M&A Binge Far From Over

The average spread on high-yield bonds widened only 6 basis points last week, according to Merrill Lynch, vs. 18 basis point for the 30-year Treasury bond and 13 basis points for the 10-year note.

These high-yield spreads remain near record-tight levels and about 100 basis points lower than they were one year ago. The average risk premium in the leveraged loan market rose by only 1 basis point last week. This indicates no panic selling in risky debt markets and shows that investors retain their confidence in corporate health.

A Treasury selloff based on a reassessment of stronger economic growth such as last week's does not cause a high-yield bond market collapse, because the stronger growth feeds into stronger earnings, which supports high-yield bonds and stocks, write Merrill Lynch high-yield bond strategists Chris Garman and Oleg Melentyev. An inflation-driven bond selloff, on the other hand, is "dead weight," says Melentyev, because there's no upside for earnings.

Indeed, investors are not running away from the risky asset class at all; they're seeking out high-yield bonds. Junk-bond funds reported an eighth straight week of inflows, according to Merrill Lynch.

On the demand side, appetite for new deals in the high-yield bond market remains strong, says Hessel. New offerings have not suffered after being priced. The worst Hessel could say about new deals is that they've traded at their offering price instead of popping higher.

On top of all that, buyout firms still have huge amounts of cash to put to work. Last year, private equity firms raised more than $156 billion in new money from institutional investors, according to Thomson. Fund-raising this year is sure to have eclipsed last year's flows given the already $300 billion of new deals in the U.S. announced thus far, notes Peterson.

So even if fear mounts about inflation enough that financing costs for buyouts rise more meaningfully, companies and firms will more likely rush to get deals done before the rug is pulled out from under them rather than stop rainmaking altogether.

That should keep the equities' side of Wall Street mostly sunny, even if there are some lingering clouds from last week's storm.

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