MONDAY MORNING RISK MONITOR: TO QE, OR NOT TO QE, THAT IS THE QUESTION

Takeaway: CDS around the world at the sovereign and bank level tightened in response to the Fed's decision not to taper. Addictions are hard to break.

Key Takeaways:

* High Yield – High Yield loves QE. Junk bond rates fell 26.7 bps last week, ending the week at 6.19% versus 6.46% the prior week.

* U.S. Financial CDS -  US Financial Swaps love QE. The announcement not to taper triggered an across-the-board tightening of US financial companies. Overall, 26 out of 27 domestic financial institutions saw their swaps tighten last week. Interestingly, this was a notably more positive outcome than we saw for the equities, where prices rose by a median 0.0% last week. The big banks and specialty finance companies were all winners, while much of the insurance complex saw stock price declines.

* European Financial CDS - Europe's banking system also loves QE, apparently. Of the 32 institutions we track, all but two tightened week-over-week.  Spain, Italy, Portugal and Russia all saw their bank swaps tighten significantly. 

* Asian Financial CDS - India is back in the saddle. Indian bank swaps tightened in a big way last week, declining by an average of 50 bps on the week alone. Japanese bank swaps also reacted to QE favorably with 5 of 6 issuers tightening. China was mixed. 

* Sovereign CDS – Sovereign swaps mostly tightened last week in response to the Fed's decision. Portuguese sovereign swaps tightened by -6.1% (-34 bps to 523 bps) and French sovereign swaps widened by 1.6% (1 bps to 68 bps).

Financial Risk Monitor Summary

 • Short-term(WoW): Positive / 7 of 13 improved / 2 out of 13 worsened / 4 of 13 unchanged

 • Intermediate-term(WoW): Positive / 5 of 13 improved / 4 out of 13 worsened / 4 of 13 unchanged

 • Long-term(WoW): Negative / 1 of 13 improved / 2 out of 13 worsened / 10 of 13 unchanged

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1. U.S. Financial CDS -  US Financial Swaps certainly love QE. The announcement not to taper triggered an across-the-board tightening of US companies. Overall, 26 out of 27 domestic financial institutions saw their swaps tighten last week. Interestingly, this was a notably more positive outcome than we saw for the equities, where prices rose by a median 0.0% last week. The big banks and specialty finance companies were all winners, while much of the insurance complex saw stock price declines.

Tightened the most WoW: AGO, MET, AON

Widened the most/ tightened the least WoW: CB, XL, SLM

Tightened the most WoW: AXP, MET, COF

Widened the most/ tightened the least MoM: MBI, AGO, MMC

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2. European Financial CDS - Europe's banking system also likes QE, apparently. Of the 32 institutions we track, all but two tightened week-over-week.  Spain, Italy, Portugal and Russia all saw their bank swaps tighten significantly. 

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3. Asian Financial CDS - India is back in the saddle. Indian bank swaps tightened in a big way last week, declining by an average of 50 bps on the week alone. Japanese bank swaps also reacted to QE favorably with 5 of 6 issuers tightening. China was mixed. 

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4. Sovereign CDS – Sovereign swaps mostly tightened last week in response to the Fed's decision. Portuguese sovereign swaps tightened by -6.1% (-34 bps to 523 bps) and French sovereign swaps widened by 1.6% (1 bps to 68 bps).

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5. High Yield (YTM) Monitor – High Yield rates fell 26.7 bps last week, ending the week at 6.19% versus 6.46% the prior week.

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6. Leveraged Loan Index Monitor – The Leveraged Loan Index rose 4.0 points last week, ending at 1812.

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7. TED Spread Monitor – The TED spread fell 0.2 basis points last week, ending the week at 23.7 bps this week versus last week’s print of 23.89 bps.

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8. CRB Commodity Price Index – The CRB index fell -1.1%, ending the week at 287 versus 291 the prior week. As compared with the prior month, commodity prices have decreased -0.3% We generally regard changes in commodity prices on the margin as having meaningful consumption implications.

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9. Euribor-OIS Spread – The Euribor-OIS spread tightened by 1 bps to 12 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. Chinese Interbank Rate (Shifon Index) –  The Shifon Index rose 58 basis points last week, ending the week at 3.557% versus last week’s print of 2.979%. The Shifon Index measures banks’ overnight lending rates to one another, a gauge of systemic stress in the Chinese banking system.

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11. Markit MCDX Index Monitor – Last week spreads widened 11 bps, ending the week at 83 bps versus 94 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 0.9% last week, or 33 yuan/ton, to 3,528 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 240 bps, -5 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 1.8% upside to TRADE resistance and 1.5% downside to TRADE support.

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Joshua Steiner, CFA

Jonathan Casteleyn, CFA, CMT