Hope, hackers and clueless

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

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

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

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

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

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

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)