Archive - Dec 16, 2011

Something is decidedly strange in Europe today: while there has been a favorable shift in bond spreads with the 10 year BTP dropping to 6.4% (although still waiting for LCH to react to its margin cut even as spreads are 100 bps wider) it is the 3M EUR/USD cross currency basis swap that has us confused as it has mysteriously moved violently tighter, from -140 bps to -121 bps overnight, indicating someone may know something in advance of yet another central bank liquidity infusion. As for the catalyst why one may be needed, we go to Hungary where we learn that "rescue" talks with the IMF and EU "on securing some form of backing to reassure investors" have broken down. As a reminder, should Hungary go, Austria and its billions in CHF-denominated mortgages will almost certainly be next, and with it a test of the SNB's EURCHF floor.

I just want everyone to remember who was first with the RIMM short call, 1st quarter of 2010 - 75% in destroyed equity value later... RIMM will not be the only one to fall!

Yesterday when gold was trading in the $1570 we suggested that based on the very volatile shifts in the funding environment for gold, whereby the gold lease rate had moved from record negative to borderline flat, the plunge in the yellow metal is likely coming to an end. Less than 24 hours later, gold has just passed $1600 yet again. And as the following note from Sandeep Jaitly of First International Group (whose interview with Max Keiser exposing economics for fraud back in June was quite the hit) observes, by analyzing the continued funding unwind pressure, the recent liquidation move in gold is one that has to be taken advantage of. To wit: "The movements in the bases confirm that the recent downward move in gold against Dollars was as a result of Dollar funding pressures. Gold was lent on the swap against United States Dollars. This swap must be unwound and where a bid for gold was sought to raise Dollar liquidity, an offer of gold will be sought to unwind the swaps. The co-bases for Feb-12 and Apr-12 gold contracts are starting to advance – an exceptionally bullish signal following the selloff and a sign that physical buying is being prompted by these lower prices. It would be very prudent to accumulate gold against United States Dollars aggressively over the next fortnight."

The market's reaction to Draghi's comments over the last week have been visceral in its schizophrenia. While his 'temporary' provisions, three-year LTROs specifically, provide a life-line of liquidity (a la TLGP - and how is that working out for the US banks having to roll now?), they hardly address the real underlying problem of the vicious circle between sovereign debt's now-risky nature and financial balance sheets bloated with zero-risk-weighted re-hypothecated peripheral bonds. The last week has seen a roller-coaster of Senior-Sub debt decompression and compression, liquidation-like drops in commodities, lower correlation across European sovereign debt, and significant dispersion in high- and low-beta equity and credit markets (notably as we have previously discussed, some of which will have been driven by index roll technicals). The issue comes down to whether this is the Bazooka (buy-buy-buy) or not enough (fade-the-rallies) and BARCAP's macro sales and European Banks' research team have, like the rest of the market, been exchanging views on this perspective. While their take on the liquidity explosion is that it doesn't solve the almost unsolvable solvency problem but it the deeper insight that perhaps it is not the actual mechanics of this liquidity bazooka but the perception that democracy itself has been suspended in favor of bank and sovereign survival that interests us more. Furthermore, they do an excellent job on breaking down the mythical carry trade potential of these LTROs and mutual sovereign financing benefits since near-term (carry-trade) profit potential would be offset by additional sovereign risk - meaning that funding markets could stay closed for longer. Once again the issue of collateralization, risk-weightings, and deleveraging are front-and-center as bank 'managers' and politicians may be at loggerheads on the carry-trade-savior potential and the ECB's status on the balance sheet only serves to further subordinate existing bondholders.

The gloves are coming off.

• Fitch downgraded the long-term IDR ratings of seven major banks, including, Bank of America, Goldman Sachs, Citigroup, Barclays, BNP Paribas, Credit Suisse and Deutsche Bank
• Market talk that S&P may downgrade sovereign ratings of Spain and Italy today, however the talk remains unconfirmed
• Eurozone 10-year government bond yield spreads tightened across the board, with particular narrowing observed in the Spanish/German and Italian/German spreads
• According to a senior Troika official, the aim of Greek talks is a voluntary debt swap, however there are no guarantees of success, adding that the Greek 2011 deficit is likely to be higher than the 9% of GDP target
• German FDP party approved the set-up of ESM

The Iranian geopolitical tension is about to get more complicated, after it was uncovered that Russian authorities had intercepted a passenger carrying radioactive material to Iran. According to AFP, the Russian customs service seized a consignment of radioactive isotope Sodium-22 at a Moscow airport from a passenger who was to travel on a flight to Tehran, the customs service said in a statement. "Tests showed that the Sodium-22 could only have been obtained as the result of the work of a nuclear reactor," the customs service said, saying it was alerted by signals that background radiation in the area was 20 times the norm. We expect to hear some loud noises coming from the now hopelessly irrelevant US State Department within minutes. As for the "Russian connection", we doubt anyone will be surprised by the gamma decaying love between the two countries.

Next week, credit derivatives will roll from December to March maturities. The last couple of days have seen increasing dispersion across sovereign, and corporate equity and credit markets in Europe. The modestly bullish bias to credit index moves, while not totally dismissible as optimism, is likely to have a number of technical drivers implying that investors should not read too much into the compression. Liquidity has dropped notably in both single-name and index products recently and credit derivative dealers have increased the spread between the bid and the offer accordingly - this means the roll adjustment may be even more expensive this time around and for traders with a book full of single-name CDS, positioned more short, the bias will be to sell index protection to 'hedge' some of that roll-adjustment. The other technical is the indices swung once again from rich to cheap into the middle of this week (meaning the indices trade on a cheap basis to the cost of the underlying components) and so heading into a roll, arbitrageurs will want to rapidly take advantage of this - especially in the high-beta XOver and Subordinated financials space. So, all-in-all there has been some optimism in credit markets the last two days but as-ever we pour some sold water on the excitement as all-too-likely this is driven by roll and arb technicals, as opposed to a wall of risk-hungry buyers.

All you need to read.

We have reported on changes in global gold demand, from booming investment demand in Asia to European and US debt concerns that have re-solidified gold's long tenure as the ultimate safe-haven asset for turbulent times. In fact, with investment demand from private and institutional buyers continuing to grow and central banks increasing their gold reserves, total demand reached a record US$57.7 billion in the third quarter of 2011. Quite astounding. But what's happening on the supply side of the equation? The most important source of gold supply is mine production – which is responsible for about two-thirds of the total – followed by recycled gold. While recycled gold is the reason supply is inelastic, new production has more predictive power since it can reflect shifts in industry conditions and investor sentiment. Starting with a bird's-eye view, take a look at global gold production since 1900.