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All of this post is way beyond my ken .... so what follows may be (probably is) just my nonsense.
But, in looking at that chart of swap spreads, I wondered if maybe the market in its infinite wisdom decided that short-term risks are very high (I agree), but that longer-term the risks might normalize.
Hence, the lower price on longer-term risk.
Does that make any sense to anyone who understands this crap ? Hell, I don't know, I is just a dumb engineer.
curve inversion has always been a good forcast of the coming bad weather. looks like swap spread is trying to offset the ficious tresury curve that is reverted by force..
I don't think these issues are significant except in the swap world. If you live there, fine. Carry on.
Irrelevant and meaningless unless you trade swaps.
I don't think it is irrelevant at all.
Remember, that is what they said about the interest-rate yield inversion on the Treasury bills just before all this blew up in our faces. In 2007/2008 there was all this talk about the inverted yield curve and how it was different this time.
In the past, an inverterd yield curve has nine out of ten times proven to be a precursor of bad news. Then you may say that we're not talking about that here; we're talking about the yield differential on credit instruments and derivatives, so it is different. Well, yes and no.
With any kind of normal credit extension (bank loans, auto loans, small business loans, etc...) being perverted, the only liquid markets remaining are in credit swaps and bonds. If a necessary refinancing, especially of commercial real estate, is going to happen, it will happen in that realm. (And, correct me if I am wrong but over the next several years, CRE will have to be heavily refinanced...) Bond rollover and credit-worthiness then become the absolute order of the day.
The charts above are saying that short-term, it could be a nightmare and the heavy risk is on the front end of the scale. Longer-term, fear could easily roll out, sending the near-month yields higher as it moves along...sort of like a rolling anti-contango.
With the yield curve also unnaturally tense in the only part of the market that is completely liquid, one can also expect that to be a hrabinger of some looming disaster. How it will manifest itself is best left to others to predict- but it sounds like this is an echo/ripple of the the credit earthquake we have already experienced.
This signal may reveal far more than we realise just now.
You are just plain wrong. If this data is accurate this will have most likely (~90%) led to an adverse outcome.
How am I wrong if that is exactly what I said?
/:
supply and demand? nobody except bennie and the inkjets are on the long end. I'll come up with a tinfoil hat theory as soon as I find out who are the major playas.
Awesome. Haven't heard that one yet.
Buzz:
Just gimme the damn old maid cards already!
Joke from an old jab you sent my way.
; D
Sorry, the fed cornered the market. ;)
'Cause Hell's broke loose in Georgia and the Devil deals the cards...
"Bennie and the InkJets"
copyright that (or youtube it)
http://www.youtube.com/watch?v=QjUk3Bp16zs
( seriously this would be totally viral if someone here could pull it together - totally brilliant BS99)
Maybe it's me, but I don't get the spin here.
Swaps and spreads diverged because of diminishing confidence in investors of the ability of the government to pay back it's debt over the long term. The VIX can't be trusted because there is pretty much overt intervention in the markets (look at where the actual volume is when it exists.) As other forms of corruption and intervention become more widely known, the smart investor will continue to steer clear markets where they can't trust the signals and invest their funds elsewhere.
No spin. As I said, just some observations that I have no explanation for, and wanted smarter people's opinions.
If you really think that the 2 and 10 yr swap "cross" happened because of US gov credit risk, why did it happen only in October-November 2008? Mondo debt long before that.
JM, do you think there are materially different market participants with competing thoughts on the future at play in the 2s & 10s vs. the 30s? That is, is the market for 2s & 10s post 2008 so different from the 30s that the participants could be pricing in alternate scenarios?
Now that I look at the comments again...I guess another way of asking this question is....
Could Buzz be right? The market for the 30s is Bennie & the Inkjets?
High suspicion that the Fed is using swaps to a greater extent to manage their debt profile given non-standard monetary policy, but I don't know this.
It would make sense.
this author is clueless. 99% of swaps now adays have a credit facility / margin, and therefore do not expose to counterparty/credit risk.
nor does the author even begin to explain swap spreads, like the title would suggest
My suspicion is that liquidity premium, not credit risk, dominated post-crash. About the "cross" I have no idea what it means, or even if it is siginificant. Didn't intend to imply that credit risk was the issue here.
My intent was not to write a primer on swap spreads.
There is only one answer: PRDC
Better look at USD-JPY, it explains it better.
http://acrossthecurve.com/?p=8933
http://www.risk.net/risk-magazine/news/1589083/banks-pull-prdc-market
this is exactly right. Also see: CMS leveraged steepeners hedging. PRDC + CMS hedging = negative 30 year swap spreads.
Not everything is a big conspiracy, people!!
Thanks!
From the risk.net link above:
Very interesting.
Thanks for the link.
In addition to comparing Fed funds to Vix for causality. How about about comparing historical Fed fund standard Dev. or Variance to SPX Standard Dev. or Variance for causality? I think we know the answer, but noone has bothered to quantify it.
When the Treasury yield curve is very steep, strips curve is even steeper. Swap rates are equivalent to yields, not spot rates (strips). And they are traded against LIBOR, T + Swap Spread = LIBOR. If you use spot rates in this yield curve instead of yields, the longer term spot rates will go over the swap rate (yield).
As for volatility, it's all in the models and it doesn't give direction. You should believe volatility only if you believe the model that measures it. As an example, I never believed in MBS option adjusted spreads because I did not believe in the models that measure it.
That's some very elegant stuff, one smarter than I.
FED to end currency swaps with Foreign Central Banks 1 February, that will give the USD a pop...any opinions there?
from Bryan Rich, " Most market participants have been entranced by the Fed's language about their target interest rates ...
Will they say they'll keep rates low for an "extended period" or not?
But the real story was buried in the last paragraph of the December Fed statement and reiterated in their latest statement.
Here's what it said ...
"The Federal Reserve will also be working with its central bank counterparties to close its temporary liquidity swap arrangements by February 1."
Is running a study of Fed Funds against the VIX a fair way to assess the impact of equity market meltdowns on other sectors of financial markets? The volatility skew effect on equity options the author mentions early in the paper should confirm what we observed in the VIX during the credit crisis....namely that a big drop in equity prices will induce a massive increase in market volatility.
In 2007, an option on the S&P 500 with a strike price around 800 would have an implied volatility somewhere in the 40-80% range, depending on expiry month. When the S&P went down to 800 in 2008-2009, sure enough the VIX was swinging wildly between 40 and 80. It's clear that movements in the VIX respond almost exclusively to the value of the S&P 500 and that correlation is extremely tight....between -.9 and -1.0.
The point being made here is that the VIX strikes me as a poor choice of proxy for the periphery of the financial system, i.e., equity markets. It is a slave to the value of the S&P 500 index because of the volatility skew. In a flat vol world, I'd buy this analysis.
I get the logic of the negative feedback loop between the periphery and the core, but if your focus is on equity market valuations and their relationship to the core of the system, why not focus on the equity risk premium or other equity valuation measure that does not display collinearity with both the S&P 500 and the Fed Funds rate?
I appreciate your point. Blacbears had the same idea, if I may be so bold as to put words in his mouth. But I'm not ready to throw the whole notion out the door yet.
My idea is a little different than equity premium arguments, and I think VIX works well for it precisely because it is a tradeable product.
My logic works like this:
Uncertainty jacks up valuations, and based on the causality tests results, uncertainty about valuations reverberate back all the way to the interbank market.
So I'm looking for a measure of uncertainty. Why the choice of VIX?
Precisely because it amplifies the effect of uncertainty by virtue of its tradeability. People sell VIX when certainty- be it based on technicals or fundamentals or whatever- and BUY it when these rationales vaporize. In this sense, it is a very sharp measure of uncertainty, no?
That said, it may overstate the effects. But note everything was going according to plan 1990-2006, and we had plenty of crashes through that period. Seems something was unique about the FF vol relationship in 2007-2009.
What do you think?
Someone above nailed it.
The Japanese receiving long end swaps to rebalance hedge books after their FX-rates correlation assumptions exploded.
What does it mean? The users of 30y swaps are a different group of people to the investors in the long bond.
Or perhaps at a stretch, you could argue that the market believes that LIBOR is not a true indication of the short rate, and will be held artificially low during periods of higher inflation. Hence the full inflation risk premium is not compounded into the swap rate.
When You enter maelstrom you do not use statistics to figure way out. Will not help.
Previous bullish warnings for the VIX index continue and the daily chart has recently started to trend up.
http://www.zerohedge.com/forum/market-outlook-0
The answer lies with ELX Futures, Goldman Sachs, JPMorgan Chase and Morgan Stanley.
Seek and ye shall find -- finding the same old stuff and the answer finally being obvious.
Ye olde playing the game, gaming the system, etc., etc., etc., etc.
"Synchronicity" is used completely incorrectly in this piece...
"in synch" would do just fine..."Synchronicity" is Jungian term signifying a sort of acausal concurrence of events....
Perhaps the 2 year swap spread is credit risk...from credit default swap world...the actual risk is weighted to the first three years of a cds...having to do with a notion of survival or not after three years.
Another take on "this time being different", by Jim Quinn at The Burning Platform.
http://theburningplatform.com/groups/quinns-daily-dose-of-reality/discussions/this-time-is-different
I think the reason the spreads are inverted is that due to Ben's intervention our rate environment is not normal. Swaps are unnatural because the rate environment is unnatural.