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Takeaway: The risk monitor has turned somewhat bearish on a short term basis. We're keeping an eye on high yield for indications of a change.

Key Takeaways:

Overall, our gauges of risk show broad deterioration on an immediate term basis, though remain bullish on an intermediate and long term basis. The recent back-up in High Yield, Municipal Credit and widening in U.S. Financial swaps are all an inflection from the YTD trends. 

* High Yield (YTM) Monitor – High Yield rates rose 16.0 bps last week, ending the week at 5.47% versus 5.31% the prior week.

* Sovereign CDS – Sovereign swaps were mixed last week with Italy and Spain widening by 15 and 8 bps, respectively, while Germany and France tightened by 2 and 4 bps. Meanwhile, Japan widened 7 bps to 72 bps. The U.S. was unchanged at 30 bps, one basis point narrower than Germany.

* U.S. Financial CDS -  Swaps widened for 22 out of 27 domestic financial institutions. The large cap financials were all wider, by an average of 5 bps. Credit card companies AXP and COF widened by a comparable 7 bps and 6 bps, respectively. Meanwhile, mortgage insurers MTG and RDN widened on the week by a modest 12 and 7 bps, respectively, but that marks the second week in a row of no improvement for one of the most levered plays to the housing recovery.

Financial Risk Monitor Summary

 • Short-term(WoW): Negative / 0 of 13 improved / 6 out of 13 worsened / 7 of 13 unchanged

 • Intermediate-term(WoW): Positive / 8 of 13 improved / 1 out of 13 worsened / 4 of 13 unchanged

 • Long-term(WoW): Positive / 4 of 13 improved / 1 out of 13 worsened / 8 of 13 unchanged

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1. U.S. Financial CDS -  Swaps widened for 22 out of 27 domestic financial institutions. The large cap financials were all wider, by an average of 5 bps. Credit card companies AXP and COF widened by a comparable 7 bps and 6 bps, respectively. Meanwhile, mortgage insurers MTG and RDN widened on the week by a modest 12 and 7 bps, respectively, but that marks the second week in a row of no improvement for one of the most levered plays to the housing recovery.

Tightened the most WoW: MMC, AGO, MBI

Widened the most WoW: AXP, ALL, COF

Tightened the most WoW: MBI, AGO, RDN

Tightened the least MoM: MET, ACE, TRV

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2. European Financial CDS - Though unremarkable, European financial swaps were broadly wider last week with a median increase of 8 bps. Barclays (+13 bps), Deutsche Bank (+10 bps) and UBS (+8 bps) showed the largest deterioration, while DNB of Norway, Investor AB of Sweden and Danske Bank of Denmark were all tighter.

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3. Asian Financial CDS - Asian financial swaps widened across the board last week, increasing by an average 6 bps. Increases were controlled, with all but two falling in the single digit basis point range. 

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4. Sovereign CDS – Sovereign swaps were mixed last week with Italy and Spain widening by 15 and 8 bps, respectively, while Germany and France tightened by 2 and 4 bps. Meanwhile, Japan widened 7 bps to 72 bps. The U.S. was unchanged at 30 bps, one basis point narrower than Germany.

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5. High Yield (YTM) Monitor – High Yield rates rose 16.0 bps last week, ending the week at 5.47% versus 5.31% the prior week.

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6. Leveraged Loan Index Monitor – The Leveraged Loan Index fell -1.1 points last week, ending at 1804.6.

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7. TED Spread Monitor – The TED spread fell 0.6 basis points last week, ending the week at 23.5 bps this week versus last week’s print of 24.1 bps.

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8. Journal of Commerce Commodity Price Index – The JOC index rose 0.6 points, ending the week at 3.82 versus 3.2 the prior week.

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9. Euribor-OIS Spread – The Euribor-OIS spread tightened by 1 bps to 13 bps. 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. 

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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.  

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11. Markit MCDX Index Monitor – Last week spreads widened 4 bps, ending the week at 61.7 bps versus 57.7 bps the prior week. 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. 

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12. Chinese Steel – Steel prices in China fell 0.8% last week, or 27 yuan/ton, to 3,536 yuan/ton. We use Chinese steel rebar prices to gauge Chinese construction activity, and, by extension, the health of the Chinese economy.

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13. 2-10 Spread – Last week the 2-10 spread tightened to 169 bps, -4 bps tighter than a week ago. We track the 2-10 spread as an indicator of bank margin pressure.

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14. XLF Macro Quantitative Setup – Our Macro team’s quantitative setup in the XLF shows 2.3% upside to TRADE resistance and 2.5% downside to TRADE support.

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Joshua Steiner, CFA

Jonathan Casteleyn, CFA, CMT