***Tune in for our upcoming call with industry insider Peter Atwater***
Peter has run JPMorgan's asset-backed securities business, has been Treasurer of Bank One, CEO of Bank One Private Client Services, and CFO of Juniper Financial among other high-profile roles through the Financial Services Industry. The breadth and profile of his experience should make for an invaluable conversation on the topics of the EU debt crisis, US downgrade ramifications, and various other trends within the sector.
Wednesday, August 3rd, 2011
Not surprisingly, last week's trends were dominated by a general increase in risk around the debt ceiling. What we would call out, however, is the trend and current level in Italian and Spanish sovereign swaps, as these are the next risk areas of focus for the market as they are currently near their all-time highs, and continue to move higher.
Financial Risk Monitor Summary (Across 3 Durations):
- Short-term (WoW): Negative / 2 of 11 improved / 6 out of 11 worsened / 3 of 11 unchanged
- Intermediate-term (MoM): Negative / 3 of 11 improved / 7 of 11 worsened / 1 of 11 unchanged
- Long-term (150 DMA): Negative / 3 of 11 improved / 5 of 11 worsened / 3 of 11 unchanged
1. US Financials CDS Monitor – Swaps widened across all domestic financials last week (28 of 28 issuers widening). On a month-over-month basis, only two issuers were tighter. Mortgage insurer swaps continued to blow out.
Widened the most vs last week: JPM, MTG, AGO
Widened the least vs last week: MET, ACE, MMC
Widened the most vs last month: PMI, MTG, GNW
Tightened the most/widened the least vs last month: MBI, MMC, AON
2. European Financials CDS Monitor – Banks swaps in Europe were mostly wider last week. 36 of the 38 swaps were wider and 2 tightened.
3. European Sovereign CDS – European sovereign swaps moved higher last week off of their post-bailout lows. We believe the CDS market is currently pricing in decreased hedge effectiveness in addition to improvement in sentiment around sovereign solvency. Judging by the Greek bailout, regulators are making a concerted effort to design a bailout that does not trigger CDS.
4. High Yield (YTM) Monitor – High Yield rates were up slightly last week, ending at 7.40 versus 7.36 the prior week.
5. Leveraged Loan Index Monitor – The Leveraged Loan Index fell 4 points last week, ending at 1606.
6. TED Spread Monitor – The TED spread dropped sharply, ending the week at 16.4 versus 22.3 the prior week.
7. Journal of Commerce Commodity Price Index – Last week, the JOC index rose slightly to 8.9.
8. Greek Bond Yields Monitor – We chart the 10-year yield on Greek bonds. Last week yields rose 14 bps, ending the week at 1483.
9. Markit MCDX Index Monitor – The Markit MCDX is a measure of municipal credit default swaps. We believe this index is a useful indicator of pressure in state and local governments. Markit publishes index values daily on six 5-year tenor baskets including 50 reference entities each. Each basket includes a diversified pool of revenue and GO bonds from a broad array of states. We track the 14-V1. After bottoming in April, the index has been moving higher. Last Friday, spreads closed at 130 bps.
10. Baltic Dry Index – The Baltic Dry Index measures international shipping rates of dry bulk cargo, mostly commodities used for industrial production. Higher demand for such goods, as manifested in higher shipping rates, indicates economic expansion. Last week the index dropped substantially, falling 60 points to 1264.
11. 2-10 Spread – We track the 2-10 spread as a proxy for bank margins. Last week the 2-10 spread tightened 12 bps to 244 bps.
12. XLF Macro Quantitative Setup – Our Macro team sees the setup in the XLF as follows: 2.1% upside to TRADE resistance, 1.3% downside to TRADE support.
Margin Debt Continues to Fall
We publish NYSE Margin Debt every month when it’s released. This chart shows the S&P 500, inflation adjusted back to 1997, along with the inflation-adjusted level of margin debt (expressed as standard deviations from the long-run mean). As the chart demonstrates, higher levels of margin debt are associated with increased risk in the equity market. Our analysis shows that more than 1.5 standard deviations above the average level is the point where things start to get dangerous. In May, margin debt decreased $9.5B to $306B. On a standard deviation basis, margin debt fell to 1.21 standard deviations above the long-run average.
One limitation of this series is that it is reported on a lag. The chart shows data through June.
Joshua Steiner, CFA