose to 2.29% Thursday, the highest since the financial crisis. Borrowing costs for U.S. investment-grade corporate bonds have skyrocketed to 3.86% as of Wednesday, the highest since 2011.

(Related: Less Is More in World of Corporate Bond Trading, Report Says)

In response, investors are hedging their bets and seeking out protection through credit-default swaps, which are now at levels not seen in almost a year.

Though technical in nature, the widening reflects an increasing scarcity for U.S. dollar funding and has more room to go, Citigroup Inc. strategists Matt King and Steve Kang wrote in a report this week. Even though the move doesn’t convey fundamental stress in the system, there’s still the possibility that widening spreads could exacerbate short-term funding needs even further, said Travis King, head of investment-grade credit at Voya Investment Management.

“We don’t see it as a sign of financial stress, but it leaves the market somewhat vulnerable to something else going wrong,” Voya’s King said. “That being said, the technicals could snowball into something worse if something else breaks in the market leading to a rush for U.S. dollars.”

Libor has been on the rise due to a flood of Treasury-bill issuance since the U.S. debt ceiling was raised in February as the Federal Reserve tightens policy. The U.S. tax overhaul is also coming into play, spurring expectations that companies will shift funds away from longer-dated commercial paper and other securities as they prepare to repatriate cash.

—With assistance from Alexandra Harris, Liz Capo McCormick and Thomas Penaherrera (Bloomberg Global Data).

— Read Bill Gross: Don’t Expect 3 to 4 Fed Hikes This Year on ThinkAdvisor.

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