Key Takeaways
* Junk bonds saw a sharp sell-off last week, with YTM's rising 45 bps to 8.09%.
* European Sovereign CDS mostly widened along with European Bank CDS. French and German banks widened across the board.
* US Financial CDS saw widespread widening.
* MCDX rose sharply last week, reflecting a growing probability of municipal default.
* This week, we replaced the Baltic Dry Index with Chinese steel rebar prices. The average spot price of steel rebar in China continues to drop, signaling weakening demand in the Chinese construction market.
* Our summary tab shows that on the short to intermediate term, the negative data points are building. This is the first time its been this red in a while.
Financial Risk Monitor Summary
• Short-term(WoW): Negative / 0 of 12 improved / 9 out of 12 worsened / 4 of 12 unchanged
• Intermediate-term(WoW): Negative / 1 of 12 improved / 9 out of 12 worsened / 3 of 12 unchanged
• Long-term(WoW): Positive / 4 of 12 improved / 3 out of 12 worsened / 6 of 12 unchanged
1. US Financials CDS Monitor – Swaps widened for 24 of 27 major domestic financial company reference entities last week.
Widened the most WoW: JPM, ALL, MMC
Tightened the most WoW: SLM, MTG, RDN
Widened the most MoM: JPM, WFC, AXP
Tightened the most MoM: RDN, UNM, TRV
2. European Financial CDS - Bank swaps were wider in Europe last week for 26 of the 39 reference entities we track. The median widening was 7 bps.
3. Asian Financial CDS - Bank swaps were generally tighter in Asia last week, with 7 of the 12 reference entities we track posting improvements. The median tightening was 13 bps.
4. Sovereign CDS – European Sovereign Swaps were notably wider last week. Spanish swaps hit a new all-time high of 604 bps, while Italian swaps were close to an all-time high at 570 bps. While Portuguese and Irish swaps cooled off nominally, the trend is up.
5. High Yield (YTM) Monitor – High Yield rates rose 45 bps last week, ending the week at 8.09% versus 7.60% the prior week.
6. Leveraged Loan Index Monitor – The Leveraged Loan Index fell 6.5 points last week, ending at 1640.
7. TED Spread Monitor – The TED spread rose 2.2 points last week, ending the week at 40.4 this week versus last week’s print of 38.3.
8. Journal of Commerce Commodity Price Index – The JOC index fell less than a point to end at -11.5 on Wednesday (5/30) versus -11.4 the prior Friday(5/25). Data was unavailable for Thursday and Friday of last week.
9. Euribor-OIS spread – The Euribor-OIS spread (the difference between the euro interbank lending rate and overnight indexed swaps) measures bank counterparty risk in the Eurozone. The OIS is analogous to the effective Fed Funds rate in the United States. Banks lending at the OIS do not swap principal, so counterparty risk in the OIS is minimal. By contrast, the Euribor rate is the rate offered for unsecured interbank lending. Thus, the spread between the two isolates counterparty risk. The Euribor-OIS spread widened by 1 bps to 40 bps.
10. ECB Liquidity Recourse to the Deposit Facility – The ECB Liquidity Recourse to the Deposit Facility measures banks’ overnight deposits with the ECB. Taken in conjunction with excess reserves, the ECB deposit facility measures excess liquidity in the Euro banking system. An increase in this metric shows that banks are borrowing from the ECB. In other words, the deposit facility measures one element of the ECB response to the crisis.
11. 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 16-V1. Last week spreads widened, ending the week at 185 bps versus 168 bps the prior week.
12.Chinese Steel - This indicator is a new addition this week. We're looking at Chinese steel rebar prices as a gauge for Chinese construction demand. We look at the average Chinese rebar spot price. Steel prices in China fell 0.5% last week, or 22 yuan/ton, to 4,074 yuan/ton. Notably, Chinese steel rebar prices have been generally moving lower since August of last year.
13. 2-10 Spread – We track the 2-10 spread as an indicator of bank margin pressure. Last week the 2-10 spread tightened by 24 bps to 121 bps.
14. XLF Macro Quantitative Setup – Our Macro team’s quantitative setup in the XLF shows 3.5% upside to TRADE resistance and 1.5% downside to TRADE support.
Margin Debt - April: +0.93 standard deviations
We publish NYSE Margin Debt every month when it’s released. NYSE Margin debt hit its post-2007 peak in April of 2011 at $320.7 billion. The chart below shows the S&P 500 overlaid against NYSE margin debt going back to 1997. In this chart both the S&P 500 and margin debt have been inflation adjusted (back to 1990 dollar levels), and we’re showing margin debt levels in standard deviations relative to the mean covering the period 1. While this may sound complicated, the message is really quite simple. First, when margin debt gets to 1.5 standard deviations or greater, as it did last April, it has historically been a signal of extreme risk in the equity market - the last two times it did this the equity market lost half its value in the ensuing period. We flagged this for the first time back in May 2011. The second point is that margin debt trends tend to exhibit high degrees of autocorrelation. In other words, the last few months’ change in margin debt is the best predictor of the change we’ll see in the next few months. We would need to see it approach -0.5 to -1.0 standard deviations before the trend runs its course. There’s plenty of room for short/intermediate term reversals within this broader secular move. Overall, however, this setup represents a long-term headwind for the market. One limitation of this series is that it is reported on a lag.
The chart shows data through April.
Joshua Steiner, CFA
Robert Belsky
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