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High-yield debt wins over investors as options wane

TOKYO -- Some Japanese corporate debt once shunned by investors despite high yields is now getting a second look as the search for decent returns grows harder in the aftermath of the British vote to exit the European Union.

The change in this segment of the bond market has been small but noticeable.

"Yields on SoftBank bonds are bound to fall further," said a fund manager at a Japanese institutional investor that added to its holdings of SoftBank Group debt Thursday, judging it undervalued.

A bond issued by the wireless carrier with about four and a half years to maturity is yielding 1.1% based on recent quotes, compared with an average of around 0.2% for debt with the same A rating from the Japan Credit Rating Agency. But the bond's spread, or interest rate premium, over government debt is shrinking even as the average spread for A-rated corporate bonds widens.

This shows the strength of buyer demand for SoftBank. The same is true for Tokyo Electric Power Co. Holdings, which has also seen spreads narrow despite persistent accusations of a cover-up of the Fukushima meltdowns.

Investors had shied away from both companies' bonds. SoftBank has made a string of high-priced, debt-funded acquisitions. Its buyout of U.S. wireless carrier Sprint, announced immediately after a bond sale to institutional buyers in 2012, cost it investor confidence. As for Tepco, investors have been wary of its debt since the 2011 Fukushima disaster.

The newfound appeal of these issuers owes partly to expectations of lower credit risk. SoftBank's finances are improving, said Toshiyasu Ohashi of Daiwa Securities.  The company is expected to apply the proceeds from selling off shareholdings, including a portion of its stake in Chinese e-commerce giant Alibaba Group Holding, to debt repayment.

Tepco subdivided into different operating companies this April. "Understanding of how nuclear risk is hived off in this arrangement has sunk in" with the bond market, said Nobuhiko Anbiru of Mitsubishi UFJ Morgan Stanley Securities.

But a changing investment environment is a bigger driver of buying in these companies' debt. Expectations of further U.S. interest rate hikes have faded since the Brexit vote, according to Eric Delomier of Capital Group. This, combined with expectations of additional monetary easing by the Bank of Japan, pushed Japan's benchmark long-term interest rate to a new low Friday. Corporate bonds stand as a precious haven of high yields in this flattened landscape.

Negative yields on sovereign debt are providing a tailwind for corporate borrowers. Japanese corporate bond issues in the six months through June grew on the year for the first time in three years, totaling roughly 3.9 trillion yen ($37.9 billion). A wealth of new offerings is on tap this month, too, said a smiling underwriting team member at a domestic brokerage.

But some would argue that the high-yield debt has become too popular, inflating a bubble in this segment. "The returns in the bond market now are too low for the level of risk," a veteran bond investor said.

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