Credit Trader

From 99 to 1

2011-10-18T18:57:00.006-04:00

Well, after a very short time on the beach, it's time to head back to being gainfully employed.

While recently passing by Zucotti Park on the way to my new employer, I choked back the urge to tell them that I was likely in the midst of a transfer from the 99% "unemployed/screwed by Wall Street" back to the 1%.

Not long ago, I was stunned by the unanimity of the view the "Europe will only get worse." Now, I'm equally as amazed that only vague rumors of a 'bazooka' bailout are all that are needed to cause a huge rally. Unless and until dealer capital returns to the market, we can expect these market swings to become the norm.

So, this blog will now become dormant...until the next 'reduction in force."

Benford's Law and Weezer

2011-10-13T15:20:00.006-04:00

Credit spreads have spent much of the day wider post JPM earnings.

There are many items to discuss within their earnings release however I feel the most relevant to me, and my livelihood, is their FICC revenues which were down 14% (adjusted for one time costs). JPMorgan spreads (in cash bonds) were ~10bps wider on the day but are outperforming BAC and MS spreads which are ~15bps wider.

Morgan Stanley recently noted, in it's 10Q, that if it's credit rating were to be cut "we may be required to provide additional collateral to certain counterparties." (via UBS credit research).

There are a few data points that highlight how 'cheap' the high yield sector currently is. As of Q2, aggregate leverage has fallen from it's peak of 4.7x to it's current 3.6x. This is where it was in the beginning of 2007. In addition, the covenent stress index is approaching a historic low of 1.8% (all time low = 1.4% in '05). So why is the HY CDX index pricing currently reflecting a 50% cumulative default rate over the next five years? (data via UBS)

Dealbreaker posted an very interesting story about Benford's law. Benford's law posits that there is a natural distribution to all numbers in the universe (i.e. lengths of rivers, the populations of cities, molecular weights of chemicals). This professor had taken 43 financial variables from 20,000 firms and they fit the predicted outcome (of Benford's law) almost perfectly. However, she warns that recently, this same data set is no longer 'fitting' and the deviation is becoming an outlier. She warns that "accounting data seem to be less and less related to the natural data-generating process" and "Benford's law casts serious doubt on the reliability" of this data. No one would label me a quant, but this thesis seemed worthy of note to this layman as a warning that the reported numbers may be more 'adjusted' than we realize.

Today's 'off topic' note - Two weeks ago, the ex-bassist from the band Weezer tweeted that he dreamt he would die the following week of a heart attack in his sleep. Lo and behold, he died the following week of a heart attack in his sleep. ABC new story on this here.

Beer, fried chicken and video games

2011-10-12T09:28:00.006-04:00

Again today, optimism seems to prevail as the headlines, to this reader at least, seemed pretty grim. Yet spreads are opening firmly tighter to start the day.

German industrial production was weaker than expected...yet the rest of Europe, lead by Italy of all places, was stronger.

ECB President Trichet used the term "systematic" when discussing the current crisis in Europe.

A German bund auction received fewer bids than the amount on offer and technically failed.

The Chinese tariff bill passed the Senate causing the Chinese official news agency to quickly warn/remind us of the Smoot-Hawley tariff act which many feel lengthened the Great Depression in the 20s and 30s. For an eye opening and exciting read of Chinese offensive capabilities, be sure to read this November 2010 article from Seymour Hersh in the New Yorker.

Many hedge funds are breathing a bit easier this morning on the news that the threshold for 'systematically important' institutions will be $50b. This exempts most hedge funds from the increased regulatory scrutiny that comes along with that 'systematic' label.

The credit strategy group at JPMorgan recently raised their asset allocation in credit to neutral, from underweight, citing attractive absolute yields, inflows into the sector, some "hints at progress" in Europe and ahead of anticipated year end allocations into this "best asset class."

The team at UBS has highlighted a divergence in trends that may be applicable for our equity brethren. They note that while the trend of dividend increases is actually declining (3 straight quarters), the trend in equity buybacks (highlighted by Berkshire Hathaway) has actually remained robust increasing for the last 8 quarters.

For you Red Sox fans...or haters...the finger pointing has begun (in this Boston Globe article). Starting pitchers Beckett, Lester and Lackey were "drinking beer, eating fast-food fried chicken, and playing video games in the clubhouse during games while their teammates tried to salvage a once-promising season." The "consequences were apparent as their body fat appeared to increase and pitching skills eroded."

2011-10-07T10:20:00.005-04:00

The animal spirits are happy this morning encouraged by strong comments from Geithner and payroll data coming in above expectations.

While speaking yesterday afternoon, Geithner said yesterday before the Senate banking committee that there was "absolutely" no chance that a big US bank would fail.

Non farm payroll data this morning was both above expectations and included upward revisions to the previously two monthly reports. Tempering that enthusiasm is the knowledge that the current 3 month average growth of ~97k is well below the needed 125-150k needed to keep up with natural population growth.

If you work as a lobbyist, it's likely you pulled an 'all nighter' last night reviewing the leaked draft proposal of the Volker bill. The WSJ highlights the following section as particularly worrisome for fixed income trading divisions : "[trading] must be designed to generate revenues primarily from fees, commissions…or other income not attributable to appreciation in the value of covered financial positions it holds in trading accounts." I've noted repeatedly that you cannot have liquidity without capital. If regulations impede, restrict, or forbid the ability of banks/brokers/dealers to hold bonds (even for a short amount of time), clients liquidity will be impacted. Glenn Schorr (Nomura) cautions that this draft could intentionally be dire "in order to facilitate further discussion during the 60-day public comment period."

In falling markets or dwindling liquidity, one is often forced to sell NOT what one wants but rather what one can. A Goldman piece warns (via FT/Alphaville) that this soon may occur with the French banks; what they can actually sell at the moment is US assets. They opine that the sales could be focused on "(1) aircraft leasing, (2) commercial real estate, (3) equipment financing, and (4) leveraged loans."

Markets can handle both good news and bad news. However, markets detest uncertainty. I'm concerned that the imminent and pending clash between Congress and the White House over potential tariffs on Chinese goods (as result of them being labelled currency 'manipulators') adds yet another healthy and potentially dangerous dose of uncertainty. This opinion piece in The New Republic (via Poltico.com) sums it up nicely.

You'll note that yesterday's rumor of a new round of Euro bank stress tests has been officially denied. Also, Sarkozy and Merkel are meeting this Sunday over their differences about how to implement a bailout package.

OFF TOPIC - I heard this fellow interviewed on NPR this morning and found him to be intelligent, articulate and enthusiastic. He has written a non-consensus op-ed in today's NYTimes titled "This War Can Still Be Won" about his experiences in Afghanistan. He is a Special Forces major who speaks Dari and just spent twelve months embedded with the Afghan army (his impressive bio is here).

Jobs, showers and a point

2011-10-06T11:54:00.006-04:00

There seems to be increasing realism in Europe. On one hand, the ECB buying of debt is actually having meaningful impact; perhaps it's fleeting but it's tangible at the moment. In addition, the talk of another round of European bank stress tests has the revolutionary idea of....gasp....using market values for sovereign debt.

The recently conducted Spanish debt auction resulted in yields that were a full 130bps lower than the previous auction. You can thank the ECB purchases for that....but before you yell "Ole!" please recall that Spanish gov't yields are still at historic wides versus German gov't yields.

On the matter of the coming stress tests, I discovered (via FT/Alphaville) a fancy interactive graphic tool here to input your own variables for a customized Euro bank stress test.

For those that watch retail investor behavior for leading but contrary indicators, please know that Morgan Stanley has set a record pace of issuance of structured notes to retail investors that are keyed off of interest rates. When mom and pop capitulate, it (name your sector/security/market) is headed the other way.

Ann Coulter, on the 'occupy wall street' protestors: "I am not the first to note the vast differences between the Wall Street protesters and the tea partiers. To name three: The tea partiers have jobs, showers and a point."

Be aware of Geithner on the tape today at 2pm on the domestic jobs bill and the European crisis.

Hope, hackers and clueless

2011-10-05T08:57:00.008-04:00

If I were banned from looking at the screens this morning and simply read of a 3 notch Italy downgrade, Deutsche Bank speaking of "significant and unabated slowdown in client activity" and more proposed legislation of a financial transactions tax, I would think we'd be opening weaker.

But alas, apparently hope, still springs eternal and the risk markets are rallying to start our day. 'Hope' is currently taking form of 'IMF support'.

Eric Beinstein's (JPMorgan) excellent data and research shows that the broad corporate market's negative basis is narrowing to it's tightest level in over a year (with the exception of a brief spike the day of the US AAA downgrade). A narrowing (negative) basis implies that cash bonds are less cheap to CDS. When cash bonds rally vs CDS as they are now, it's usually a sign of sustainable demand for corporate bonds. When CDS rallies, it's usually 'fast money' or the dealers who's time horizon is typically much shorter.

Once again, Costco announced strong earnings. For the majority of this year, the credit markets have viewed Costco as more creditworthy as the US Treasury (comparing the 2 credit default swap spread levels).

Marketbeat/WSJ note that the S&P closed on October 3rd, 2008 at 1099.23. Yesterday, October 3rd, 2011 it closed at 1099.23.

For Warren Buffett watchers, he gave a fairly lengthy interview (here) yesterday. His broad observations started with "our housing-related businesses are as bad as they've ever been during this period. Everything else you name is up. And our railroad carried 200,000 car loads last week, that's the highest total in three years."

While most in our industry view 'occupy wall street' as completely clueless, Erin Burnett at CNN managed to capture and confirm this thesis here. She asks a protester if he knew that the bank bailout package actually made money for the taxpayers and he replied "umm, no" and conceded that that information would change his thinking.

Forgive me for sounding like Chicken Little, but a fairly effective and well known hacker called Anonymous has targetted the New York Stock Exchange. Previously, he successfully took down PayPal and Mastercard. While he, or they, haven't specified whether it will simply be nyse.com or the actual market infrastructure, I believe it warrants notice....so tread carefully on Monday October 10th at 3:30pm. CNBC has the video threat here.

Them there CDSSers

2011-10-04T14:11:00.002-04:00

I'd be regurgitating old information were I to cite the drivers of today's malaise in the risk markets. Have no fear, the Fed will "continue to closely monitor developments" according to Bernanke at Congress today. I was really hoping he would stand up and say "this is John Galt speaking."

The New York Fed released a very interesting study about CDS trading. Some of their observations and conclusions may come as no surprise to someone that has actively traded them while other points were long suspected but never confirmed. In what is becoming patently obvious at the moment, the report noted "little evidence that dealers hedge large trades" and that they "typically hold on to risk taken on in customer trades for some time." Also, only 500-100 unique participants trade on a daily basis (in single name CDS) and over half the transactions occur between the G14 dealers. The 'majority' of single name CDS traded "less than once a day" while the "most actively traded changed markedly over our three month sample." All in all, it's a must read.

Dick Bove released an assertive report stating that bank stock declines are overdone and should be bought. You can read his brief rationale here (via Dealbreaker.com).

Waiting For Superman

2011-10-03T10:29:00.004-04:00

Greece remains at the fore of the risk markets yet again. This time, the release was notable not for it's content but rather it's honesty and realism. They admit that they are unlikely to meet the deficit targets set only months ago.

As you well know, when credit spreads for a certain issuer invert, it means there is concern about the credit. The most visible and broad intra-day index in the credit markets is the CDX. Their 5yr and 10yr spreads are now the narrowest (i.e. still normal, not inverted) that they've been in ~15 months. Please be aware that the CDX does not contain and banks/finance entities (who's curves have been flat/inverted for some time).

One of the primary drivers of the longer term sustained rally in credit has been strong retail demand for the product. The most recent AMG data shows sustained, but subdued, inflows into taxable bond funds....but if you remove ETFs, that turns to the first (small) outflow in several weeks.

While this observation may be too late to make you any money during this move, it's one to be aware of nonetheless. The CRB RIND index is a commodity index made up of basic commodities (details here) that are not primarily traded on a futures exchange and therefore can be viewed as less influenced by speculators. During August, the regular/normal CRB index rallied strongly causing some to believe commodity prices were moving higher. Astute observers, namely Julian Garran at UBS, warned not to believe the hype and that commodities were still weak and weakening. Alas, he proved right this time as the broader index eventually retreated. On Bloomberg, it is CRB RIND .

The Sunday Times is reporting (via FT Alphaville) that Goldman will be zero-ing out their bonuses and attempting to hold their revenue pay out ratio to an all time low of 35-40%.

As recounted by former Senator Phil Gramm, when Abraham Lincoln first met Harriet Beecher Stowe, he allegedly said "so I finally get to meet the woman who wrote the book that started the Civil War." Her book had humanized the outrage of slavery and moved it from a distant concept/practice to a painful reality that needed action. Senator Gramm went on to say that the movie Waiting for Superman will be the Uncle Tom's Cabin of our generation.

On the beach

2011-09-30T09:21:00.006-04:00

Alas I find myself in a similar situation to when I first started writing this blog in the beginning of 2009. Due to decisions made well above my pay grade and across the ocean, I find myself 'on the beach' once again. Before you immediately put my missive on the junk/spam filter watch list, I assure you that I will not be sending many of these. Hopefully only a handful as I have already been re-engaged by several potential future employers.

I'd like to say I'm back due to popular demand. Exactly two friends responded "good, now you can re-start your blog" when they learned of my recent departure from the payrolls of a large bank.

My first observation is a repeat of a long held belief that 'you cannot have liquidity without capital.' Take a look at this graph (Fed data) of US broker/dealer holdings of corporate bonds:

The capital provided to clients as liquidity to trade corporate bonds has fallen off a cliff. The non-capital/agency dealers must be licking their chops. However, it can take a long time for large institutional investors to alter their thinking and trading styles to a more 'patient liquidity' model.

My second observation may be overly simple and perhaps naive. There are few, if any, investors (in any asset class) that believe the European sovereign situation will improve any time soon. In my >20 year career, every single time the entire market felt the same way about a future outcome, that particular outcome rarely actually occurred. While I'm not predicting an immediate positive solution/outcome to Europe, I would posit that a 'positive' outcome would like be the most disruptive to the market. Witness early 2010 when almost every single investor (ex Rick Rieder @ Blackrock) thought US rates were going to rise dramatically. They made salient fundamental and technical arguments for why this was inevitable. Yet, the exact opposite occurred. Back to Europe, be sure to read, or re-read, Michael Lewis's very prescient article from October 2010 about Greece.

Many have observed that Wednesday night was perhaps the most exciting group of games in baseball history. The NYTimes has an article where they write that the odds of those particular game outcomes were 1 in 273 million. In addition, on a more painful and personal level, they note that the odds of the Red Sox making the playoffs, as of September 3rd, were 99.6%.

The End

2009-09-03T10:22:00.005-04:00

Well, it's over. My time on the beach as a blogger has come to an end. I've decided to re-join the ranks of the gainfully employed and I'm pretty confident my new compliance department will not take kindly to my predilection for blogging.

So, thank you all very much for actually reading it and thereby forcing me to think hard about the credit markets on a daily basis.

Keep up the vigilant curiosity, avoid bland certainty and aspire to regular critical self reflection.

Daily Commentary

2009-09-03T09:55:00.004-04:00

Spreads are tighter this morning following China's big equity move and an 'as expected' ECB leaving rates unchanged. Secondary volumes are actually about normal while the new issue calendar is fairly light. We did see >$4B in issuance yesterday; the bulk of which was a series of issues from Westpac. So far, no new issues in the queue and I'd be surprised if we saw much ahead of tomorrow's US payroll number. I am encouraged by the recent steepening in the credit curves. It may be solely in reaction to the flattening of the underlying US Treasury curve but it's a healthy sign nonetheless.

Please note that the main credit index is about to roll. The new constituents for CDX #13 have been chosen and it will start to trade on September 21st. Initial analysis has the new index trading ~16bps tighter than the current one.

I was a bit surprised to see S&P putting >$5B in corporate loan CDO's on creditwatch negative; perhaps I was a bit naive in my belief that the worst had passed us by.

Warren Buffet seems to believe that the worst has past in the mortgage market as evidenced by his recent purchase of Capmark's mortgage unit. Spreads in BRK paper did not react much at all.

While the ECB remains unchanged, the FOMC has "considerable uncertainty" about the strength of the economy (minutes here). This leads me to wonder why Fed governor Plosser was on the tape predicting that rates will have to rise "very rapidly".....he did, however, add a codicil of "if the time is right."

While I'm generally pretty dismissive of most financial tort lawsuits (being a believer in 'caveat emptor'), this recent suit has some interesting tenets. The rating agencies are claiming their opinions are protected under "free speech". Well, this particular judge does not believe that defense is adequate and is allowing a class action lawsuit to proceed against them. Here's the Bloomberg story.

If you can survive the first few paragraphs about golf, Bill Gross does eventually get to what he believes is the 'new normal' for the financial markets in his recent monthly outlook.

Here's some more interesting Labor Day weekend reading....in which the SEC rails at the SEC for not catching Madoff...even Madoff himself was surprised he didn't get caught.

Daily Commentary

2009-09-01T10:55:00.003-04:00

Spreads are still slightly weaker despite a higher ISM Manufacturing number. We certainly feel rangebound in this last summer week. Yesterday's month end (daily) volume was very low versus previous month ends.

Market participants all seem to be awaiting the determining factor of September supply. As JPMorgan notes, supply could be heavy given attractive all-in yields for the issuers and impending October earnings blackout. Countering that are the already high cash on balance sheet levels and moribund capex spending. Plains All American Pipeline is the only new issue queued up this morning.

Here's a marketing piece from PIMCO where one of their portfolio managers notes their concerns about declining recovery values in credit (via Blooomberg news).

The volume of stories about current or pending CMBS defaults seem to be approaching a crescendo. Here's the latest from Bloomberg news.

AIG credit is getting whacked just as badly as the equity post Bernstein downgrade and lawsuit dismissal.

Those traders at RBS really stayed glued to their desks don't they.....oh wait, those are protesters who have glued themselves to the desk. (via FT/Alphaville)

Daily Commentary

2009-08-31T10:10:00.003-04:00

Weaker global equities have credit spreads following suit. Secondary volume was very very light on Friday and once we get past today's month-end activity, I suspect the rest of this pre-Labor Day week will be light as well. Only one new issue, from Republic Service Group, is in the market today.

M&A is definitely back as 2 deals were announced today. Disney buying Marvel and Baker Hughes buying BJ Services. BHI spreads are ~7-10bps wider on the news and they made a comment on the conference call that if the bond market stays where it is, they'll term out the debt (i.e. it's really attractive for us to fund now). DIS spreads were only a few basis points wider in line with the broader market.

Radio Shack is following the trend of deleveraging and tendering for 1 of it's outstanding bonds at above market prices. To give you equity folks a feel for corporate bond trading, these particular bonds only traded once during June, once during July and once during August in non odd lot size. As one could extrapolate, this throws quite a wrench into the works for those that had bought protection on RSH in the credit default swap market (i.e. a short squeeze).

Speaking of credit default swaps, I've mentioned more than once the existence of an oligarchy that profits quite handsomely from this market. Here is a Bloomberg story about their efforts to lobby against regulation and change.

I've recently noted the potential harmful impact on the banks of the pending accounting rule change with regard to securitized assets. Apparently, the FDIC also recognizes this and is now proposing a phase-in as opposed to a Big Bang.

Yes, this is slightly old news but Bloomberg has a good piece about the leverage at the banks picking up. Speaking of banks growing....here's a Washington Post piece (via The Atlantic) about those banks that were 'too big to fail'...and are now bigger.

Post a failed LBO, there's often loads of sour grapes whining. Here's a piece in BreakingViews about Tribune bondholders claiming fraudulent conveyance.

I missed this piece last week in FT/Alphaville which was a commentary from PIMCO's El-Erian regarding a 'to-do list' for Bernanke for his second term.

Fortune magazine has a longer article about Chris Flowers and the loss of his Midas touch.

Daily Commentary

2009-08-28T10:10:00.005-04:00

Spreads are meandering slightly tighter this morning following equities. While I acknowledge it is a summer Friday, I'm surprised that secondary volumes are so light given the impending month end. No new US issues are on tap so far today. Looking at the JPMorgan credit index, the current yield is 5.45% and the average bond price is $105.24.

I'd think the credit markets would have been more encouraged by AIG's new CEO saying that he would be patient with his asset sales. A prudent seller helps all markets...AIG CDS is slightly weaker on the day however.

It's rare to find an enormous disparity between the credit views of the two major ratings agencies Moody's and S&P. Thus today's Reuters story highlighting their current wildly different beliefs about high yield default rates makes for interesting reading.

Recently I noted that Israel was the first central bank in this cycle to hike rates. Contrast this with Sweden which recently cut rates below zero (story here).

Clearly I should not delve too far into global macroeconomic theory given that this story surprised me a bit....the Economist maintains that a country's investment returns are not correlated with it's GDP growth.

While some companies would prefer to avoid their regulators at all costs, others feel it benefits them to be close or friendly. This approach, from disgraced financier Allen Stanford, is taking the latter to a creepy extreme.

Daily Commentary

2009-08-27T09:50:00.004-04:00

Spreads are largely unchanged this morning in light volume. On the new issue front, only 1 deal from Praxair seems to be queued up. The recent P&G benchmark deal, which can be used as proxy for the health of the new issue market, remains a few basis points tighter than where it was issued. While secondary volume is off a bit, the breadth of the market remains healthy.

JPMorgan credit research recently noted that EBITDA margins in Q2 were actually above the average of the last decade.

Diageo's CEO was on the tape this morning making comments about his eagerness to make acquisitions; spreads in Diageo CDS were about 5bps wider to the low 70bps area. I note this as it's been quite some time since I've seen any M&A chatter affecting spreads.

The long awaited FDIC rules (39 pages of them) regarding private equity firms buying failed banks have been released (here). As expected, the capital requirement was lowered from the proposed 15% to a more palatable 10%. However, this Reuters Blog astutely notes that it's no longer pure Tier 1 capital (reserve) but rather Tier 1 Common Equity.

Fed governor Lacker made comments (here) that concluded with his intention to revisit whether the Fed should complete it's entire targetted purchase of $1.25T of mortgage backed securities. This is likely to raise many eyebrows amongst the mortgage crowd. In theory, most investors disapprove of any government intervention in the markets....while in practice, everyone privately likes it when the government artificially inflates the price of securities you own.

Given the lack of credit focused news items to write about this morning, I'll delve into mortgages for the second time today. The NYTimes has an article about the enormity of pending mortgage rate resets coming in the next few years that could easily threaten any real estate recovery. BusinessInsider's Henry Blodget also has some graphs on the same matter (here).

Buttonwood from The Economist has a short posting here about the debate whether private equity owned firms outperform public firms.

Daily Commentary

2009-08-26T11:50:00.003-04:00

The market is suprisingly resilient for a late August day. Spreads are unchanged to slightly wider but secondary volume and breadth are quite healthy. I would like to reiterate, however, that credit spreads have definitely lagged the rally in the S&P since early July.

The new issue market is performing well with a large issue yesterday from P&G (which is slightly tighter in the secondary) and new issues today from Westfield Group and Roper Industries. Roper is barely investment grade rated yet the deal is several times oversubscribed.

Zerohedge has posted a copy of a letter to the SEC attributing blame for the money market fund problems clearly on the rating agencies. While this in itself is no shocker, the fact that the author of the letter runs a rating agency himself is unusual...as you can imagine, he largely points the finger at his competitors.

Looking at the DTCC data, I did notice one data point that was out of line with much longer term trends. Gross index outstanding has actually picked up for the first time in a long time; growing liquidity in that index bodes well for the market. Before the credit crisis, you could easily do a $2B trade, on the wire, with little impact to the market. During Q1, that liquidity dropped to $25-50mm but has gradually crept back up to $500mm-$750mm size markets.

This slightly dated article from the NYTimes draws some comparisons between GE and Enron with regard to their earnings management (aka manipulation). It quickly reminded me of one of my favorite contrarian articles of all times from Malcolm Gladwell in the New Yorker (here). In it, he argues that all of Enron's financial information was publicly available for those willing to solve a very very complex puzzle.

Commercial real estate is still struggling. However, some may point to the recent drop in delinquencies (the first since August 2008). Realpoint Research (via FT Alphaville) notes that it's simply a technical due to a large amount of GGP backed loans temporarily returning to 'currently paying' due to modifications.

Daily Commentary

2009-08-25T08:58:00.003-04:00

Credit spreads are largely unchanged this morning in advance of a slew of real estate data. Case/Shiller for June was slightly better than expected while we are still waiting on FHFA for June and new home sales for July.

While we're only seeing 1 small deal from DUK in the US investment grade market today, Europe is witnessing 2 very interesting offers from Banco Santander. Their first offer is to buy back securitized product that they issued at slightly discounted prices (details here). This is certain to help liquidity in their ABS market as investors jockey positions to take advantage of this. Their second offer is an exchange similar to what Viacom did recently. They are offering to buy back several of their off-the-run existing issues at a discount in return for new benchmark sized bonds. These are both signs of healthy and growing liquidity.

More than once you've heard me note the wide spreads and lack of liquidity in the REIT sector. CreditSights has published a relatively bullish fundamental piece this morning noting that REITs are "no longer focused on last resort measures of bolstering liquidity" and they have sufficient cash or credit to meet maturities through 2012.

Quick pop quiz....are any central banks raising rates? Yes, Israel did this morning from .50% to .75% .

While this certainly shouldn't come as a surprise, apparently the FDIC will ease their rules that had precluded private equity firms from buying banks.

To those that howled in protest over the government bailout of Citi, I will now respond "should we taxpayers keep the $11B we've made so far?" (story here)

While some may express surprise that Goldman, or any other firm, allegedly gave their opinions to certain clients but not all, I am not. Let's be realistic here.....in ANY industry, clients that provide the largest revenue streams get the best service. If you spend big bucks at an airline, you get the best food, best flight attendants and comfortable big seats. If you spend loads of dough at Saks Fifth Avenue, you get a personal shopper and an early look at the Tory Burch Spring collection. No one should be surprised or offended by this gradation....remember, they are opinions and only that.

Daily Commentary

2009-08-24T09:47:00.006-04:00

Credit spreads are slightly better this morning as they blindly follow equities. Equities were obviously buoyed by Bernanke saying that the "prospects for growth in the near term were good."

We've seen four straight weeks of declining secondary volumes and this week is unlikely to break that trend. In addition, so far today only 1 smaller issue from Westpac has been announced.

There's likely to be little on the docket this week to drive spreads with the possible exception of the US Treasury auctions of 2 year, 5 year and 7 year bonds. I don't think the folks at treasury are thrilled with the timing of PIMCO's McCulley saying on Bloomberg radio this morning that the "big gains to be made in our lifetime in treasury bonds have been made." (more here).

FT Alphaville pointed out the ECB's lending survey data which shows that lending standards have eased back to the level of mid 2007.

If you're headed to the beach and would like some light reading, here are Bernanke's "Reflections on a Year of Crisis." from the recent central banker boondoggle in Jackson Hole.

The WSJ made reference to a recent S&P report that asserted 75% of all fixed income funds, including 98% of mortgage funds, have underperformed their benchmarks. While this ex-active buysider is certainly biased, the underlying indices in fixed income are very difficult to virtually impossible to actually replicate in the markets.

2009-08-21T10:18:00.004-04:00

Existing home sales in the US were well above estimates driving stocks higher which in turn has credit spreads doing better this morning. While many are citing (whining?) about volatility in spreads being exacerbated by low secondary volume, the TRACE data shows that it's down only slightly. That being said, the tech/media/telecom names do seem to be gapping tighter on few actual trades.

Half of the recent mutual fund flow data was a continuation of recent trends; positive flows into high grade bond funds and outflows out of money market funds. However, it was a bit of a surprise to see both high yield bond and equity funds have outflows.

Earlier this week, I mentioned how a FAS ruling about off balance sheet securitization (being reversed) may hurt the banks. Apparently the FDIC is quite concerned about the impact as well...."the timing gives me heartburn" said their chief here.

Earlier this month, I had a post about prime mortgage borrowers defaulting at a higher rate than sub-prime borrowers. Here's more on that alarming trend from the Mortgage Bankers Association (tip from FT Alphaville).

Apparently, mom and pop can now 'hedge' (or speculate on) their real estate risk. Read about it in this Economist article.

The fact that corporate treasurers are being conservative with their balance sheets right now should not surprise anyone. This WSJ article will add some more data points to the argument.

The Vix has now had 7 days of opening up higher and closing lower....today's open was lower however. So much for my prediction that a base was forming....

Zerohedge points out that Goldman CDS has widened from ~100bps to ~150bps during August while the stock is about unchanged over the same time frame. Looking at a broader 3 month regression tells the same story (stock 'should be' lower or the CDS tighter) but with a weak R squared (~.51).

2009-08-20T07:33:00.002-04:00

Spreads are holding firm this morning on this very light news flow day.

Yesterday's new issue from Viacom saw a slight upsize due to demand; the 10 year bonds are trading this morning about flat to where they were issued yet the 5 year bond is trading about 10bps through issue spread.

Stealing a page book from Rahm "Never let a crisis go to waste" Emanuel, the CFTC is making a move to 'enhance' the current derivatives regulation proposal. This occurred despite Geithner's urging of agency heads to stop campaigning for changes.

While I have been concerned about the Vix's attempt at a move higher, it seems that the last 6 days have seen the index move higher on the open but close lower on the day.

Given the lack of other things to write about, I've perused the most recent DTCC data on credit default swaps. The only thing that caught my attention was a healthy spike in the amount of swaps referencing Credit Suisse (granted it was off a relatively small base).

While it is clearly dull as dishwater, I'd like to keep people's attention on the debate over mark-to-market accounting. The most recent salvo comes from Nobel prize laureate Robert Merton (and others) supporting the use of mark-to-market (aka fair value).

This blurb from StructuredCreditInvestor points out an interesting conundrum with regard to structured product payouts in the event of the Lehman bankruptcy. While technically, investors in a typical ABS should receive an 'accelerated' payout in the event of (some) default, this court case says that should not be true as that would be 'favoring' some creditors over others.

Daily Commentary

2009-08-19T09:51:00.005-04:00

Spreads are wider this morning following equities weaker and the Vix higher. While I don't think it was a driver of this move, it's fortuitous timing for Morgan Stanley to recently pronounce that the credit rally is showing signs of "overextension."

The biggest news in the credit markets this morning is the tender and new issue from Viacom. The market is encouraged by this as 1. they are tendering for bonds at well above existing prices and 2. they have the confidence in the liquidity in the market to do both a tender and new issue at the same time. This will allow them to more effectively stagger their debt maturities and lower their overall cost of debt. It's interesting to note that RR Donnelly announced a very similar move this morning as well.

The Financial Times acknowledged that annual global corporate bond issuance topped $1T for the first time ever. Yesterday, issuance in the US market perked up a bit to $3.75B.

Keeping with my theme of continued appetite for risk, one should note that lower quality bonds (i.e. BBB rated) have outperformed higher quality in this last week's backup in spreads.

The WSJ had an article yesterday pointing out that CDX has been underperforming the S&P. While it is true and most of their points were largely sound, it's a good time to remind folks a few things about the investment grade CDX index. It's made up of 125 equally weighted names that are voted upon by the dealers on a semi-annual basis. Interestingly, very few of those banks/broker/dealers are represented in the index (if you trade it, you cannot be in it). So, it's got a natural underweight in financials relative to most indices. Also, it's made up of 5 year maturities so it will be slightly shorter in duration/maturity than all the major cash bond indices. I'd like to add that the regression between the S&P and the high yield CDX index is perhaps more interesting....it has a higher Z score and higher R squared and shows that high yield spreads 'should be' much wider (or the S&P should be much higher).

Daily Commentary

2009-08-18T09:33:00.008-04:00

The heat wave on the east coast of the US seems to have dampened any and all spread movement today. Spreads are unchanged to slightly wider despite higher equities. I'll cite largely the same reasons that I did yesterday....the heavy supply of the last few weeks is still being digested and yields are lower and slightly less appealing.

As I've mentioned almost daily, demand for credit remains strong. This Bloomberg story has a retail investor slant to it but cites Blackrock, Loomis and Fidelity flows.

While some may view the US Treasury as having some credit risk, this story shows that foreign demand for treasuries continues despite lower yields and predictions that it was waning.

When there is a continued demand for risk, or risk taking in this case, it indicates that the animal spirits remain positive. Today's evidence (here) is a story about Citadel opening a leveraged loan trading unit.

As I've stated before, the complexity and heterogeneity of securities in the credit default sector make it very difficult to regulate, trade electronically and clear. Creditsights brought the latest example to my attention. Thomson was recently determined to have triggered a credit event. This was determined by ISDA ex post facto (retroactive to June). Given that Thomson credit is referenced by most of the major European credit indices, it may be removed from those indices and they may now be considered bespoke (i.e. non-standard) and ineligible for most clearing efforts. This will not be true in the U.S. as this was a restructuring (not bankruptcy/failure to pay) and the U.S. indices do not consider restructurings. Clear as mud right?

Continuing on the theme that credit default swaps can be confusing, here is a story about the SEC hounding AIG for explanations and further disclosure of their positions well in advance of their rescue.

I'm surprised we have not seen more popular backlash against the ratings agencies. Here is one rant/editorial by the author of Snowball (Warren Buffet's bio) carried by Bloomberg news.

Daily Commentary

2009-08-17T09:55:00.006-04:00

China's enormous market drop overnight and lower treasury yields over the last few days are predictably pushing spreads wider this morning. As one could expect given global equities, the Vix has opened up quite a bit higher which will become an additional cause of concern for credit investors.

Despite this mornings commotion, the broader driver of demand for credit continues. Bloomberg news notes that pension funds globally are still cutting their allocations to equities; credit will certainly receive some portion of that flow.

Recently, JPMorgan cut their year end target for high grade credit spreads from 225bps to 175bps. It's interesting to note that their previous target was set in mid-July and reached only a few weeks later. They do mention that for this to occur, bank bond spreads must narrow (i.e. the remaining sectors will not be the drivers).

Once again, a pending change, or clarification in this case, to an accounting rule may cause huge problems for the banks. FAS 167 may require banks to retain capital for assets that they securitize; heretofore, these were entirely off balance sheet transactions. You can read about it here (thanks to FT Alphaville).

Here's the first bit of sabre rattling I've seen coming from the new pay czar...."I can claw back" he asserts. He then proceeds to say that his discussions have been "very amicable".... I suspect that's a unilateral description.

Daily Commentary

2009-08-14T10:09:00.003-04:00

Sunny summer Fridays clearly induce torpor. Spreads today are holding about unchanged and I suspect we'll see declining volume for the rest of the day. With returns topping 13% YTD and yields having declined >50bps in the last month, I would not be surprised at all to see a pullback despite the demand we've been seeing.

There is little in the new issue pipeline for the day. However, yesterday saw a fairly interesting name come to market....Blackstone. This is their first foray into the public debt markets. One should note that when they issued equity in June '07, the S&P was at 1502...not far from it's all time high of ~1560. Take a look at these disparate but comparable debt issues and current mid market spreads:

Blackrock ~145 A1 rated

Fidelity ~290 A1 rated

Blackstone~310 A1 rated

Eaton Vance ~270 A3 rated

Lazard ~355 Ba1 rated (high yield at Moody's)

CIT has come to an 'agreement' with the Fed (here) that they will have a re-capitalization plan in place within 15 days. In the old days (i.e. '07) , bankruptcy court handled something like this, not the Fed. Nostalgic waxing aside, spreads were unchanged to a touch better. November 2009 debt is now trading ~$72. If you're a bull, try the subordinated 2018 bonds now available for ~$26.

Given lack of real news to write about, I'd like pontificate about the matter of banning naked shorts in CDS. While this is a very easy and popular subject for the politicians to support, I don't believe it can or will happen. First of all, they've only recently begun an effort to truly oversee, monitor and regulate this market; potentially imposing a complex revolutionary rule is way down the road. Common equities are a fairly homogeneous security and thus easier to impose a short selling ban. Credit default swaps are very heterogeneous as are the underlying corporate bonds they are attempting to mimic. Will I be precluded from hedging the market using the CDX index if I do not own each of the 125 names contained in the index? If I own a 3.5 year bond from XYZ corp but want to hedge it with a 5 year default swap, is that a prohibited naked swap because of the maturity mis-match? If own Boeing Company debt but see that Boeing Capital default swaps are a cheaper hedge, will that be allowed? I know that simply pointing out problems is not an adequate defense against the measure. However, the government has neither demonstrated an ability to comprehend this market nor elucidated it's support for interfering with free markets.

Daily Commentary

2009-08-13T10:16:00.004-04:00

Yesterday's move wider may have been exaggerated by thin attendance; thus today's move tighter may be simply a snap back. Mixed equity performance, mixed swap spreads and a meandering Vix are not sending any particularly strong signals this morning.

The biggest story I've seen this morning has not impacted spreads but should be a matter of concern for the financials. The FASB is debating expanding mark-to-market accounting standards to more assets classes (think loans). As I've noted repeatedly, this could have a huge negative impact on the banks.

I am encouraged by a couple of data points and stories. One, the negative basis continues to narrow showing the resiliency of corporate bonds (over CDS). Two, overall market volumes actually remain pretty healthy (yes, in contrast to my 'thin' comment earlier) and breadth is expanding (up ~15% from longer term averages). Also, a few newswires are picking up the recent Fitch survey showing most European investors believe the worst of the credit crisis has past.

While it's not directly credit related, I am buoyed by the Fed's announcement that their treasury purchases (read manipulation) are being phased out. This is in direct contrast to the Chinese who are attempting to control corporate bond rates (BusinessInsider story here).

Breakingviews notes that investment banks, with the exception of Goldman, are currently focused on generating lower risk profits from client flow business....how cute and antiquated that sounds.

Here's a quick credit sector spread update:

Tightest sectors -

healthcare/pharma

technology

telecom

Widest sectors -

insurance

diversified financials

REITs

The average corporate bond price is currently ~$105.30 (using JPMorgan index data).

I've recently stumbled on an interesting function on the Bloomberg (machine, not news service). You can type REDQ to get real estate delinquency and foreclosure data graphed by region.

Daily Commentary

2009-08-12T10:43:00.006-04:00

Yesterday afternoon's weakness has extended overnight into today's session despite global equity strength. Recent heavy supply, a higher Vix and a sobering report from the Congressional Oversight Committee are the driver's of today's move. Recent new issues, especially in the financial space, have weakened from where they came to market.

The Congressional Oversight's report (here) noted, correctly I might add, that the mark-to-market accounting rule changes only temporarily comfort a bank's balance sheet...they do not actually remove the problem assets.

Gadfly Nassim Taleb was on CNBC this morning making a similar case in his oh-so-subtle way:

"We still have a very high level of debt, we still have leadership that's literally incompetent ...They did not see the problem, the don't look at the core of problem. There's an elephant in the room and they did not identify it."

Our brethren in high yield saw an especially heavy issuance yesterday with ~$3.7B in deals coming to market. This is the highest daily amount in 3 months.

There are 2 news items that many are reading as we await the FOMC decision today at ~2:16pm EST. Most importantly is the Obama administration's proposal for derivatives regulation (PR release here, full legal document here). So far, I don't hear the dealers (via ISDA) howling about any particular bullet points.

Today's other summer reading veers towards human interest...or perhaps tragedy. Here is the NYTime's story about Madoff's "aide" DiPascali admitting guilt.

Daily Commentary

2009-08-11T11:18:00.002-04:00

The wave of supply is finally starting to meet some slight resistance and spreads are meandering wider. New deals have been coming with little or no discount to existing secondary bonds. While these slightly lower yields are attractive to issuers, they are becoming slightly less so to buyers.

Investor attention this week will largely be on the enormous treasury auction calendar and the FOMC decision/commentary on Wednesday. One should note that Geithner may ask to increase the federal debt limit. Secondary volumes in credit are reflecting that with their usual low August volumes.

Chris Watling of Longview Economics (via The Economist) notes that because corporate spreads lead equities and they are still historically cheap, we have room for equities to rally further.

For those of us used to the illiquidity in secondary corporate bonds, this story griping about the weakening liquidity in (far more liquid) credit default swaps may cause some whining.

Warren Buffet, he who once told us that derivatives were "weapons of mass destruction", seems to have been dabbling in the equity and/or mezzanine tranches of the high yield CDX index; and I'd add that he was not particularly successful. These are not exactly the plain vanilla type of securities where a neophyte derivatives trader should begin. Perhaps he should have read this primer first.

I've noted more than once that credit has been a one-way trade in the last several months. Take a look at this broker's comment about the Bank of England on their efforts to buy corporate paper:

The recent rally in credit indices has coincided with fewer bonds being offered, culminating in no bonds being offered in any auction during the week ending 31st July. As the amount offered has declined it is not a surprise that purchases by the Bank in recent weeks have come almost to a standstill, with a grand total of one bond bought over the past three weeks, amounting to £3m nominal.

Here is an conversation, actually an interview, between 2 very unlikely former adversaries....Henry Blodget and Eliot Spitzer.

The news that State Street's legal fund/reserves may not be sufficient has largely been ignored by the credit markets. However, I should note that STT is not particularly liquid in credit at all to begin with.

Daily Commentary

2009-08-10T09:47:00.006-04:00

Welcome to new issue Monday. So far, 9 new issues have been announced this morning and more are expected. For details, type NIM3 on your Bloomberg. Spreads are so far resilient in the face of this supply holding largely unchanged. As I've said before, demand exceeds even heavy (daily) supply such as this. Take a look at this JPMorgan graph showing net supply YTD:

In other news, everyone's favorite uncle from Omaha, Warren Buffett, continues to buy corporate bonds as cited here.

Bloomberg news notes that corporations are hoarding more cash than ever before; largely at the expense of stock buybacks.

I first started mentioning concerns about commercial real estate back in February. It has now elevated to Fed chairman Bernanke list of concerns as something he is paying "close attention" to; perhaps signaling a bottom?

The potentially very lucrative business of clearing credit default swaps has attracted many strong competitors. This article highlights that ICE has taken the initial lead over CME/Citadel and Eurex. Hopefully we won't have a BluRay vs HD DVD type battle here.

Return readers will know that the Vix has recently become a cause of concern for me. This article is perhaps a bit more dire with the title "Vix Signals S&P Swoon".

This blog post had me a bit perplexed this morning; it maintains that sub bank spreads are trading better than senior spreads. All the actual individual spreads I am seeing live do not bear this out.

Daily Commentary

2009-08-07T09:12:00.007-04:00

With AIG making money and unemployment easing, all seems well in the world of credit investing. Spreads are tighter on the day and given the beautiful weather on the east coast, I suspect many of those investors will soon be leaving the office headed to their summer homes. There are no noteworthy new issues in the queue today.

The data showing the incredible demand for credit continues. The natural demand picture, according to JPMorgan, for July showed ~$67B in coupons and maturities paid versus only ~$24B in new issuance. Also, the recent mutual fund flow data has inflows into credit funds accelerating at a pace ~20% above the YTD average.

Perhaps yesterday's kerfuffle over AIG risk was not about the tenuous link to Radian's earnings but good old fashioned frontrunning or an earnings leak. After today's actual earnings report, AIG bonds are up another $2 (on top of yesterday's $5).

Morgan Stanley paid back their TARP money...or more accurately repurchased their own warrants back from the government. I found it interesting that they drove a better deal than Goldman (as noted here).

As I noted earlier this year, CSFB bankers were "livid" about receiving their bonuses in the form of their own bonds/deals that they created. Apparently, they aren't so livid anymore as these bonds are doing very very well (story here).

For those government conspiracy theory fans, here's a interesting blog post about the US Treasury issuing bonds at auction and then buying almost half of those same bonds back within the week.

While I am clearly not a technical analyst or chartist, I'd be curious to hear if the techies agree with this layman's opinion that the Vix is forming a base by not setting new lows. Given that it's opened lower, perhaps this requires further review.

Daily Commentary

2009-08-06T15:34:00.007-04:00

Welcome to the abbreviated (due to travel) afternoon version of the Daily Commentary.

I'm a bit flummoxed how equities can be weaker, swap spreads wider, the Vix is higher....and yet spreads are tighter. If forced to cite a possible reason for today's strength, I'd choose the Bank of England's expanded quantitative easing and a massive short covering rally in AIG risk (all forms).

AIG bonds are up ~$5 on the tenuous (my term) link between it's business and Radian's recent strong earnings. "Analysts weren't sure" was the WSJ's response.

Here's the local take on the increased and expanded intervention on behalf of the Bank of England into their government bond market.

Everything Jeremy Grantham writes is a must-read for me...here's his latest about the conundrum of what to do when you're at fair value.

Regulatory inquiries into credit default business practices are popping up as frequently as lice outbreaks at summer camp. Today's recipient was Goldman Sachs...they of 46 separate trading days of $100mm profit each. WSJ coverage here.

Demand for new issues continues...unimpeded even by the summer doldrums. When 2 REIT deals (from SPG and DRE) clear smoothly, that's a robust market...as REIT's have long been the least liquid sector in the corporate bond market.

Cash bonds continue to outperform (their own) CDS as seen here in this graph from JPMorgan. You'll note that this negative basis has 'recovered' to pre-crisis levels.

Daily Commentary

2009-08-05T10:00:00.004-04:00

Rising yields have trumped weaker stocks and as a result credit spreads are unchanged to slightly better this morning.

There are several smaller new deals (or re-openings) in the market today as demand remains quite strong for new issues. DOW brought a deal yesterday and those bonds are already 30-40bps tighter than issue spread.

While I've largely been highlighting the bull case for credit, here are 2 mainstream stories with more of a bearish tone on credit. Reuters has a fairly thin article about a potential pullback in spreads (CNBC's headline for the exact same story says "rally may be over"). Bloomberg has a more substantial article noting the CCC rated bonds are up 80% since March lows and are now overpriced (along with other lower rated bonds).

Please forgive me once again for delving into mortgage land as that is clearly not my area of expertise. However, I suspect we should be a bit concerned by the news that prime borrowers defaulted at a much higher rate than subprime borrowers in Q1.

Perusing the DTCC data on CDS outstanding I noticed 2 interesting data points. Berkshire Hathaway, as an issuer not investor, has 6x more net CDS referencing it than it does public debt outstanding. The largest absolute amount of (net) CDS outstanding is GE with ~$11B; the next closest is BAC with only ~$7B.

Daily Commentary

2009-08-04T09:10:00.004-04:00

The trends that were in place when I went on vacation remain firmly there upon my return. Strong demand continues to drive spreads tighter and support a healthy new issue market despite lower overall yields. I could go on with other indicators...LIBOR at historic lows, TED spread is back to pre-crisis levels, and lower quality paper spreads are collapsing towards higher quality names.

Using mutual fund flows as a proxy, demand for high grade bond funds was ~35% above average for the last 2 weeks. This is mirrored by outflows being ~35% above average for money market funds over the same time frame. Bloomberg News noted that corporate bond issuance in Europe has already hit an all time annual high of $1.1T even though we've just entered August. Just today, GE announced a deal in the US and demand was >$2B within approximately 30 minutes of the announcement.

The Atlantic Magazine business blog has a comprehensive post about the possible tightening of mark-to-market accounting rules and how this could have a large negative impact on the banks. Please note this post in March noting the easing of these rules....was it coincedental that this was around the time that the lows in the market were set?

Malcolm Gladwell wrote an article in the most recent New Yorker about how the psychology of overconfidence may have driven, or exascerbated, the credit crisis.

The exodus of experienced salesmen and traders from large investment banks to agency-only or boutique shops is well known within the community. Here's Bloomberg's take on the shift....I have a quibble with the use of the term "fired" in their title as many of these folks left on their own volition.

Daily Commentary

2009-07-17T08:49:00.003-04:00

PLEASE NOTE - I will be on vacation until Monday August 3rd so postings will be sporadic at best.

Spreads are meandering a bit wider this morning but with little conviction. The trends of lower volatility, diminished supply, strong demand and cash outperforming CDS continue.

JPMorgan has lowered their year end spread forecast from 275bps to 225bps (that index closed last night at 225). They've long cited strong technical demand but have now gained confidence that a strengthening economy will benefit corporate credit metrics.

Mutual fund flow data showed few surprises this week....flows continue into high grade and high yield bond funds while equity funds showed slight outflows and money market funds continue to shed assets at a heavier pace.

Many have verbalized their fear that foreign purchases of US Treasuries will decline. Here's the treasury data from May.....look at the declining trend in row #3.

That worry does not seem to have impacted any emerging market debt investors....their prevalent index, the EMBI+, hit a new all time high yesterday according to Bloomberg News.

Recently, I noted the wide holdings of CIT amongst CDOs. One rating agency, Fitch, took a bit of a contrarian stance and noted that the impact will be muted....largely as most of the damage has already been done to those tranches at risk.

Here are some more insightful thoughts on Goldman and the use of VaR.

Bloomberg News notes that some banks that are facing AIG with their credit derivatives positions may not force them to pay but rather hold them until maturity. Ironically, this will gum up efforts to clean up AIG's books (despite the benefit of no cash calls).

Does it seem everyone is giddy about credit? Giddy enough to pay a corporate bond salesman a $6mm 1 year contract? Yup, read about it here.

Daily Commentary

2009-07-16T10:00:00.005-04:00

Tighter swap spreads, higher equities and virtually insatiable demand are pushing spreads tighter again today. The credit market is viewing the CIT debacle as isolated and having virtually no systematic risk or impact. Aside from CIT bonds being down $10-15 the only other impact that I can see, or suspect, is the pick up in the MOVE treasury volatility index. The 3 month regression of credit spreads (using CDX) vs the S&P has them both at about fair value.

JPMorgan's recent credit investor survey showed 94% of investors were increasing, or holding firm, their allocation to high grade bonds. This confidence is why the negative basis continues to narrow; cash bonds have outperformed their own CDS almost ~185bps since the beginning of the year. The dearth of new supply is obviously accelerating this too.

Despite the current low supply, the corporate new issue market is clearly functioning quite smoothly. I am encouraged to see some signs of life in the securitization market as witnessed by this recent AmGen Finance deal from CSFB; especially as the underlying loans are not government backed or guaranteed.

Many, including me, are talking about Goldman's quarterly VaR figure released recently. This blog makes an interesting point; that VaR figure is pretty small in relation to the number of >$100mm trading days. They note that Goldman has requested exemptions from the SEC and permission to use non-traditional VaR measures.

We all remember the 'double secret probation' from the movie Animal House....it seems like the US regulators are now applying similar punishments to both Citi and BoA.

The former corporate strategist at Bear Stearns, Steven Begleiter, has made the final table at the World Series of Poker to be played on November 7th. He's guaranteed at least $1.26mm with a chance at $8.5mm top prize.

Daily Commentary

2009-07-15T08:43:00.007-04:00

Spreads are tighter today following stronger equities and a new YTD low in the Vix. This tightening started yesterday just ahead of Intel's strong earnings and held overnight. Lower quality BBBs have outperformed single As in this overnight move.

The negative basis continues it's narrowing march as cash bonds outperform single name CDS. The basis now stands at -78 (vs. it's all time wide of -250). Last August, this stood at -50. The most negative (i.e. bonds cheap vs CDS) is REITs at -300. Industrials, on the other hand, are about flat.

JPMorgan research notes that, thus far, the improvement in broad fundamental credit metrics continues from Q4 to Q1 and now into Q2.

Regarding Goldman's earnings, many have noted it's risk; Goldman's VaR was ~29% higher than it's nearest rival and it's highest in history.

Given the blowout in spreads of index constituents CIT and ILFC, I was not surprised to see the intrinsic index basis gap around a bit; it reads 17bps rich but that's largely noise due to huge moves in those 2 issuers (i.e. tough to arbitrage). A few folks have noted that CIT was the 2nd most popular holding for CDOs which will lead to further downgrades. Technically they are not 'held' by CDOs but rather 'referenced' as these are synthetic CDOs where the underlying names may, or may not, be actually held in the pool of securities; but their performance is always reflected.

While CALPERS is certainly known as being activist, few would call them naive investors. They are suing the rating agencies for "negligent misrepresentation." Story is here.

This is not likely to come as a surprise, but investors should take note that post bankruptcy recovery rates for bonds are well below historic averages. Year to date, recovery for bonds has averaged ~$19 (vs ~$27 last year and a long term average of ~$37). Looking higher in the capital structure to secured loans, those have averaged ~$45 (vs $58 last year and long term average of $71).

2009-07-14T09:08:00.004-04:00

Has anyone ever really been surprised when Goldman 'beats expectations'? Spreads were initially a bit skeptical but have since moved slightly tighter. Speculation of a CIT 'rescue', higher equities and a lower Vix are the levers today.

Goldman spreads were ~5bps tighter but are now back to unchanged. Here's a quick snapshot:

JPM ~100

WFC ~140

GS ~145

BAC ~195

MS ~195

MER ~220

Citi ~385 (today's outperformer tighter by ~10bps)

There are 2 regulatory stories that rolled this morning that are of interest. One, the Justice Department is investigating the credit default swap market. Markit Partners, the dominant provider of index and pricing services, first received and disclosed this inquiry. My pure idle speculation leads me to suspect that they may be concerned about Markit's said dominance and ownership by the broker/dealers (who's oligarchy of the CDS market has also come under scrutiny). The second story pertains to the rating agencies. The SEC has decided that they might need some oversight. This is the same agency that was told repeatedly, in detail, about Madoff's pyramid scheme and did absolutely nothing.

Given the turmoil in the finance sector, it's not surprising to see some of these issuers fall into high yield. This is causing some head scratching for the high yield folks as they are unaccustomed to a large finance presence in their index. The finance weighting in the Barclays index has grown from 8.6% to 12.1% and Citi predicts it may end up at ~22%. The natural inclination would be to ignore them as few finance companies remain standing (in high yield) for long. However, this year's eyepopping returns will create some tracking risk/error.

On the investment grade side of things, there are some similar technicals in finance due to consolidation. Yes, it helps the sector's credit ratios (due to cost savings) but it creates larger index weights which can bump up against issuer maximum concentrations. So, in theory, you could like a finance co and it's attractive spread but cannot add to your existing position.

I'm a bit concerned that credit curves have gone back to inverting over the last month. I'm also a bit wary of the spread between BBB and single A rated credits. When risk demand is healthy, that spread compresses. This year, it has compressed ~130bps. However, the spread between the two is now steady at ~100bps which leads me to believe that the demand for relative risk has subsided a bit.

Despite the earnings releases, there are 2 deals in the market this morning. One is a small high quality deal from USAA and the other is a lower quality deal for Carefusion. The USAA deal was met with great demand and quickly closed highlighting the bias for higher quality in the market.

The US market has seen several auto parts makers file for bankruptcy this year. Perhaps they should adopt this unique French tactic of blowing up their own plant?

Daily Commentary

2009-07-13T09:12:00.008-04:00

Spreads are meandering a bit wider this morning. We are unlikely to see any sharp moves ahead of major earnings releases this week. This should also keep new issue supply muted. However, the technical demand will exist before, during and after these earnings.

As I've noted previously, investors continue to show their preferences for shorter maturities and higher quality bonds. Dan Fuss of Loomis Sayles echoed this sentiment over the weekend in Barrons.

CIT's struggles and and a 4th consecutive week of S&P decline are starting to nibble away at credit investors confidence. Combine this with developing seasonal illiquidity and some investors are getting nervous. As Gartman mentions in today's Gartman letter:

…we should also remember, however, that in the course of the past several decades, the most violent market movements have tended to come in late July and early August just precisely because the dealing rooms are emptier. Illiquidity during times of political duress can create its own problems, and we remember the Russian problems of August of a decade ago, and the problems attendant to LTCM that evolved out of that earlier crisis. These were “summer” crises, and there have been others, so just because the doldrums have set in does not mean that they are permanent, and that they cannot develop into something far more unstable. They can; they have and they will… we simply know not when.

Throughout most of Q1 and part of Q2, I mentioned the demand from equity investors for liquid lower priced corporate bonds. That trend is almost completely over as the average bond price is now over $102 (using JPM data).

Bloomberg has an interesting function for those of you that would like to see what equity prices and volatility imply for a theoretical CDS spread (actual CDS spreads are there for comparison). Type WMT Equity [key] OVCR [go] to see the output (for WalMart obviously). Not all equities are available and the CDS pricing is not perfectly accurate intraday. However, you can sort by outliers (far right column).

Vanity Fair has an interesting article written by Michael Lewis about AIGFP's Joseph Cassano.

Daily Commentary

2009-07-10T09:21:00.004-04:00

Today is likely to be very quiet as we have little supply, nice weather on the east coast and earnings season starts next week. While the major credit derivatives index is slightly wider today, my Bloomberg is littered with quotes insisting cash bonds spreads are tighter.

New issue supply this week is on pace to be down ~40%. I've long been a believer that lower supply can actually hinder confidence in the market. It is far easier for a big mutual fund to get a large trade (i.e. buy) done in the new issue market than it is in the secondary market. If those funds are confident that they can be 'active' then they are also likely to add on to their existing positions in the secondary market. Yes, esssentially I'm saying that supply can create demand. However, the current technical imbalance in the market (of very heavy 'natural' demand) is likely to overwhelm this theory.

Addressing that 'technical imbalance', inflows into high grade bond funds remain steady at their average weekly pace of ~$4.3B. This is a bit surprising as I would have thought the drop in overall yields may have slowed the pace but it has not. Inflows into high yield and equity funds have diminished. Money market outflows have picked up their pace.

Having helped run a valuation group, I am very aware of frequency and ease at which disagreements can arise over the pricing of a security. Suppose you are Jamie Dimon and the entity arguing against you is both your regulator and lender of last resort. You are not exactly arguing from a position of strength. We'll see how this one turns out.

Speaking of lenders of last resort, the FDIC is allegedly declining to back stop CIT's debt. CIT cash bonds are now trading in the mid $50s down about ~$15 in last few weeks.

I've seen a few European economists noting the turnover in the Baltic Freight index. You can graph this yourself on Bloomberg using BDIY . Bloomberg News noted that Warren Buffett's favorite index (US freight carloads) to watch to gauge the strength of the US economy is also turning over. Take a look at their graph:

Should mortgage bond funds be labelled like ski runs? Some folks at the New York Times think so.

The Atlantic Magazine has a blog post with an interesting view on the new PPIP program. They argue that the big banks actually received their relief on their toxic asset marks due to an accounting rule change last year (FASB's easing of mark-to-market). Therefore, they may not be the ones selling assets into the PPIP program. The smaller banks, who did not benefit from FASB, would then be the primary sellers of these assets. These price marks then must be used by the bigger banks.....and that does not bode well for their balance sheets.

Daily Commentary

2009-07-09T10:32:00.002-04:00

It seems that if we get signs that the economy is weaker, then money moves out of equities and into credit pushing spreads tighter. It also seems that if we get strong economic data, then treasury yields rise making credit look attractive and pushing spreads tighter. Today is following yet a third pattern which is "well stocks are higher so we should be better." This is all a bit alarming as credit seems largely impervious to accepting bad news. The technical demand may be just that strong.

That demand is not currently being satiated by the new issue market. Yesterday saw only one ~$800mm deal. There is a smaller deal from Korean Gas in the pipeline (pun intended).

Try explaining this one to your parents....Morgan Stanley has created a new CLO that is rated AAA. You'll note that the bonds underlying the CLO were recently downgraded 6 notches (from AAA to A3). Ah the joys and benefits of 'credit enhancement.'

Despite the efforts to standardize and make transparent the CDS market, it's issues like the Ciba/BASF succession event debate that keep many traditional real money investors from using CDS.

I don't think I was the only person surprised that PIMCO was not included in the choices for investment managers for the PPIP program. Apparently, they pulled out in June due to "uncertainties." The program was targetted to be $1T in size but so far has had $30B in government support for $10B in private investment.

There has a been a shift of investors recently into higher quality and shorter maturity paper (as evidenced by spreads and yields across the different maturity ranges). This may signal a lessening of the risk appetite within credit (which could pause the tightening).

This is a pretty shocking graph/stat from the NYTimes:

Back in December 2000, there were about 1.1 unemployed people for each nonfarm job opening. In May 2009, on the other hand, there were 5.7 unemployed workers for each nonfarm job opening.

You don't need to tell me that this is clearly a jobless recovery.

Looking at the last 3 months (only), we are starting to see some divergence between credit and equities. Credit is 'predicting' a higher S&P of ~905 while equities are predicting wider spreads (of ~160 vs current ~140).

Daily Commentary

2009-07-07T11:55:00.006-04:00

Spreads are tighter this morning despite weaker equities. This is largely due to continued technical demand facing very light secondary volume and no new issuance (yesterday at least).

There is a story in the WSJ this morning about an anti trust investigation in the telecom industry. Spreads have completely shrugged this 'news' off and are slightly tighter.

The yield on the JPMorgan credit index stands at 6.12%. The spread on the Barclays credit index closed at 273bps.

The FT has an interesting article about the new mode of securitization and how it does not necessarily involve the new underwriting of risk....but rather a re-juggling of existing debt. SIV/CDO redux?

I've long been a fan of innovative ways to graphically display information....thus a devout follower of Edward Tufte. Here are 2 interesting charts from the last few days. The NY Times has this one which shows the depth and direction of this current recession. The WSJ has one that shows the alarming growth of the Fed's balance sheet as they put out fires.

Barrons had an article highlighting some stock short picks. One that trades pretty actively in the credit markets is Pactiv. There is a pretty big diverence between the performance of the equity and the CDS. Either the equity is priced too low or the CDS should be much much wider.

I was not surprised to learn that the part of the brain that controls the motivation of greed is the same that controls sexual desire. I learned this tidbit in Scientific American's article about the science behind economic bubbles and bursts.

Daily Commentary

2009-07-06T09:16:00.003-04:00

Spreads are wider this morning following last week's, and today's, equity weakness.

That being said, this week's direction in spreads will likely come from the treasury market. I say this as we are likely to have a dearth of credit news ahead of earnings season and a very light calendar. The US Treasury will issue new 3yr, 10yr and 30 yr bonds this week. Since mid-June, credit spreads seem to be following the yield on the 10yr. So, if you believe that treasury yields are headed higher, like Barrons does, then we could have a tough time in credit.

There is one story that could gather some attention this week.....the MBIA 14s (surplus notes) have a coupon coming due on July 15th. During the split of the company earlier this year, these bonds went with the 'bad company' and are now junk rated and trade in the low $30s. Rating agency pundits will note that they were originally issued with a AA rating. If this coupon is not going to be paid, holders are notified by July 8th. Looking at the SEC/Edgar filings of the top holders, you'll see that >50% of the bonds are held by equity mutual funds. It will be interesting to see how they react.

Yes, lenders should be in the driver's seat at this stage of the cycle (note that I did not say 'crisis'), however I am encouraged that some high yield companies have the foresight and the ability to make extensions on their debt.

First Goldman Sachs gets pilloried by Rolling Stone magazine as the embodiment of evil....now one of their own employees may have stolen their equity prop trading program.

Daily Commentary

2009-07-02T09:05:00.006-04:00

We expected that all eyes would be on the payrolls number for guidance and they were. A weak number has equities and credit spreads softer. Remember, it's an early close for the bond market so most investors watch the number, leave a few orders with the desk and head out for the weekend.

In fundamental news today we saw Lear file Chapter 11. For a quick capital structure snapshot of levels, bonds have been trading ~$35 and loans ~$75.

Johnson and Johnson, one of the few remaining AAA rated industrials, just took a $1B stake in Elan. Despite this outlay, JNJ bond spreads remain very tight, largely unchanged and very active.

In yet another data point supporting the trend of equity raising (versus levering up), Rio is raising $15B in rights (story here).

The ECB left rates unchanged. This did not surprise many as most folks acknowledge that it will largely be a quantitative easing story going forward. Trichet is just now beginning his Q&A (see NI ECB on Bloomberg for the headlines) which may have some further detail on debt purchases.

Bill Gross was just on CNBC (post payroll #) stating, amongst other things, that "the government must provide new forms of stimulus."

The latest salvo in Krugman's "It's Reagan's Fault" debate is coming from the National Review in their response "Blame Not the Deregulator."

The most current CDX index (#12) is currently ~17bps rich to intrinsic. As a percentage of spread, this is a pretty high outlier and one should expect that to collapse fairly quickly. This was largely caused by month/quarter end technicals.

Take a look at this article written in January by Bloomberg News about the LIBOR-OIS spread. In it, Alan Greenspan notes that "normal" conditions will prevail when it gets to ~25bps. At the time, the spread has just broke 100bps. Well, it's now ~38bps and going down.

This is a good short weekend read, heavy on human interest, light on insight, about the guy that is unwinding all of AIGFP's swaps.

Daily Commentary

2009-07-01T09:20:00.003-04:00

Spreads are unchanged to slightly better this morning as a result of yesterday's month/quarter end buying binge. Secondary volumes were quite heavy with the dealer sell vs buy ratio stuck stubbornly at ~3x.

Both Comcast and Ameriprise are in the market with debt buybacks today.

Given the end of the first half, here's a quick review of index and sector returns (using JPM data):

Investment Grade Index +7.1%

High Yield Index +29.9%

S&P 500 +1.8%

best sector performance:

REITs +36%

Bldg materials +29%

Metals/mining +17%

worst sector performance:

Banks -.5%

Chemicals +1.9%

Yankee banks +2.2%

There were 2 stories this morning that don't bode well for the recovery of government bailout money. The Washington Post writes that it's "sure to be a stretch" that the government is repaid by GM. The NY Times writes that at AIG there's "little hope for a recovery" for the government and other shareholders. Yet the banks are being hamstrung in their attempts to pay back their TARP money?

I missed this earlier article (and blog comment) about the positive impact of the PPIP program even though it never really came online. While I am reluctant to credit Soros with much prescience of late, this reminds me of his concept of reflexivity.

O.K....quick pop quiz....of all the countries in the world, which is most likely to be on the tape this morning defending private equity and hedge funds? Personally, I would not have started guessing socialist countries....but I would have been wrong. Here's the answer.

Daily Commentary

2009-06-30T11:44:00.003-04:00

Given low liquidity and secondary volumes, month/quarter end buying has pushed spreads much tighter despite equity weakness. Witness the FranceTel new issue yesterday which was ~5x oversubscribed.

Oracle, Cytec and MetLife are all in the market with new issues today; their timing is likely inspired by the demand for FRTEL.

Bloomberg has an interesting article about correlations amongst different sectors being at all time highs. This is largely echoed in our most watched pair of the S&P vs CDX which over the last 3 months have moved largely in lock step. The only slight outlier seems to be the NASDAQ 100 which credit spreads 'predict' should be lower at ~1440. We've learned that correlation can spike during a crisis....but how should we react when they climb during a rally?

Remember, in a true OTC market like the credit market, if desks are lightly staffed like they are during this holiday week, volumes will remain very subdued (down ~20-30%)...credit trading is neither automated nor scalable. The large bulk of trading this week is month end index rebalancing (i.e. not driven by rational economic price taking). In the old days of 2 years ago, this period was typically dominated by the street lightening up their balance sheets....but now balance sheets are down 60-70% so the impact is obviously less.

Given all the recent chatter about rising commodities, I was a bit surprised by the headline that Euro-zone inflation may have a negative rate.

This may not surprise the mortgage folks, but I was stunned to learn that 28% of all mortgage defaults (65% of all subprime mortgage defaults) started out as prime mortgages.

Daily Commentary

2009-06-29T09:29:00.002-04:00

With few other cues to guide spreads they are following global equity markets better this morning. On one hand you have a holiday shortened week that typically sees little supply and falling volatility (Vix, MOVE). On the other hand, you have a month and quarter end which can lead to quite odd technicals in the market. We may see some headlines on Wednesday from the State of California as they threaten to start using IOUs as payments.

AMG mutual fund flows showed a small weekly outflow from high yield breaking the streak of 14 consecutive inflows.

In light of pending bank/broker earnings, the FT has an article about how strong performance from sales/trading/capital markets will outweigh struggling legacy assets on the balance sheet.

Altman is predicting that default rates will rise from their current ~7% to a high of 14%, recovery rates will settle in the low ~$20s and high yield spreads will rise to ~1200bps over treasuries.

You've likely noticed my bemusement over the rating agencies and their new fangled 'enhanced' approach to rating securities that they completely missed in the downturn. Here S&P tells us how they will now require ~20% credit enhancement for CMBS securities to be rated AAA. This is up from ~12%. Perhaps they've noted that commercial real estate looks a bit squishy? Do not underestimate the impact this change will have on the securitized markets.

Apparently Michael Jackson's financial dealings were not as simple as ABC.

Daily Commentary

2009-06-25T09:17:00.006-04:00

Lower volatility and firmer swap spreads are trumping weaker global equities, for now, and spreads are slightly better on the morning.

Reaction in the credit markets to yesterday's FOMC decision was largely muted as their asset purchase programs remained unchanged.

So far, I only see a smaller new deal from Jeffries (as an issuer) coming to market today.

Given the U.S. victory over Spain yesterday, I thought I'd revisit one of my favorite pair trades. Yes, we can beat the #1 football team in the world....but can we trade better than Campbell's Soup? The answer is no.....CPB is still trading through (i.e. viewed as lower risk) than the United States government.

Frankly, I'm surprised that AIG is trading better today. Yes, they did 'pay back' ~$25B to the Fed. However, I would have hoped they could do it the old fashioned way by selling a division.....and not by monkeying around with their capital structure (paying off debt with preferred shares).

If you cannot recall the exact date that the OTS took over WaMu....or when the TALF details were first announced...the NY Fed has put together this comprehensive timeline of all the crisis events. It's hard to read it without wincing at each event as you recall them.

This is a great piece, and commentary, on how Goldman views it's own risk and the foibles of using VaR.

Daily Commentary

2009-06-24T08:59:00.006-04:00

Lower volatility, tighter swap spreads, minimal supply and almost universally higher equity prices have credit spreads firmer this morning.

That being said, this June has seen the least amount of sun since 1903 and equity returns are positively correlated to the amount of sunshine (according to this paper). If equities weaken, spreads will certainly widen.

While I usually don't delve into outright equity predictions more than once a posting, I thought this story about insider buying drying up was interesting.

Yesterday, everyone was worried about the World Bank's economic prediction of further weakness. Well, today's response to that is the OECD which is predicting the worst is over.

LIBOR rates yesterday hit all time lows.

The negative basis continues it's narrowing rally largely unabated (despite my predictions of a pause). However, I was a bit disappointed to see that credit curves actually inverted another 4bps over the last week which is in contrast to the trend of the last 6 weeks.

Thankfully, new issue supply is light; down about 30% from the '09 monthly average. Historically, June is above average for new issue volume as issuers try to get deals done before the July 4th holiday and then earnings season blackout period.

Secondary volumes remain healthy however the dealer sell vs dealer buy ratio has crept down towards 2x from it's usual 3x. Backing this data up anecdotally, I'm hearing a few folks saying that dealer inventories feel a bit heavy as customer buying has slowed a bit.

Daily Commentary

2009-06-23T10:11:00.003-04:00

Spreads are modestly tighter today in sympathy with higher equities. Yesterday's pop in the Vix will likely keep any spread rally capped.

Credit investors remain focused on treasuries and the Fed this week. We have 2yr, 5yr and 7yr treasury auctions for ~$100B this week in addition to the FOMC announcement tomorrow at 2:15ish.

Yesterday, I noted that European investors switched to fixed coupon CDS yesterday mirroring the US market. However, I neglected to note that the European market will have 4 different coupons while US investors will suffice with just 2. This is yet another example of how homogeneity seems to be difficult to achieve in this sector.

Continuing a positive theme, to credit investors at least, Royal Ahold announced a debt buyback this morning.

Life insurance spreads are getting crushed this morning without any real fundamental news to speak of. I've noted their recent rally in spreads over the last few months; look at Allstate which has rallied from ~400bps in March to it's tights earlier this month of ~95bps. It's currently trading ~120bps.

I'm encouraged by the Merck new issue which is ~10-15bps tighter than where it was issued yesterday. They were able to cover all their takeover financing needs (for SGP) in one fell swoop.

CMBS spreads have had quite a volatile year; from early March until early April they had rallied from ~800bps to ~400bps on news that the Fed's purchase program would be expanded. However, fundamental concerns about the sector have been around for quite some time. Those concerns received more press today here.

Here's another story to add to the pile of my posts on "appetite for risk is back".....Byron Trott was able to raise $2B for his new private equity firm.

If you simply regress the credit markets (using CDX) and the S&P 500 for the last 3 months, there is little diversion (Z score of 0 with R^2 of ~91). However, if you regress those same 2 data series for 1 year, credit spreads are predicting an S&P of ~1100. So, if you think this environment is the new paradigm, then everything is 'fairly' priced. However, if you think this market is just temporary, then either credit spreads need to go wider or the S&P needs to higher (or some combination therein).

Today's anecdotal sign of the economy remaining weak....I called a few contractors yesterday afternoon looking for some minor drywall work to be done. All 3 called back within 1 hour and the guy I chose arrived this morning at 7:30am.

Daily Commentary

2009-06-22T09:49:00.003-04:00

A higher Vix, lower equities and continued lousy weather on the US east coast have combined to push spreads wider this morning.

Volumes should be somewhat subdued today as they were Friday due to today's quarterly CDS roll and today's European conversion to fixed coupon CDS. Yes, this may force more operational and/or clean-up CDS trades but will likely distract many from making tactical or strategic trades.

Merck seems to be the only new issue in the market today. Remember, the new issue premium has shrunk back to almost zero reducing the relative attractiveness of new issues.

Despite continued unrest in Iran and the US Navy's tailing of a North Korean ship, the headline gathering the most attention is the possible overhaul of the repo markets. Like the CDS market, this function in the market has long been controlled by the tight duopoly of JPM and Bank of NY. Credit spreads in those 2 names are wider in line with the rest of the market. This function was one of the many bogeymen that were cited as contributing to the liquidity problems during the credit crisis.

In JPMorgan's weekly credit piece, they point out the relative attractiveness of negative basis trades despite the recent narrowing. They cite steep short term interest rate curves and increased available leverage as some of the primary drivers of increased ROI. How does this impact you? Expect the negative basis to continue to narrow as cash bonds will (theoretically) outperform credit default swaps.

William Poole, formerly a Federal Reserve governor, made an interesting comment:

“Goldman is to be congratulated for seeing the problem ahead of others and protecting itself from the impending failure of AIG....It’s not the responsibility of any private firm to determine what the public interest is -- that’s why we have a government.”

I agree with him. From the perspective of an investment management firm or broker, prudent risk management often entails insisting on margin or closing positions where margin may be insufficient. These always translate into cash calls for the targetted bank/broker. Can prudent risk managment = a run on a bank?

Many bloggers have taken up the thesis that LIBOR is no longer relevant. Here is a fairly good summary of the arguments.

Daily Commentary

2009-06-19T07:47:00.004-04:00

I'm travelling today so this will be very brief.

Spreads are tighter on the back of stronger global equities and continued demand for credit bonds. This weeks mutual fund flow data once again showed huge outflows out of money market funds into the riskier asset classes.

Given all the scrutiny over true over-the-counter securities (think credit default swaps), I can't say I'm too surprised that the SEC is coming after 'dark pools.'

Beware of strangers bearing gifts on triple witching day.....especially if they are worth $134B.

Daily Commentary

2009-06-18T09:37:00.007-04:00

Spreads are opening up wider this morning. While I could cite mixed global equity markets, I suspect it has more to do with rising 10 year yields and the rating agency S&P.

On the same day that 10 banks paid back their TARP funds, S&P downgraded 18 banks with 5 of them going to junk. Not surprisingly, bank spreads are wider this morning (but off their wides). Yes, I acknowledge that the TARP payers are mega-banks while the S&P targets were much much smaller.

Somewhat thankfully, S&P announced it's AAA rating for the United States is safe for some time.

On the matter of the 10 year and it's yield, a few pundits are predicting continued higher yields.....Dan Fuss of Loomis Sayles is predicting a 6.25% yield in the next 4-5 years.

The new issue market remains subdued with LO and LNC the only notables with 'live' deals pending.

For you equity folks watching the rally in HMO stocks, please note that their spreads

are not following suit tighter.

While I should have noticed this yesterday, I am very surprised to hear that the rating agencies were largely left untouched in this proposed financial regulation overhaul.

This is a thoughtful, and wordy, perspective on how AAA rated 'risk' became a proxy for systematic risk and when participants realized that there was only a 1 way trade in that 'risk', the panic set in.

The New Yorker's James Surowiecki has an interesting article about the impact, or lack thereof, of oil prices on the broader economy. One excerpt:

"historically, sharp spikes in oil prices have sent consumer confidence plummeting, and have led to outsized cutbacks in general consumer spending. This makes sense: gasoline prices are the most publicly visible prices in the economy as a whole—no other prices are displayed on the street in bold, two-foot-tall numbers—so it’s not surprising that they have a disproportionate impact on the way people feel."

Daily Commentary

2009-06-17T08:37:00.007-04:00

Once again, a combination of wider swap spreads and weaker global equities are pushing our spreads wider. Fortunately supply remains light and technical demand remains strong so the damage should be limited. Financials are the underperformers as they are the most relatively liquid sector and therefore are first bonds folks try to sell (because they can).

The ratings agency continue to play catch-up or look backwards. Today's mid-game rule change involves bank hybrids which may lead to the downgrade of ~75% of that sub-sector by Moody's. Insurance hybrids are down on the day in the fear that they may be next.

Morgan Stanley will be re-structuring it's market leading prime brokerage group to assuage the fears of those that watched some of Lehman's PB assets get claimed in bankruptcy.

Secondary volume was heavy yesterday with the dealer sell vs. buy ratio heading back towards it's usual 3x. Recent new issues from DT and CMCSA are wider from where they priced while the TITIM issue remains firm.

Bloomberg news has a story about the recent insurance spread rally that I've mentioned before.

Once again, George Soros feels the need to get himself in the news....this time is 'how to reform'.

Daily Commentary

2009-06-16T09:29:00.005-04:00

Wider swap spreads and a higher Vix are pushing credit spreads wider this morning. Quite obviously, the Vix is higher thanks to yesterday's weakness in the equity markets. However, one will note that the gap between the Vix and the MOVE (US Treasury volatility), noted earlier, is indeed narrowing. One investor has made an enormous bet that the Vix will continue to spike.

Proposed regulation for the ABS market is likely to be sending shivers down many spines. One of the proposals is to start reporting ABS trades on the TRACE reporting engine. As I've noted many times, TRACE killed the dealers profit margins for corporates driving their exodus from that market (at least as far as dedicated capital). Regulators think that transparency brings liquidity to some sectors, I think the exact opposite is true. Here you can read Geithner and Summers 'case for reform.'

Given the rally of the last month in spreads and the more recent shorter rally in US Treasury rates, it's helpful to note that all-in yields have fallen almost 50 basis points in the last month. This will obviously diminish the overall attractiveness of the market especially to insurance accounts.

While secondary volumes were light yesterday, new issues have about a 2 week window before the 4th of July and earnings season. So, yesterday we saw ~$5.2B in supply and so far I'm hearing of TITIM, DT, and CMCSA all coming to market.

Hopefully, you will recall that I've noted that the appetite for risk is back. As a result, or coincidence, hedge funds not only had their best month (May) in years but also saw inflows for the first time in 10 months (source - here).

In March, the UK government had a failed gilt auction. Today, they've decided to syndicate their debt (a la corporates) for only the second time ever. The result? Oversubscribed.

Daily Commentary

2009-06-15T09:19:00.008-04:00

Weaker European equities and a treasury rally have credit spreads slightly wider this morning.

A lack of new issue supply early in the week should keep a cap on further widening in the United States. Europe is seeing supply in the bank space this morning.

That being said, the geopolitical scene (Iranian elections, Netanyahu, and North Korea come to mind) could cause further agita for the markets.

The technical demand picture still looks strong as inflows continue into high grade bond funds largely at the expense of money market funds. However, the dealer sell vs buy ratio has crept down a bit....a trend to be watched.

JPMorgan notes that in this downturn, corporate profits have 'only' fallen 13.4% versus the drop of 28.9% in the 2001 recession. This is thanks to heavy cost and job cutting. In addition, the pace of stock buybacks is down ~60% versus last year.

I'm heartened by the interest in securities down in the capital structure which further fortifies the view that risk appetite is back.

Call him irrelevant, hypocritical or pandering to populism....George Soros is calling for credit default swaps to be outlawed.

Daily Commentary

2009-06-12T09:01:00.004-04:00

Today should be another quiet day of slightly tighter spreads with little economic news and a subdued new issue calendar. This subdued mood is apropos for a rainy week on the east coast and the Yankees losing their 8th straight to the Red Sox.

This week, the credit curve continued it's healthy steepening by 4 basis points....it's still inverted by 7bps (CDX 5yr vs 10yr).

So far, we've had ~$11.4B in issuance this week with little scheduled for today.

Major treasury auctions are few and far between in the next 2 weeks which is driving treasury volatility lower for 3 of the past 4 days. It's still quite elevated from earlier this year. The WSJ is reporting today that the Fed is unlikely to be making any more major bond purchases.

In one stark sign of demand for credit, the PIMCO high yield closed end fund is now trading at ~50% above it's NAV. You can enter PHK Equity NAV on Bloomberg to see this.

I've heard more people on trading desks talking about this story than any other. It's the story of a little Texas brokerage firm stuffing a few major CDS dealers at their own game.

The S&P and the major credit index, CDX, are showing quite a bit of divergence....up to a 2.5 Z score (for 1 year trailing). CDX is predicting an S&P of ~1250 or the S&P is predicting a CDX of ~190 (vs last close of 126).

Daily Commentary

2009-06-11T09:59:00.008-04:00

Despite continued resiliency in spreads, including this morning, there are more signs of a pending pullback.

JPMorgan notes that the pickup from risk free rates into credit one month ago was ~150%. This now stands at only ~85%.

Dresdner has put out data showing that when all-in yields rise as they are now, inflows into credit funds slow dramatically. This is likely attributable to the fact that total returns fall in that scenario and retail investors often react to short term returns. This technical demand factor has been a major driver of spread tightening.

As many have spoken of, it's 'all about treasury rates'. If you look at the volatility of treasury rates (called the MOVE index) versus equtiy volatility (using the Vix), the correlation since Lehman has been R^2 of ~70-80. In the last month, however, it's fallen apart with MOVE headed much higher. If the Vix moves higher with it....look for credit spreads to widen.

Yesterday we saw ~$3B in fixed rate issuance and heavy secondary volume. Today I've seen CVS and SEE in the market shopping new issues.

Lloyd Blankfein of Goldman made some unusual (for a bank chief) supporting statements yesterday about mark-to-market accounting rules.

With oil rising, I would have thought the archetypal "middle eastern investor" would be still be liquid....apparently not.

Daily Commentary

2009-06-10T09:46:00.004-04:00

Credit spreads continue their march tighter with other more moribund summer markets. While it's only 1 day of widening, I have noted that I fear the negative basis has run too far too fast and may give some of that narrowing back.

Secondary volumes remain above average with a smattering of new issues, lead by Dell, in the queue this morning. I suspect 'queue' is quite a popular verb this morning in London given the Tube strike.

JPMorgan research notes the mortgage spreads have rallied ~60% (from their wide spreads) with almost 1/3 of the entire market now held by the US government. This makes credit spreads look quite attractive as they've 'only' rallied ~50% but have zero direct government holders.

This blog has a hearty defense of the mortgage (and other) securitization machine from an insider.

Here's an interesting indicator for the health of the economy...and apparently it's one that former FOMC Chairman Greenspan watches as well.....underwear sales. Apparently, we've bottomed (pun intended).

Looking at market wide credit default swap data (from the DTCC), I noted some surprising facts.....BRK amd PMI have ~7x in net CDS outstanding compared to their public debt outstanding. MBI, RDN, MTG and ABK are all in the 3-4x range. Outside of those insurance names, RSH was the next highest (notable) at ~3x.

Daily Commentary

2009-06-09T09:20:00.004-04:00

The focus in the fixed income markets remains on rising US Treasury rates. Credit markets continue to perform well as spreads are tighter yet again this morning.

Secondary volumes were slightly below normal and the dealer sell vs buy ratio dipped below it's usual 3x ratio. The new issue market has been relatively quiet this week; so far today, I'm hearing only of potential deals from FO and ETR.

At the risk of repeating myself, the negative basis continues to narrow. JPMorgan is making the case that this could even roll to a positive basis. They also make the case that bank credit ratios should improve in this current environment of a steep yield curve and active markets.

Bloomberg news has an interesting story about the difference in expectations between the dealer poll and the futures markets about the path of short term interest rates.

Given how far the credit markets have rallied, I feel like we could be setting up for a pullback or fall. Often exogenous geopolitical events can be the cause or perhaps just a cue. However, checking on the prediction markets on the InTrade website, I'm somewhat assuaged as their markets show few, if any, pending problems. Apparently, most folks are not worried about the pending "merciless offensive" from North Korea.

Daily Commentary

2009-06-08T10:20:00.005-04:00

Spreads are modestly wider this morning as credit investors wonder 1.) have we rallied too far too fast and 2.) why have risk-free rates risen so much.

In positive news, the negative basis continues it's torrid narrowing inside -100bps. This basis has slightly outperformed the rally in spreads due to the slightly shorter nature of the basket of cash bonds (versus the overall index).

This week we'll likely to see some healthy corporate and treasury supply. Realistically, we'll probably see more attention and press this week about the new iPhone.

One common reason behind a treasury rate back-up is convexity hedging. DeutscheBank maintains that this is not the reason behind this recent rise in yields but rather the old fashioned 'more sellers than buyers'. If convexity hedging is not a familiar term for you, learn about it here.

It was oddly comforting to see a rational and traditional handover of Tribune to senior debtholders without government intervention, union pressure and shenanigans or a new change of the rules.

Given the current populist administration, one should not be surprised that there is now some chatter about compensation reform for the entire financial services industry not just the TARP takers.

If it's any solace, Geithner is cannot sell his home either.

Daily Commentary

2009-06-05T10:38:00.008-04:00

Credit spreads shrugged off earlier equity weakness and are rallying once again today. This week's rally of ~35bps was a slight reversal of last week's in that single A rated bonds outperformed lower quality BBB's. The negative basis continues it's dramatic narrowing to it's current 111bps; remember that the FOMC watches this number as one of the indicators of the health of the credit markets.

The market saw ~$32B in supply this week which was ~18% above the weekly average. So far, this summer Friday has no new issues in the queue largely due to the unemployment figure (which has the potential to create a volatile rates environment).

Secondary volumes remain slightly above average with the dealer sell vs buy ratio reverting back to it's sticky longer term average of ~3x.

Inflows into high grade bond fund were 3x their weekly average this week. Thankfully, money market funds have returned to their 'normal' outflows after last week's aberration.

Bloomberg news has noted that some of the banks recent positive income reports are buoyed by FASB loosening it's rules; I had noted this potential previously.

What major index is up a whopping 27% YTD? High yield.

Mortgage investors were not surprised that NY Fed Governor Dudley noted yesterday that AAA RMBS securities may not be supported (i.e. purchased by) the Fed's TALF program.

I was surprised to see in the DTCC data that gross credit derivatives index outstanding has shrunk ~40% since last fall. I suspect most of this is due to collapsing of dealer vs dealer positions (as the number of dealers shrinks).

What government product has a consistent negative gross margin of 40%? The penny. It costs 1.7 cents to produce each one (story here).

Daily Commentary

2009-06-03T08:33:00.004-04:00

Spreads are meandering a bit wider with weaker equity and changing TARP rules.

While the banks have raised $85B in capital to re-pay their TARP funds, including $7B yesterday, the Fed seems to be taking a 'not so fast' approach to repayment; witness this article that they pay back more than originally asked in the stress tests of a month ago.

While there is still a macro imbalance between the natural ongoing demand for corporate bonds and the supply, the last few days has seen more selling pressure. I've heard of several traditional and non-traditional (i.e. equity funds) selling in the market. The TRACE data somewhat bears that out as the recent trend in the ratio of dealer sells vs dealer buys has shrunk from the 3x range to closer to 2x.

Now, that being said, the negative basis continues to shrink which is a positive sign of demand. This data can be occasionally backwards looking as bond prices, and pricing services, can sometimes lag CDS pricing.

Several news sources and blog have noted that spreads in both investment grade and high yield are approaching their pre-Lehman blow up levels. I suspect that the very mention of this (historically wide) level may cause some pause in our spread rally.

The new issue market was tepid yesterday with ~$3B in issuance. I'm hearing that ACE and VOD are in the market today with deals.

There is quite a squeeze in the US Treasury 10yr market. Be aware that that yield may be artificially rich/low until this matter passes.

Today's economic curmudgeon is Bill Gross who points out that the 'boom times are over.'

A Bloomberg news columnist notes here that bondholders may not be as safe as traditionally thought during this administration.

Perhaps we can replenish the government's coffers by taxing fat people.

Daily Commentary

2009-06-02T07:12:00.004-04:00

Credit investors are buoyed by the continued equity raises (from JPM, AXP, and MS) and spreads are reacting positively. In addition, all-in credit yields are double the treasury/risk-free rate which makes credit very attractive (from a historic perspective).

Today's data point to illustrate the strong technicals - $384B in bonds leaving the index (maturity or downgrade to high yield) versus only $326B in new issuance.

In the wake of GM's filing on June 1st, it's helpful to note that there were only 7 defaults during May (versus the monthly average of 15). Including GM, that brings the YTD total amount of debt defaults to $124B (versus the previous high of $64B for all of 2001).

As you've learned, I oft cite the market's negative basis as a sign of it's health and depth of demand. Bloomberg recently noted that it's also become a rejuvenated source of profit for 'fast money'.

In the new issue market today, I'm hearing of CVX, ESRX, and PRU. Of note, PRU recently declined TARP money. In the hurry to pay back or ignore TARP money, the Fed has decided to issue criteria for paying it back.

Apparently, the UK will not follow the lead of it's former penal colony, Australia, in rescinding the short-selling ban....it remains on indefinitely.

Daily Commentary

2009-06-01T10:20:00.014-04:00

There's lots of green print on the Bloomberg WEI page this morning reflective of almost universal strength in the equity markets. Credit spreads have rallied, or held firm, for 12 straight weeks and today is no exception.

Volumes are currently pretty light. Secondary volume was only moderate on Friday which is somewhat surprising for a month end. I've heard a few times this morning that new issue volume will be relatively light this coming week.

While the headline lead the news, GM bonds were not market moving this morning with long bonds up ~$1.

Economists can and will argue ad naseum whether or not commodities actually drive inflation. Hopefully, both sides of this argument noted that commodities had their strongest month since 1974 during May. Given that backdrop, you'll note that a fund advised by Nassim Taleb is allegedly positioning itself for hyperinflation.

The insurance sector continues to rally. The reasons I can cite are fairly weak, unconvincing and largely technical; so I'll leave you to ruminate and speculate. Prudential's equity offering has insurance sector credit spreads much tighter this morning. As I've mentioned before, Allstate remains one of the largest outliers of the gap between it's equity and credit spreads. Credit spreads are 'predicting' an ALL equity price of ~$37 (vs current $26).

I thought Bill Gross had a succinct observation on the coming impact of government support on the markets:

"redistribution and reregulation lead to slower economic growth, but the financial flows from it will be haircutted and “burden shared” by stakeholders. In turn, the present value of those flows should reflect an increasing risk premium and a diminishing multiple of annual receipts."

There do seem to be increasing populist anti-debt currents growing in our culture. Margaret Atwood's new book Payback notes that in ancient Aramic, debt and sin were the same word. Also, the new blockbuster hit Drag Me to Hell's main character is a mortgage lender and servicer who forecloses on homes (here is info if you didn't see the movie).

Forgive me for straying too far into the mortgage sector, but I believe this blog has an interesting 'discovery' of an aspect of the Treasury's "Making Home Affordable"program. Investors in mortgages will have their payments covered even if the homeowner re-defaults on his already modified mortgage.

Daily Commentary

2009-05-29T09:41:00.001-04:00

On Wednesday, yields rose and spreads rallied. On Thursday, yields fell and spreads rallied. Today, yields are about flat and.....spreads are rallying. Here's some context on the all-in yield, not just spread, of the credit market: (source - JPMorgan)

Bloomberg news has an interesting perspective on the PPIP program for bank's 'toxic' assets. The gap between where banks have these assets marked on their books versus they could sell them (into PPIP) is ~$168B. This dwarfs the amount of capital that the Feds have told them to raise as a result of the stress tests. I will be attending the PPIP conference in NYC next week to hear more.

There was $5.7B in issuance yesterday including Citi (with FDIC wrap) and BoA (without FDIC wrap). The new issue concession spread is now back to pre-crisis levels. This is the difference, in basis points, between where a new issue is marketed versus their outstanding bonds in the secondary market (before the deal was announced).

I find it interesting, and a bit disconcerting, that last week saw inflows of ~$14B into money market funds. This is in stark contrast with the weekly average this year which has been an outflow of ~$6B. What were these people fleeing? Were they concerned enough to accept only a few basis points in return for safety?

Bonds issued by highly rated universities have been quite popular in the last few years. They were peculiar in the sense that they were sometimes issued and traded by the muni desks at the dealers and marketed to muni accounts. Just as often, these deals were issued by the taxable corporate desks, traded by them and marketed to taxable accounts. Recently, the ratings agenices have put these universities on negative watch due to dwindling endowments.

In another sign that this rally is 'real', the negative basis of the market continues to narrow. It currently stands at -140bps having spent much of the last 6 months in the -200 or wider area; pre-Lehman the level was ~140bps. As a reminder, this basis is a measure of rich/cheap between cash bonds and their derivatives. When the basis is negative, cash bonds are cheap to derivatives. As this basis becomes less negative, cash bonds are outperforming.

I'm not surprised that the dealers are pushing back against potential derivatives legislation. See my earlier post about how TRACE killed dealer's profits.

Daily Commentary

2009-05-28T10:25:00.000-04:00

Yesterday, credit spreads rallied in the face of a weaker equity market. Today, that euphoria has subsided as spreads are slightly weaker.

GM headlines are rolling across the screen as we speak. GM long bonds were up ~$2 on the day to ~$8.50 (mid).

JPMorgan's most recent credit strategy piece points out that for the non-financial sector, most key credit ratios are far better than the recession of 2002...yet spreads are substantially wider.

Einhorn, the king of taking a position and then talking about it, has chosen a new target (pun intended) of Moody's. I suspect the mood there (pun intended again) is pretty grim after one of their owners, Warren Buffett, stated "we don't believe the people at Moody's...should be telling us the credit rating of a company."

Secondary volume was very heavy yesterday in addition to the $3.65B in new issuance. The dealer sale vs dealer buy ratio remains ensconsed at ~3x.

TRV, CBS and MS are all marketing new issues today.

I think most folks were surprised at how high the WaMu credit card deliquency rate of 18-24% that Jamie Dimon recently mentioned. However, it doesn't seem to have hit/hurt the credit card ABS market broadly.

The blog Calculated Risk has an interesting graph that shows how actual home sales are closely tracking the 'adverse case' scenario under the bank stress test.

As a former true believer, but now a conflicted believer in free markets, I'm not stunned to see some reticence about participating in some of the bailout programs.

2009-05-27T11:48:00.000-04:00

Stronger equity markets and higher risk free rates are keeping credit spreads firmer today. The majority of credit investors were taciturn, at worst, in their reaction to the GM news.

The recent and rising all-in yield for credit has insurance account buyers eager to participate. In addition, Moody's dismissed immediate concerns about the AAA rating for the United States. My favorite pair trade to watch remains the US Government vs Campbell's Soup....CPB has gone back to trading 20bps through (i.e. richer).

The new issue market continues to be a shining beacon for credit. Goldman is in the market with a $1B 10 year bond (actually a re-opening of an existing deal). This deal is non FDIC guaranteed; it's obviously encouraging when those deals are clearing easily without government support. NSC, TLM and possibly MASSMU are also on the launch pad.

I'm surprised that Chevron spreads (and equity) have not yet reacted to this story about a huge potential liability.

I'm not surprised that the banks want be on both sides of the PPIP program. Remember, this is an effort to remove 'toxic' structured product from the banks balance sheets. I suspect a rash populist political solution will soon be imposed.

While I generally agree with the precept that the rules for the credit default swap market have successfully weathered many tribulations, I still worry about stories like this. It shows that there is still room for obstreperous litigation or financial engineering.

The insurance sector has rallied dramatically in the last few days. There seems to be little new news on the fundamental front and I would, perhaps naively, attribute this strength to 2 recent 'cheap' new issues (ALL and AFLAC). I would note that Allstate credit spreads are trading very rich versus the equity....CDS is 'predicting' an equity level of ~$36 (vs current ~$26).

Daily Commentary

2009-05-26T10:22:00.000-04:00

Credit and equity investors are both imbued with the same confidence that consumers showed in the recently released May data. Spreads are slightly better as a result.

There is a mish mosh of new issues in the market today with MET, Westfield RE and EIB in the queue. I'm hearing that the Westfield deal is coming at rich levels versus it's own CDS and may have to cheapen to clear.

This week's outcome will largely be determined by the impending treasury auctions and potential deal from FRE. European credit supply and demand have both been as healthy as here in the U.S.

I'm surprised that Henry Paulson admitted that he didn't really understand mortgage backed securities....dismissing them as 'retail.'

I'm not surprised to hear that trading while intoxicated can lead to problems.

The Aussies have lifted their crisis era ban on short sales.

You've heard me mention that most traditional credit crisis indicators have eased to pre-crisis levels. Bloomberg News notes here that there is still some worry present in the LIBOR markets.

This fine observation of the global impact of recession is courtesy of Jeremy Grantham's excellent recent Outlook:

"the U.S. is in a position where necessary sacriﬁces will

simply be less painful. We in the U.S. will have to buy

two fewer teddy bears for our already spoiled four-year-olds.

The third television set will be postponed as will the second

or third car. We will have to settle for a slimmed down

ﬁnancial industry and fewer deal-oriented lawyers. Woe is us.

China, on the other hand, will close teddy bear factories, and

send its workers back to marginal or sub-marginal jobs in the

countryside. That is the real world, and it delivers real

pain."

2009-05-22T09:06:00.000-04:00

Spreads were firm yesterday in the face of the equity selloff. The credit indices were only slightly wider while a few sectors were actually tighter on the day. Today, spreads remain firm and equities agree.

Yesterday's equity kerfuffle was about concern that the United States AAA rating may be 'next' to be cut (after the UK). Both Moody's and S&P came out late in the day and said that the AAA ratings were safe for now.

PIMCO's El Erian was on CNBC this morning. He believes, as do I, that the short term funding portion of this credit crisis is over (witness LIBOR, TED spread etc.). He noted that the concern is now what the longer term exit strategy for the government stimulus shall be.

On this very warm holiday shortened day, Geithner has managed to send shivers down many Wall Street spines as he said "we're going to see very very substantial change" in the way compensation is paid.

MET's CEO noted that his balance sheet is "very strong." This was met with a 'hunh?' reaction in credit spreads as they are unchanged on the day in line with the rest of the insurance sector.

As I noted, Asian demand remains strong for high quality paper. This is likely to have driven the issuance of ~$2B yesterday from highly rated Hewlett Packard. Secondary volumes were above average and 'dealer sell' vs 'dealer buy' ratio remains high.

To end the week on some (cherrypicked) positive notes....the credit curve normalized by another 2 basis points this week and BBB rated bonds again outperformed single A rated bonds.

Daily Commentary

2009-05-21T07:46:00.000-04:00

Heretofore, the technical demand for credit has allowed the market to be somewhat impervious to bad news. This morning, there is a crack in that resiliency as a trio of bad headlines have spreads wider this morning. The Fed's negative outlook, new credit card regulations that could hinder profits at the banks and S&P putting the UK's AAA rating on 'outlook negative' are today's culprits.

This holiday shortened week has predictably, and thankfully, had light issuance; yesterday saw only ~$1B in deals with none on tap for today so far. That being said, secondary volume was very heavy yesterday with the 'dealer sell' vs 'dealer buy' ratio stubbornly high.

I think most investors can be happy with the progress of bank capital raising. Remember, only the plans are due by June 6th...yet half the capital has already been raised in only 2 weeks. The WSJ has a very interesting interactive graphic showing the various capital ratios at pre-crisis levels, a baseline and an adverse scenario. Be sure to click through all 3.

I regularly mention the negative basis of the market. I was encouraged to see that that very same metric is watched by the Fed's Open Market Committee (FOMC). While participants are well aware of the difficulty, equity investors should note that even the Fed can only estimate bid/ask spreads in the corporate market.

Love him or hate him....everyone has an opinion of Jim Cramer. This NYTimes article notes a study that his stock picks have outperformed.

2009-05-20T11:16:00.000-04:00

At the risk of repeating myself, the bank capital raising has turned out to be entirely an equity story. BAC did it's sneaky equity raising and RF is allegedly next. Credit spreads in that sector are 20-30bps better on the news dragging the entire credit market tighter this morning.

Countering today's strength in bank spreads....I previously feared that this story may come back to haunt us....FASB is gaining momentum in their efforts to move previously off balance sheet obligations back on to the balance sheets. This does not bode well for the already burdened debt ratios of the banks.

The other big sector move this morning are commercial mortgage backed securities (aka CMBS). The Fed has announced that previously issued deals (i.e. the troubled ones) will now also be part of the TALF program; not surprisingly, spreads rallied dramatically.

You surely noticed the recent retail (relative) positive earnings surprises. Those spreads seem to have outperformed stocks; WMT and TGT are 10-15bps better in the last week.

The WSJ had an article speculating over the proper debt ratios for REITs. If lower ratios prevail, then REIT spreads will be much much tighter. Remember, REITs are one of the cheapest sectors in the credit markets.

More than once, I've noted mutual fund flows as one of the strong drivers of technical demand in the market. I've neglected to mention that the long dormant "high quality Asian buyer" has recently come back in to the market with a vengeance. Bonds that are single A rated or higher with ~5 year maturities are in the crosshairs of Asian central banks and pseudo-sovereign government agencies. I'm told the buying has been enormous in the last few weeks (perhaps the reason for the 4x ratio of dealer sales to dealer buys [TRACE data]). This may help the corresponding equities of the same name.

2009-05-19T08:35:00.000-04:00

Credit spreads gave up their early small gains after the housing starts/permits number and have settled about unchanged on the day.

The correlations between the credit markets and equities are starting to stretch (Z scores >2.5, R squareds ~.9). If you believe credit leads equities, the S&P should be closer to ~1100. If you believe equity leads credit spreads then the CDX index should be ~200 (vs it's current ~148).

Supply seems to have been front end loaded this week ahead of the holiday. There was ~$7B in issuance yesterday; for full details type NIM3 on your Bloomberg. While it's still a bit early, I don't see much supply yet today.

The BIS released it's semi-annual derivatives survey which showed that global derivatives supply shrunk (H2 vs H1 '08) for the first time in the 10 years the survey has been in existence. Volumes in single name CDS fell ~23% while market values actually increased by a whopping ~78%.

What's left of Lehman Brothers has asked for a court investigation of Barclays saying that the brokerage unit was massively undervalued at the time of transaction. While I have not read the entire request, superficially this seems to smack of hindsight.

You are well aware of the macro factors I usually cite as indicators of the (easing of the) credit crisis. SeekingAlpha has done a great job this morning summing up their progress here.

Over the last few days, I have noticed a few unique new bond funds popping up (here and here). They are additional signs that the appetite for risk is back in the market as they are largely unconstrained by index or credit ratings guidelines.

2009-05-18T10:11:00.000-04:00

If I had just read the headlines and not looked at levels, I would have incorrectly assumed that spreads are wider this morning; however, they are not and are following stocks tighter.

My evidence:

Obama to increase taxes on insurers

WalMart will beef up it's offering of electronics (think - bad idea jeans)

Sandler O'Neil is ringing the alarm bell on smaller banks capital positions

Japan's credit rating was cut by Moody's (more on this story later)

The European Central Bank is giving out mixed signals and not a uniform response

If I have to dig deeper in search of positives (beside equities being stronger), I'd once again cite the technical demand. JPMorgan notes that ~$800B was put into money market funds in Q4 and is now 'languishing' at minuscule yields. It's funny how last quarters 'safe' investment is now considered a 'languishing' one. Also, at some point, the ~$200B invested in the FDIC guaranteed debt will find it's way back into the traditional corporate market.

It's a good thing there's strong demand as BEC, COP, K, AFL and STT are all in the market today with new issues. Please remember that the bond market closes early on Friday so one should consider this a short week.

This story about private equity being allowed to buy a bank is sure to get more attention soon. In the near term it's a positive as it 'creates' a new class of buyers for struggling banks. In the long term, it could present a problem as their modus operandi is typically to lever up.

Moody's took action on Japan's sovereign debt rating last night. They cut the foreign currency rating from AAA to Aa2. They raised the local yen denominated rating to Aa2. As we all know, perception often matters more than reality; which is why it is interesting to note that the LA Times headline read "Moody's Raises" while Reuters headline read "Moody's Loses Top Rating." Bloomberg news had it most accurately when it said "Ratings Unified." In actuality, the cut of the foreign currency rating matters more.

The talking heads have recently increased their volume about buying gold. How about this idea which my wife has long espoused.....buy diamonds as a safe haven. This 'idea' was brought to you by the folks that own and control most of those very same diamonds....DeBeers.

Daily Commentary

2009-05-15T09:54:00.000-04:00

Credit spreads are opening unchanged this morning as investors continue to digest the enormous supply of the last week.

The insurance sector is outperforming this morning on the news that 6 companies are eligible for TARP funding. Most cash bonds in those names are up ~$5.

Most recent new issues are holding firm during this respite. At this point, no major investment grade deals in are the queue while WMT brought a 5 year bond yesterday.

Barclays has placed BGI on the block. This will only add to the angst of the buyside as consolidation does not often bode well for their employment; remember that Columbia Management is also 'for sale.'

In an additional positive sign for 'risky' assets, yet another investor is raising money to buy distressed bonds (called DIP bonds). In this interesting, but largely unrelated story, a bankruptcy judge removed CSFB from the 'head of the line' of lenders to the Yellowstone Club due to it's aggressive lending practices.

Pfizer has said that it will provide free prescriptions, including Viagra, to unemployed and uninsured workers. Credit spread reaction was flaccid.

Secondary volumes were steady yesterday while the ratio of 'dealer sells' vs 'dealer buys' remains stubbornly high at ~3x.

Flows into investment grade bond funds were ~$1.4B for the week bringing YTD inflows to ~$54B. Contrast this with equity fund flows of $7.9B for the week and a YTD outflow of ~$61B.

In a slight reversal of last week, higher quality has slightly outperformed lower quality credit.

Alcoa is credit spread underperformer on the week due to fears of oversupply and/or China flooding the market.

Daily Commentary

2009-05-14T09:41:00.000-04:00

The credit markets are only slightly weaker this morning having recovered a bit in the last few hours. We remain in lock stop with equities for now.

Once again, new issue supply remains at the forefront of most credit investor decision. Yesterday saw ~$9.5B in new debt from issuers AXP, WYN, MTNA, JPM (non gtd) and STANLN (Standard Charter). So far today, it seems quiet.

Yesterday we heard an ECB member state that they may buy corporate bonds. Hours later, another ECB member (Weber) said that he 'didn't see the need.' Clear as mud.

The clamor for regulation of the CDS market is unsurprisingly increasing. Yesterday, it was Geithner making his case. Bloomberg had an insightful article about how the popularity of negative basis trades is making it increasingly difficult for issuers to renegotiate debt terms (in the traditional way). Debtholders are no longer primarily concerned with being paid back as they may also benefit more from a default (due to their corresponding and offsetting CDS positions). It's a good read.

Some believe AIG's crown jewel was International Lease Finance. Personally, I think's it's the Stowe Mountain Resort....which is now officially on the block.

I'm becoming a bit concerned by the ratio of 'dealer sells' to 'dealer buys' (from TRACE data) over the last few days; it has been consistently in the ~3x neighborhood. That leads me to believe that buyers could be getting full and we could have a pullback.

MBIA is being sued for the Nth time. This time it's the banks. The MBIA 14s (bonds issued from the insurance company) are now trading in the mid ~$30s. They are Caa2 rated by Moody's (rated Aa2 at new issue).

Daily Commentary

2009-05-13T09:29:00.000-04:00

"Running out of steam", "taking a pause", "overvalued" are the comments I'm seeing this morning as the credit markets take a 'breather' (my term). Retail sales obviously are the excuse this morning. Oddly, spreads in the retail sector are only slightly wider today in line with the broader market.

Both Bloomberg news and the WSJ have headline articles questioning the vitality of this rally. This chart is from Bloomberg's Caroline Hyde (click on it to enlarge):

Obviously the immense new issue volume, which last week gave us confidence, is now receiving more scrutiny. JPMorgan notes that net new issuance is only ~$15B YTD (vs ~$200B net for all of 2008).

Yesterday, I mentioned the massive underwriting fees that are being paid. When JPMorgan and Citi recently advised Harrah's on a bond restructuring, they were compensated in junk bonds. I suspect this trend may continue; you may recall that this is not the first time this has occurred. CSFB's bankers received part of their 2008 bonus in junk bonds....it was called the Partner Asset Facility.

I'm surprised that the comment from the ECB's Kranjec about buying corporate bonds has not garnered more attention or at least spread reaction.

Yesterday's secondary market volume was quite high at $14.7B. This was up ~36% from the previous day. Here's a quick quiz for equity investors....how many individual issuers traded yesterday? 504. That compares to >5,000 issuers in the US equity market. As I've mentioned before, but not recently, liquidity is largely confined to recent new issues. Of the 25 most active bonds yesterday, only 4 were not new issues.

The CFA institute noted that they have a record 128,600 candidates taking the CFA exam in June. Those candidates can expect pass rates of ~35%. I, for one, am glad that I've got my CFA and that I am not required to disclose how many attempts it took.

Daily Commentary

2009-05-12T10:11:00.000-04:00

Supply, supply, supply. While the deals largely went well, spreads are slightly weaker this morning.

Yesterday saw $11.5 in non-FDIC guaranteed issuance. MSFT, BUD, SPG, USB, SG&E, SO, ALL, BDX, KCRC, BKH and MNPIPE all came to market. Microsoft had ~$10B in demand alone for it's $3.75B deal. For the most part, spreads have held in since the deals were priced. However, some of the recent financial issues have started to weaken a bit. I'm also hearing that the recent CVS and CBS deals are weaker.

SRE, EQT and AEE are in the market today.

While that number is indeed a huge figure, it's important to remember that it is still less than the 'natural demand' created by bonds maturing, coupons being paid and inflows into credit mutual funds; depending on who's math you use, so far this month, supply is running ~50% of the estimated demand.

As you've read here, the bank's capital raise is largely becoming an equity story with raises from COF, USB, BBT (did a debt deal that's struggling), PFG, BK, and KEY. Let's not forget the enormous fees that all these banks are earning by underwriting equity and debt new issues.

MBIA released earnings today. Debt spreads held firm as their AAA rated reference entity was unchanged with the sector and their AA rated reference entity was only slightly weaker.

Germany is proposing a 'bad bank' solution for it's financial bailout.

It will be interesting to watch the fallout from the first ever default of an Islamic sukuk bond. If a hand is cut off for the crime of theft, I wonder what type of sentence a $100mm default will elicit.

Daily Commentary

2009-05-11T08:55:00.001-04:00

Credit spreads are wider this morning as we take a brief pause from the tremendous rally we've had.

The backup in treasury yields is getting some more press as investors worry about the impact of higher mortgage rates on the embryonic housing recovery.

Despite the comment above, Microsoft has decided that rates are low enough and spreads tight enough to bring it's first ever debt deal to market this morning. Demand is very strong for this AAA rated entity; expect ~125bps for the 10 year tranche. SPG, USB and InBev are also in the market.

As I've noted before, the appetite for risk is back....such that it was the WSJ's lead article this morning. In the last week, single A rated bonds tightened ~14bps while BBB bonds tightened ~66bps during that same time frame. It's also notable that credit curves steepened 4bps over the last week; that is a very large move and certainly welcome (you can remember why here).

One of the reasons that the new issue market had been doing so well is that deals were coming at large spread concessions (i.e. more spread) to existing deals. This hurt existing deals as they then widened/cheapened accordingly to be in line with the new deal. JPMorgan notes in recent research that this 'new issue concession' has shrunk to pre-crisis levels. This will diminish the attractiveness of new deals at the margin but could lend support to existing secondary bonds.

There has been a lot of noise recently that the dealers still dominate and control the CDS market despite some tepid efforts to broaden the participation (of the buyside). This article makes a strong case for the potential of conflict of interest.

Daily Commentary

2009-05-08T10:13:00.000-04:00

Equity markets globally are rallying on the employment data and stress test results release. Credit spreads are following suit. The stress test results themselves were little different from the leaks thus the relief rally result; markets can handle good news and bad news but not uncertainty.

When equity investors can rattle off the bid-to-cover and tail of a 30yr treasury auction, you know it went poorly. As deficit spending skyrockets, each additional basis point being paid out by treasury on coupons will haunt us in the future. Treasury yields will be the 'de rigeur' subject-of-the-day going forward (replacing the TED spread and Vix).

The new issue market continues to churn along successfully. Morgan Stanley and BoA both have been in the market with non-FDIC guaranteed deals; likely as a necessary precursor to repayment of TARP funds. Hasbro and CBS are 2 of the non-finance names currently in the queue. Credit investors were also enthusiastic about WFC's smooth and successful equity raise.

To remind you why new issues are flying off the shelf, I will cite the $52B in inflows into bond funds this year which is ~10% of the assets under management industry wide.

In another encouraging sign for consumer spending/finance, AXP needs no further capital and intends to pay back it's TARP money. Personally, I was a bit surprised to see the MET is in the same boat.

Whenever credit investors feel too giddy, all they need to do is catch up on Nassim Taleb's latest utterances....the author of the book Black Swan told a conference in Singapore that this crisis is "much worse than the 1930's". This is the same guy that said yesterday debt should be banned.

Perhaps I haven't had my eye on the ball, but I was surprised to hear Weyerhaeuser was cut to junk by Moody's. S&P still has them rated investment grade. Spreads on the name did not react but expect some selling pressure as many funds will be forced sellers due to client guidelines.

I found the following explanation of the growth of risk during this bubble to be quite succinct (from WSJ editorial):

"First, businessmen seek to maximize profits within a framework established by government. We want businessmen to discover what people want to buy and to supply that demand as cheaply as possible. This generates profits that signal competitors to enter the market until excess profit is eliminated and resources are allocated most efficiently. Financial products are an important class of products that we want provided competitively. But because risk and return are positively correlated in finance, competition in an unregulated financial market drives up risk, which, given the centrality of banking to a capitalist economy, can produce an economic calamity."

Daily Commentary

2009-05-07T10:01:00.000-04:00

Spreads are rallying yet again this morning as the buying continues unabated. The most watched Lehman Credit Index stands at +381bps which is ~100bps tighter on the year and ~170bps tighter than the widest spreads of last fall. It's become fashionable, and astute, to once again pay attention to the yield of the index as well as that's an important proxy for the rich/cheapness of the sector (versus mortgages or government bonds). Using the JPM index, the yield is ~6.75% which is about flat YTD.

Yesterday saw $9.3B in issuance from 9 companies. This is the largest 1 day amount in months. Today alone we're seeing Dow Chemical, Corning and Kinder Morgan in the market. I've heard that the interest in Dow is ~$12B at spreads in the mid to high 500bps range. This is pretty surprising ahead of the stress test actual results being released tonight; usually, uncertainty caps demand but apparently all the leaks were sufficient.

For those folks scratching their heads about the rally in financials given all the need for capital, James Surowiecki notes that it's not new capital per se but rather new equity (converted from existing preferred shares....dilution be damned).

One of my favorite indicators of the health of the credit markets is to monitor the credit spread of the US Government versus Campbell's Soup. For well over a year, Campbell's traded through (i.e. better than) the US Government. I am pleased to note that they are now trading approximately flat to each other.

Another positive technical point to note is that the ECB has declared it will be buying ~$80B 'covered bonds'. As a reminder, a 'covered bond' is a pseudo asset backed bond; however, it remains on the issuer's balance sheet (whereas most true asset backed bonds do not). This will obviously create some cash to be 'put to work'.

Daily Commentary

2009-05-06T10:11:00.000-04:00

Credit spreads are rallying this morning despite the stories about enormous amounts of capital needed to prop up the banks. Investors continue to believe this is an equity story; witness BAC/C/MER spreads are all tighter by 15bps this morning....JPM/WFC/MS/GS are tighter by 5bps.

The forward economic picture seems to be improving. JPM just upped their Q2 estimate for GDP to -.5% (up from -2%) with Q3 positive at 1%. Bernanke highlighted areas of economic strength during his talk yesterday.

The technical demand picture remains very clear and strong. Yesterday, Teck issued ~$4B in the high yield space; those bonds are up $5 since yesterday. On the investment grade side, Xerox, Husky Oil, DTE Energy and Canadian Oil Sands are all in the market with new issues. With 75% of the S&P 500 having reported, expect this pace to pick up very soon.

Historically, liquidity in REIT debt has been terrible; this was true long before the real estate bubble burst. Treasurers at these companies are now realizing that they can buy back their debt very cheaply making these bonds even less liquid (remember, liquidity must be viewed symmetrically). This could give their equity a boost as the balance sheet strengthens.

There is an interesting civil case before the court in NYC. The SEC is charging some folks with insider trading; this is notable as it is the first time CDS was the instrument being used. The defendants lawyers argue the SEC does not have jurisdiction. Clearly, the regulators are making this an area of focus. You'll note that the NY Fed has recently been talking about trying to break the dealers' stranglehold the CDS market.

Take a look at these current and historical spreads by sector (from JPM) and you'll see that credit has actually underperformed (click on the graphic once to enlarge it):

2009-05-05T08:56:00.000-04:00

The signs of euphoria in the credit markets are plentiful:

- Libor below <1%

- subdued Vix

- negative basis continues to narrow

- credit curves are steeepening

- the TED spread remains at pre-Lehman levels

- BBB rated bonds are outperforming A rated bonds

- investors have largely shrugged off the news that 10 of 19 banks will need capital and that S&P placed many of these banks on negative watch

- another bank is issuing non FDIC guaranteed debt (BoNY/Mellon)

- investors are finally starting to participate in the TALF program

- Fiat, Opel and Chrysler are being called a "supergroup"? perhaps to mechanics worldwide...

- the US sovereign CDS spread has narrowed to where it's close to Campbell Soup CDS spreads (low ~30bps)

On the day however, spreads are mixed to slightly wider. Given the recent rally and euphoria noted above, I wouldn't be surprised if we languish or weaken as equities "catch up" to us.

The widest sectors are currently insurance, financials and REITs.

The tightest sectors are healthcare/pharma, telecom and industrials.

James Surowiecki has an interesting article in the New Yorker debating how big the financial sector should be as a share of US GDP (given that it shrunk in 2008 for first time in 16 years).

This blog has a great post about pending problems in the municipal market.

Daily Commentary

2009-05-04T10:28:00.000-04:00

Historically, bond investors have been cynics....some bad economic news rolls on the screen and they cheer. However, in times of crisis such as this, they turn into optimists as good news causes the equity market to rally and improve the prospects of their corporate bonds. Today is a perfectly good example of the latter psyche. Strong pending home sales and construction spending numbers this morning have credit investors giddy and spreads are rallying.

At the risk of repeating myself, there are several data series that show that this credit rally may have some legs to it. They are as follows: credit curves continue to normalize/steepen, the negative basis is rallying and technical demand greatly outweighs supply. Even Warren Buffett has been tactically buying corporates.

Given this backdrop, Cigna, Proctor&Gamble, International Paper, Providence Health and Coca Cola Enterprises are all in the new issue market this morning. They must have confidence in US demand alone as the UK and Japan are on holiday today (Golden Week in Japan).

Barrons had an article about commercial real estate as the 'next shoe to drop.' This isn't exactly cutting edge forward analysis....however, it's timely to remind that Wells Fargo is the bank with the heaviest exposure to that sector. The 3mo. and 1yr. regressions of CDS versus equity predict a lower stock price (~$15) but with weak strength (low R squared).

While prices already reflected the probability, I should note the first 'credit event' (failure to pay) for a monoline insurer this weekend from Syncora (formerly known as XL Capital Assurance). There was not much of an impact even within the sector.

The pending record supply of US Treasury debt seems to be getting more attention than the pending bank stress test results. Tuesday will see $35B 3yrs, Wednesday $22B 10yrs, and Thursday will see $14B 30yrs. This is the largest treasury refunding in history.

I continue to be flummoxed by the stability in the amounts outstanding of CDS from before the Big Bang (mid April) until now. The only subsectors that have dropped off in volume are index and tranche.

Daily Commentary

2009-05-01T09:57:00.000-04:00

Spreads started the day weaker on the news of the delayed stress test results. Markets can handle both good news and bad news...but not uncertainty. The just released confidence number, NAPM and employment data should keep the damage capped. Volumes are light due to European May Day holiday.

Both investment grade and high yield bonds had their best performance month (April) in decades. Merrill's high yield index was up 9.7% and JPMorgan's investment grade index returned 2.3%. The weaker rated bonds were the outperformers in both universes.

Given the lack of European attendance, the new issue market is moribund today. I'm seeing deals from small issues from BP and Rockwell only. Most recent new issues have performed well with the exception of the deal from BB&T which has struggled. April saw $59B in new issuance. So far, year to date there's been $242B in issuance (excluding FDIC guaranteed debt). Last year at this time, we had had $314B in issuance so the pace is down ~23%.

Credit investors are once again paying attention to yields rather than spreads. While breaking the 3% yield on the treasury 10yr obviously leads to lower prices, at some point soon the all-in yield (treasuries + credit spread) will again be attractive to other investor classes (think insurance companies).

Daily Commentary

2009-04-30T10:22:00.000-04:00

Spreads are rallying again this morning on top of yesterday's strong rally. Credit investors do not seem that concerned over the alleged DCX filing, bank stress tests or swine flu. They are largely focused on extremely strong technical demand, a dropping Vix, normalizing credit curves, firm swap spreads and a shrinking negative basis (cash bonds outperforming CDS).

Most notable this morning is the inaugural US dollar corporate bond issue for Nokia. They are bringing a 10 and 30yr bond to the market in the ~250-275bps range (over US treasuries). Compare that to Motorola which trades ~660bps. Bear in mind that Motorola is barely investment grade while Nokia has a strong single A rating from the agencies.

I'm surprised there is not more chatter about the potential FASB ruling on off balance sheet financing. This could eventually bring billions of dollars of obligations back onto (already weak) bank balance sheets. There's not much detail here yet but expect this to put pressure on bank spreads.

In a sign that sentiment seems much better, the Whistlejacket SIV liquidation occurred and it went fairly smoothly. This was a notable and large investment vehicle that held ~$7B in assets (primarily structure product) when it was declared insolvent in February 2008. Suffice it to say that this would not have occurred at all, let alone so quietly, unless confidence and demand were deemed strong enough.

Eric Beinstein's excellent research group at JPMorgan shows that investment grade credit spreads are currently predicting that the S&P should be just above 1000 (1yr regression, Z score >2, R squared ~.8). So, if you believe credit leads equities, it's time to buy stocks.

Daily Commentary

2009-04-29T09:47:00.000-04:00

Despite a blizzard of what most would call bad news, equities are up on the day and credit spreads are starting the day much tighter.

As more of these stress test results are allegedly leaked, credit investors are clearly starting to view this as an equity story, not a debt one; witness, bank spreads are largely unchanged today.

Demand for credit remains quite robust. Today alone, we are seeing new issues from Goldman (non FDIC), Diamond Offshore, Encana and Florida Gas. Goldman's decision not to use an FDIC guarantee will add an additional ~3.75% to their annual borrowing costs.

While there is a FOMC announcement today, most are not focused on it. Fed Fund futures have shown little volatility in last several weeks with a gradual move from ~20bps (implied) to the current ~15bps. Obviously, with rates so low already, eyes are 'quantitative easing' measures at this point.

It is important to remember that TED spreads have remained below pre-Lehman levels for several months now:

One should also note that UK short term rates have fallen for 44 consecutive days.

I thought this article in the New Yorker was quite interesting. It discusses the historical success rates of companies that actually increased spending (R&D, advertising, M&A) during recessions versus those that did not.

Daily Commentary

2009-04-28T09:44:00.001-04:00

Secondary credit spreads are moving wider this morning lead by the underperforming banks and brokers. Continued concerns over swine flu and new 'tough talk' from the GM bondholders group have credit investors picking and choosing their spots carefully.

A big jump in the just released consumer confidence number could turn this around quickly.

The new issue market continues to be impervious to broader market worries. Potash announced a deal this morning and had ~$2B in interest in 34 minutes before the deal closed. Several regional banks have or will come to market soon with new debt deals.

The sectors that could be negatively impacted by a potential epidemic have low index weights so that has had, so far, a muted impact on the index. Conversely, the healthcare/pharma sub-sector could benefit and has a much larger index weight.

I'm surprised that CDS outstanding has not dropped post the mid-April Big Bang protocol.

A hedge fund is making some noise that MBIA may have triggered a succession event in their CDS when they split the company. This could cause some volatility in the name.

Obviously, most of the chatter this morning is about the banks/brokers and potential need for further capital raises. Here are approximate spreads over treasuries, in basis points, for ~10yr bonds and the change in spread overnight:

JPM ~350 +10

WFC ~370 +5

GS ~430 unch

MS ~465 +15

BAC ~565 +15

C ~605 +25

MER ~680 +30

2009-04-27T09:34:00.000-04:00

Predictably, spreads are headed wider following the equity markets concern over swine flu.

Other drivers this week will be continued earnings announcements, the Fed release on Tuesday, and a few pending auto headlines (Chrysler/Fiat and GM debt restructuring and a alleged UAW agreement). So keep your eyes on the tape and for the moment, don't worry about the usual drivers of the Vix and swap spreads. I suspect new issue supply will be muted considering all the potential "tape bombs" that could screw up a new issue.

The Fed has released a study that shows the ideal current interest rate is -5%. Details on how they'll achieve a negative interest rate were not released.

As I've mentioned a few times previously, the risk appetite is back. Witness Goldman's VAR figure jumping over 20% for Q1. Their absolute number is double the next broker/dealer.

How many times in the last 2 years did you hear "don't worry about AIG, they can always sell their crown jewel ILFC"? Well, things do not look so rosy for the prospect of that sale. Bids are coming in ~65% of book value.

Despite a rally in spreads, implied default rates are still well above historical norms. Recent DeutscheBank data shows that current market spreads are implying that ~36% of investment grade bonds will default. Compare this implied rate the worst ever actual rate of 2.4% and you can see the case for owning corporate bonds (if you can hold them long term).

Daily Commentary

2009-04-24T12:09:00.000-04:00

Today's strength in the credit markets is a reminder that when the mood and expectations are this low, even a slight 'beat expectations' can move the market. Ford lost $1.8B and burned through almost $4B in cash....yet the market is rallying as many expected worse. I'll attribute some of the enthusiasm to the animal spirits looking forward to great weather this weekend (on the east coast at least).

These very same animal spirits seem to think that Ayn Rand's Atlas Shrugged is more relevant today than Barack Obama's Audacity of Hope as the former briefly outranked the latter on Amazon's sales rankings.

While the new issue market is quiet in the U.S. today (because of earnings and pending stress test results), the new issue market in Europe continues to show strength. AT&T brought a >30yr bond in UK sterling and it was gobbled up quickly....highlighting the demand globally for long duration assets.

Now, that being said, Moody's said that they UK government was taking "risks" and that their finances are "deteriorating" but for now their AAA rating was not under review.

Forgive the pun....but speaking of toxic assets, I missed this story last week about Lehman being long tons of yellowcake uranium.

Daily Commentary

2009-04-23T11:08:00.001-04:00

Tighter swap spreads and a lower Vix are pushing spreads tighter today despite weaker equities. Credit curves continue to steepen (actually reverting towards 'normal') and the negative basis continues to narrow.....these are both strong signs that the spread rally is sustainable.

The top of everyone's discussion list is the pending bank stress test parameters and results. Most notable is the (leaked) target for tangible common equity of 3% which is slightly lower than expectations. I don't suspect they would target an insurmountable level....so expect results to come in close to that 3%. Michael Milken reminds us that it's very important to focus on the proper capital structure.

Morgan Stanley's CFO says they would "consider" paying back their $10B TARP line. This comes 1 month after their CEO Mack said "[it's the] wrong time" to pay it back.

Hartford insurance is trying to sell it's property insurance unit for ~$4B. Spreads were initially weaker as this was viewed as the crown jewel. However, spreads have since recovered to only slightly weaker in line with the rest of the sector.

The UK government may embrace a very different way to sell their government debt (ahead of a pending flood of issuance). They are considering syndicating the debt issuance in much the same way as corporate issuers do. A pundit would view this as a sign of weakness....needing a broker/dealer to aggressively peddle that which previously 'sold itself'.

The ICE and CME are racing to gain share in the clearing and settling of credit derivatives. Obviously, this will be quite lucrative given the triple digit growth over the past few years of credit derivatives. At this point, ICE seems to be taking the lead.

S&P cut their ratings on ~$8B of CDO's backed by residential mortgages. 29 of these 39 tranches face further pending cuts.

Daily Commentary

2009-04-21T10:27:00.000-04:00

There is little market driving news coming specifically out of the credit markets today so spreads are simply reacting, wider, to lower equity markets.

The pending bank stress test results and earnings are the primary subjects of conversation today. The stress test criteria are supposed to be released this Friday with the results in early May. However, if you'd like to see the alleged leaked results of the stress test, see this blog which has pretty grim results.

We're seeing a mini-spurt in issuance of a new type of bond called Build America Bonds (aka BAB). This is very similar to what used to be called taxable muni's....where some portion of the coupon is tax deductible. This won't necessarily impact credit spreads too much but could tighten muni spreads as some of that supply will hit the credit markets.

The inspector general for the TARP is concerned about the potential for abuse in the pending PPIP program. See page 147 here.

For a credit spread rally to become sustained, 'real money' needs to be buyers of off-the-run cash bonds (i.e. not only new issues or CDS). The collapse of the negative basis inside -200 is another good sign that this rally could hold. That basis has been in a negative 220 to 250 range for quite some time.

2009-04-16T11:18:00.000-04:00

Spreads are slightly better this morning. Credit investors seem to have focused on the healthy trading revenues from JPM's release; equity investors seem to have focused on the weak retail banking numbers from same. Investors will likely applaud their effort today to bring a new 10 year bond issue without the FDIC guarantee.

Moody's has warned that they may downgrade the commercial insurers citing litigation concerns on top of the standard 'investment losses'.

The Treasury just announced ~$10B will be available to the banks to modify existing 'troubled' mortgages. I'm told by mortgage traders that this has had little impact on spreads today.

The TARP program is in the news a bit today. One, it's been noted that bank lending has actually shrunk amongst the banks that received TARP. While this may surprise some, I'd remind folks that the economy is still shrinking so keeping lending standards prudent/unchanged will lead to less lending. Also, we're starting to see some backlash against the rapid repayment of TARP loans as it could lead to less government control.

The SEC seems to have re-focused their energy on revamping the ratings agencies. "Change is a-coming" here. Personally, I wouldn't want to own these equities as the oligopoly of Moodys, S&P and Fitch will clearly be diminished in the near future. Also, expect investors, rather than issuers, to be paying going forward. This will lead to ratings volatility as issuers are no longer allowed to ask, in advance, "how can I structure this deal/news so that I keep my ratings?"

One would think that a company or country growing at 6.2% annual clip would be applauded. However, when it's China and that's the lowest print since 1992, investors worry about it.

New issues continue to perform well at issuance and in the secondary market afterwards. I've also heard of 'real money' investors delving into buying of off-the-run bonds. This is an encouraging sign of broadening liquidity. There's been depth (in new issues) and now there's breadth.

Daily Commentary

2009-04-15T10:43:00.000-04:00

The credit markets seem to be pretty spooked by the UBS earnings as spreads are slightly wider despite the stronger US equity open.

"Precarious" is not the term a CEO ever wants to use during an earnings announcement as UBS's Grubel did today. Notable was their dwindling prime brokerage assets. I'm a firm believer, and witness, that clients yanking their prime brokerage money can be the death knell to a firm....witness Bear, Lehman and other close calls.

At the risk of beating a dead horse, demand for credit spread product remains very strong. Using some simple math, you'll note that, on average, there are $75B in bonds maturing monthly (including coupon payments). This month alone, there has been only $21B in issuance. In addition, much of this issuance has been in FDIC guaranteed debt which usually does not fit the target of a credit investor. Please also bear in mind that Goldman noted they have $164B in cash and 'liquid' securities to invest in distressed assets.

It's no wonder then that HCA is bringing a deal in the high yield market. The $1B issue will be the largest in 6 months....and at the tightest market spreads in 6 months as well.

The Vix remains tantalizingly low....approaching the September pre Lehman blow-up levels. Historically, that has bode well for credit spreads.

Daily Commentary

2009-04-14T10:02:00.000-04:00

Oddly, spreads are a bit wider in light volume. Given the backdrop of mixed European equities, a mild Vix, a strong new issue market and tighter US swap spreads, I would have thought the credit markets would shrug off a weaker US equity market.

Yesterday, Bernanke mentioned the word 'credit' 29 times yesterday in his speech at Morehouse College. Perhaps he was acknowledging the well known predictive capacity of credit spreads for future economic activity; this was most recently discussed in academia here.

MetLife has said it has adequate cash on hand and will not accept TARP funds. Spreads were mildly tighter on this news.

While largely look-back (in impact), S&P has raised it's estimated European default rate for 2010 to 29% (E'09 11%).

Demand for credit, particularly new issues, continues unabated. Witness today's announcement of a new issue for Rio Tinto at 8:40am. By 9:45am, the deal was 'closed' with close to $10B in demand.

I see 2 positive signs for risky assets. One, hedge fund redemptions have slowed. Two, the carry trade (in forex) is back which historically been a large driver of hedge fund returns. Like 'em or hate 'em, hedge funds are the primary buyers/holders/traders of risky assets. When they're healthy, risky assets have the tendency to outperform.

Quick...what's the largest bank in the world (by market value and deposits)? No cheating... (answer : here)

Daily Commentary

2009-04-13T08:43:00.001-04:00

Despite higher Asian equity markets, the US equity market is opening weaker and dragging credit spreads with it. Europe is closed for Easter Monday.

Here are the positive factors for the credit markets as I see them.....the Vix is dropping, credit curves are normalizing (steepening), inflows to the sector remain very strong (avg +$.3.3B a week), and Goldman is raising money to buy risky assets.

The negative factors are well known and will be confirmed or countered this week during earnings season. I suspect the trend we could see emerge from the financials is raising equity (of some form) to pay back TARP. This will allow the 'winners' to pay folks >$250k and quickly illuminate those that are struggling.

In an odd turn of events, AIG Financial Products, the division that caused AIG all the pain, has decided against signing the recent Big Bang CDS protocol. They allege it is due to the fact that all their positions are legacy and thus pre-protocol and that they are in wind-down mode.

This dovetails nicely with the most recent DTCC data which shows that net CDS outstanding (U.S. single name) is down 16% since October 31st. The trend is fairly straightline showing drops for the last 1 month as well.

Bloomberg has added a succinct summary of the new protocol to it's usual fine analytics. Type SNAC on your terminal to see it.

The richest (tightest) sectors are healthcare/pharma, industrials and telecom.

The cheapest (widest) sectors are REITs, financials and insurance.

The average price of a bond in the JPMorgan credit basket/index is ~$93.25.

Daily Commentary

2009-04-09T11:30:00.000-04:00

Credit spreads are tighter on the day as equity markets surge. There is little else to talk about during this early-close-during-blackout-season type of day. Same store sales seem to have a slightly better than expected bias with spreads performing in line with the general market.

Volumes are very light given the Big Bang and almost no new issuance (and a 2pm close so credit investors can honor passover/Maundy Thursday and pray for a bonus).

Tighter swap spreads, a subdued Vix and commodities and strong equity markets are more than enough to push spreads tighter. Investors also seem to buoyed by the NYTimes article that the banks have passed the stress test.

Holders of insurance bonds/credit were certainly encourage by the TARP news. However, some sobriety has crept into the conversation as they realize there's only ~$19B left for all of them (and loads of banks that have yet to apply).

Berkshire Hathaway was dinged 2 notches by Moody's from AAA to Aa2. CDS spreads were only wider by ~10bps to ~340bps while the equity looks to be up on it's WFC holding (which announced strong earnings). The finance sector is 20-35bps tighter today on this WFC news (MER and WFC performing the best).

Daily Commentary

2009-04-08T12:03:00.001-04:00

Spreads are generically a bit tighter this morning in muted volumes. Volumes are muted due to the CDS Big Bang occurring today as well as the beginning of earnings season. I'm a bit concerned about widening swap spreads in Europe...that typically does not bode well for our financial sector spreads. Expect new issue volume to be light as well with only 1 deal (from Qwest) done yesterday and none being bandied about.

Credit investors must believe that CTX/PHM merger is sure to happen as spreads almost immediately converged to the ~260 area. CTX needed to tighten ~180bps to get there while PHM was only a few bps tighter. Usually you see ~20-50bps in deal risk but not in this instance.

As a reminder, all CDS trading for new contracts going forward will have fixed coupons. This is a very very big deal as it helps reduces counterparty risk and should increase liquidity. For a very good and detailed summary of why this is happening and why it matters, please see this excellent blog entry. CDS volumes will be subdued for the next week or so as investors figure out how to trade, model, and settle them.

The primary credit index (CDX) is now ~31 rich to it's underlying. Until today's Big Bang that was very arduous to arb....but no longer....watch for that to shrink.

Equity and debt investors are both reacting the same way to the positive TARP news on the life insurers with most life insurer bonds up several points. There seems to be some chatter that REITs are up next for a bailout. Included in this sector rally is LNC which seems re-arranging deck chairs on the Titanic.

ILFC bonds are up ~$5 on news of a possible Fed line of credit. This has given confidence to the (alleged) 3 interested buyers in the aircraft leasing business.

Bloomberg released it's Q1 underwriting league tables for investment grade bonds (below, with market share %):

JPMorgan 14.4%

BoA 14.3%

Citi 14%

MS 10.8%

GS 10%

That's quite a concentration at the top...some would call it an oligopoly. The #6 only has a share of 6.7%. Given how I've noted that liquidity (and thus bid/ask spread profit) is concentrated amongst recent new issues, this will be a big boost to those banks at the top.

Daily Commentary

2009-04-07T10:22:00.000-04:00

I'm a bit surprised that spreads are matching in lockstep with equities to wider levels.The Barclays Credit Index closed at +472bps (vs 3 month wide of 507 and tight of 424).

Morgan Stanley and George Soros both recently insisted that the bear market is not over. I thought George Soros officially lost relevance in 1998 when he declared capitalism as flawed.

A steady Vix, mixed swap spreads and bullish comments from the ECB (about possibly buying corporate debt) are usually enough to push spreads tighter. I've heard from a few folks that there is a large SIV (structured investment vehicle) unwind going on in the market which may be enough to tip the scales.

Usually we hear about tighter regulation from politicians and aggrieved investors. However, today we're hearing about tighter rules for money market funds from the investment managers themselves. These changes sound likely to go through which will cause for further dislocations and odd technicals in the very short maturity bonds.....a quick drastic flight to quality.

The PPIP program from the Fed was announced only days ago....and is now being expanded to include more managers. Almost everything out of the Fed now feels ad hoc and soon-to-be duct taped.

There was some scary default data released recently. High yield recovery rates (what's left after bankruptcy for creditors) have been ~10 cents for bonds and ~25 cents for loans this year; last year those were 39 and 55 cents respectively. Moody's noted that their speculative grade default rate in Q1 was 7% (vs 1.5% Q1 '08). They predict a peak of 15% during Q4 '09 with a 'recovery' to 12% in Q1 '10. Remember that the credit market currently has a 45% default rate priced in to the market so buy buy buy. (JPM data; assumptions of 20% recovery rate, 10yr cohort).

Daily Commentary

2009-04-06T08:23:00.000-04:00

Credit spreads are opening unchanged to slightly wider this morning.

There are a few stories in the financial sector to mention in light of no economic data today.

Mike Mayo, bank wizard, is noting in a report that the bank sector will continue to struggle; he specifically notes that loan prices (at the very top of the capital structure) are still priced too high. If you're a Calyon client (which I am not) make sure to get a copy to read...and send one to me when you're done.

There's an article in the FT noting what many have already felt.....wide bid/ask spreads and healthy client volumes are good for the banks/brokers. In addition, most of these entities have a little bit more wiggle room with their marks given the recent FASB ruling (noted earlier).

I don't think the IR folks are Lincoln National are particularly enamored of the WSJ today after their article citing pending liquidity issues.

Credit traders are likely focused on Wednesday's launch of the new fixed coupon CDS protocols. I suspect that this will dampen volumes as most proceed carefully.

Those very same credit traders will also likely commiserate with bond traders in other sectors about the recent draconian pronouncement from SIFMA that the number of early closes due to holidays is being reduced.

Daily commentary

2009-04-03T09:12:00.000-04:00

The equity and credit markets are opening in slightly different directions this morning. Credit spreads are slightly better as most credit investors realize employment figures are backward looking. By nature, most credit investors are pessimists so it's only a 'bad' number if it's worse than expected. I suspect, and hope, that credit investors are more focused on some consumer stabilization combined with sharp production cuts....or perhaps lending picking up in the UK.

As I've mentioned previously, this recent easing by FASB of the mark-to-market accounting rules will help the financials. Naively, I hope they reverse the ruling once this crisis passes as it's oft shelter for accounting shenanigans.

The FT's Lex, and others, have noted the irony in the recent interest of the banks in investing with the Fed's PPIP toxic asset program....yes, the same program that is allowing these very same banks to divest of their toxic assets.

The demand for credit continues. Mutual fund flows into credit funds YTD are +$32B which is ~6.4% of AUM. Contrast that with equity fund withdrawls of ~2% of AUM YTD. Also, non traditional investors continue to express interest in buying distressed assets.

Chapter 11 filings have been occurring at an increased pace. To high grade investors, they largely pass unnoticed. However, a recent filing by Idearc, has had wide, but not deep, repercussions. Idearc is considered a 'successor' (in CDS terms) of Verizon. Verizon was widely represented in the CDX investment grade credit indices. Therefore, Idearc too had a tiny footprint in those same indices. The notional amount for CDX indices 1 through 7 all must be adjusted slightly. I note this as it serves as a reminder of the complexities of the credit derivatives market and how a seemingly unrelated event can have repurcussions in places you wouldn't expect. For equity investors, imagine having to change the terms of the next 7 S&P futures contracts....systems, compliance, rich/cheap models....all have to change their inputs (albeit slightly). The derivatives ops folks are busy today.

Daily commentary

2009-03-30T10:16:00.000-04:00

If you've seen any headlines this morning, it will come as no surprise that spreads are opening wider.

Global equity weakness, Geithner's comments about possible further 'large amounts' of assistance, and the rising inevitability of GM and DCX bankruptcy have created an understandably foul mood.

GM bonds are currently about $3 lower on the news.

Some strategists are citing a tepid G20 statement as further reason for weakness but I cannot recall even once in my career a G7 or G20 comment even tipping the needle.

I'm encouraged by some preliminary signs of risk taking by the broker/dealers. Goldman entered a swap agreement with Lincoln National that helped boost their statutory capital. The equity markets don't like this as the previous option had been raising government guaranteed debt.

Swap spreads are mixed and while the Vix remains rangebound, it's moving higher.

New issue supply will end the month at ~$60B (non guaranteed)....so far, nothing on the docket today with the spread weakness. The recent pharma new issues are weaker today after strong performance of late.

Greenspan wrote an interesting, and verbose, editorial in the FT about how equity recovery is coming and will help the global economy immensely.

DTCC data shows single name CDS net outstanding shrinking over the last 4 weeks while index outstanding continues to rise.