Subprime Angst Fades As 12% Return Trounces Junk

Remember when nobody wanted to touch U.S. subprime-mortgage debt? That’s just a distant memory as it delivers some of the bond market’s best returns.

The securities that were created in the years leading before the financial crisis in 2008, the last time such notes were issued, have gained almost 12 percent this year, or six times more than junk-rated corporate debt, according to Barclays Plc. After contributing to the collapse of Lehman Brothers Holdings Inc., bonds tied to the riskiest home loans have returned 75 percent since 2010, topping speculative-grade corporate debt for three straight years.

The rally in the U.S. home-loan securities stands in contrast to corporate-debt markets, which have buckled as oil prices plunged and the Federal Reserve moves toward raising benchmark interest rates from close to zero. With the economy poised to grow at the fastest rate in a decade and home values rising for a third year, subprime investors are being rewarded as the wave of foreclosures on the worst loans subsides.

“A lot of the uncertainty around the asset class has been taken away,” Tom Sontag, a money manager at Neuberger Berman Group LLC, which oversees about $250 billion, said by telephone from Chicago.

Declining Delinquencies

While almost 30 percent of the subprime mortgages tied to bonds are at least 60 days delinquent, the percentage has fallen from as much as 41 percent in 2010, data compiled by Bloomberg show. In the broader market for mortgage securities without government backing, which also includes loans known as Alt-A and jumbo debt, the default rate has fallen to 23 percent from 30 percent in 2010.

The share of borrowers falling behind payments for the first time has dropped for at least three straight years, while the amount of delinquent homeowners who are able to catch up without getting their loans changed has risen in each of those years, according to Nomura Holdings Inc.

That’s helped yields, after accounting for projected principal losses, on some types of subprime securities to fall 0.5 percentage point since June to 5.8 percent even as prices on other debt slumped, according to Bank of America Corp.

For junk-rated companies in the bond market, borrowing costs surged to an 18-month high as oil prices plunged below $60 a barrel for the first time since 2009. Yields on speculative- grade corporate bonds soared to 7.5 percent on Dec. 16, from an all-time low of 5.69 percent in June, even as sales of high- yield, high-risk notes in the U.S. reached a record $354.9 billion this year, according to data compiled by Bloomberg and Bank of America.