CROSS-SECTORSECTOR IN-DEPTH 3 May 2016EURO MARKETContactsDavid Munves 212-553-2844MD - Capital Markets Research Group david.munves@moodys.comYukyung Choi 212-553-0906Assc Dir - Capital Markets Research Group yukyung.choi@moodys.comABOUT CAPITAL MARKETS RESEARCHAnalyses from Moodys Capital Markets Research, Inc. (CMR) focus on explaining signals from the credit and equity markets. The publications address whether market signals, in the opinion of the groups analysts, accurately reflect the risks and investment opportunities associated with issuers and sectors. CMR research thus complements the fundamentally-oriented research offered by Moodys Investors Service (MIS), the rating agency.CMR is part of Moodys Analytics, which is one of the two operating businesses of Moodys Corporation. Moodys Analytics (including CMR) is legally and organizationally separated from Moodys Investors Service and operates on an arms length basis from the ratings business. CMR does not provide investment advisory services or products.View the CMR FAQ Contact the CMR team Follow us on TwitterMoodys Analytics markets and distributes all Moodys Capital Markets Research, Inc. materials. Moodys Capital Markets Research,Inc. is a subsidiary of Moodys Corporation. Moodys Analytics does not provide investment advisory services or products.For further detail, please see the last page.ViewPointsUsing CreditEdge to Build Corporate Bond PortfoliosSummary Public firm Expected Default Frequency (EDFTM) probability of default measures are at the heart of Moodys Analytics CreditEdge data set, and are the principal inputs into the platforms bond-level Fair Value Spreads (FVS). Portfolios of bonds with option-adjusted spreads in excess of their Fair Value Spreads (a relationship we capture with our Alpha Factor metric) regularly outperform market value-weighted indices. The main reason appears to be that default risk, as represented by EDF metrics, is not fully priced into corporate bonds. We employ a quintile study to show that portfolios of issues with high Alpha Factors have stronger returns and better credit risk characteristics than bonds with low Alpha Factors. We find that the effect persists across time, although it is more pronounced in volatile markets and in periods when default risk is high. Corporate bond fund managers are increasingly using CE metrics as a cost-effective way to identify attractive securities for actively managed portfolios, and as the basis for quantitative enhanced beta strategies.CUMULATIVE AVERAGE SPREAD TIGHTENING VS. A BENCHMARK INDEX FOR EURO INVESTMENT GRADE BONDS WITH HIGH ALPHA FACTORS (2006-2015)MOODY'S ANALYTICS CROSS-SECTOR2 3 May 2016 ViewPoints: Using CreditEdge to Build Corporate Bond PortfoliosCreditEdge in the world of fund management CreditEdge, in particular its core public firm Expected Default Frequency (EDFTM) metrics1, has long been used by risk departments of insurance companies and inves...
