Credit significantly underperformed stocks this week as last week's capitulation in CDS markets did seem to be the turning point for this swing. HY underperformed IG considerably as single-names led the weakness but with spreads so much wider close-to-close, the S&P is almost unch, VIX is down, and Oil and Gold both fell with the dollar (unexpectedly) and we sense some weakness (following today's flatline in stocks midday) to come in equity markets.
Most notably (aside from the irrationality in our view of the equity markets) is the 28bps drop in TSY yields and significant rise in financial and sovereign risk premia. Smells to us like some flight-to-safety trades were going in. Top-down fair-value between IG, SPX, and VIX indicates a relative agreement at these levels but given IG's outperformance of HY and intrinsics, we suspect the technicals (HY-IG decompression and IG hedges against shorts) keeping IG tighter than we would expect lead to a higher VIX and lower S&P in reality.
Breadth was very weak this week with over twenty wideners to every tightener as IG sectors saw almost all names wider (98%) by more than 3bps (far higher than average). High beta names outperformed low beta but both were very weak as ExHVOL (our preferred short vehicle last week) was the worst (best short) performer +9bps to 69bps. HY added almost 100bps and broke some significant levels as the S&P just clung to the 1000 level.
TMT names were worst on the week with RRD and CBS dominant while CONS and INDUs lagged as housing and consumer numbers disappointed. FINLs actually outperformed (within the IG index) as the major bank/brokers were among the worst performers on the week. GS/MS were both wider by more than 40bps as were AXP and COF. BAC, Citi, and WFC were also considerably wider as we noted that new bank bond issues were coming at negative concessions to CDS and we think have hit a wall in terms of cheap demand.
Preferred ideas include Short GS vs USA, HY-IG decompression over XOver-Main, Short ExHVOL, IG12 flatteners, BBB-/BB+ basis trades, ITRX FINLs Sen-Sub decompression, HY-EM compression (beta weighted EM), lift LCDX-HY compression, and lift roll compression trades. Low beta is catching up and the systemic 'floor' under spreads is rising.
Commentary compliments of www.creditresearch.com
CDR LQD 50 NAIG091 +18.16bps to 138.38 (48 wider - 1 tighter <> 25 steeper - 24 flatter).
CDX12 IG +11.78bps to 116.78 ($-0.47 to $99.3) (FV +18.41bps to 126.93) (123 wider - 2 tighter <> 53 steeper - 72 flatter) - Trend Wider.
CDX12 HVOL +22.58bps to 267.58 (FV +40.23bps to 327.17) (29 wider - 1 tighter <> 10 steeper - 20 flatter) - Trend Wider.
CDX12 ExHVOL +8.37bps to 69.16 (FV +12.02bps to 70.87) (94 wider - 1 tighter <> 52 steeper - 43 flatter).
CDX11 XO +4.1bps to 288 (FV +30.66bps to 334.85) (31 wider - 3 tighter <> 14 steeper - 20 flatter) - Trend Wider.
CDX12 HY (30% recovery) Px $-3.07 to $88.185 / +94.2bps to 835.3 (FV +52.4bps to 739.27) (88 wider - 6 tighter <> 12 steeper - 82 flatter) - Trend Wider.
LCDX12 (65% recovery) Px $-2.81 to $93.29 / +103.86bps to 729.7 - Trend Wider.
MCDX12 -1.33bps to 143.67bps. - No Trend.
CDR Counterparty Risk Index rose 16.46bps (15.33%) to 123.83bps (13 wider - 1 tighter).
CDR Government Risk Index rose 2.41bps (5.59%) to 45.45bps..
DXY weakened 0.3% to 78.74.
Oil fell $3.34 to $67.59.
Gold fell $6.4 to $948.55.
VIX fell 0.49pts to 24.27%.
10Y US Treasury yields fell 28.3bps to 3.57%.
S&P500 Futures lost 0.06% to 1005.8.
Spreads were broadly wider in the US as all the indices deteriorated. Indices generally outperformed intrinsics with skews widening in general as IG's skew decompressed as the index beat intrinsics, HVOL outperformed but widened the skew, ExHVOL outperformed pushing the skew wider, XO's skew increased as the index outperformed, and HY's skew widened as it underperformed.
79.2% of names in IG moved more than their historical vol would imply as higher vol names underperformed lower vol names by 22.3% to 21.54%. IG's vol is around 9.79% per 5 day period, which leaves 63 names higher vol and 62 lower vol than the index.
The names having the largest impact on IG are International Lease Finance Corp. (-53.98bps) pushing IG 0.36bps tighter, and American International Group, Inc. (+173.28bps) adding 1bps to IG. HVOL is more sensitive with International Lease Finance Corp. pushing it 1.58bps tighter, and American International Group, Inc. contributing 4.4bps to HVOL's change this week. The less volatile ExHVOL's move this week is driven by both Toll Brothers, Inc. (-2.41bps) pushing the index 0.03bps tighter, and Southwest Airlines Co. (+48.69bps) adding 0.48bps to ExHVOL.
The price of investment grade credit fell 0.47% to around 99.3% of par, while the price of high yield credits fell 3.065% to around 88.19% of par. ABX market prices are lower by 0.99% of par or in absolute terms, 2.85%. Broadly speaking, CMBX market prices are marginally higher (improving) by 0.01% of par or in absolute terms, 0%. Volatility (VIX) is down -0.49pts to 24.27%, with 10Y TSY rallying (yield falling) 28.3bps to 3.57% and the 2s10s curve flattened by 4.2bps, as the cost of protection on US Treasuries fell 0.62bps to 26.38bps. 2Y swap spreads tightened 5.3bps to 40bps, as the TED Spread tightened by 2.8bps to 0.26% and Libor-OIS improved 2bps to 24.8bps.
The Dollar weakened with DXY falling 0.3% to 78.735, Oil falling $3.34 to $67.59 (underperforming the dollar as the value of Oil (rebased to the value of gold) fell by 4.07% this week (a 5.01% drop in the relative (dollar adjusted) value of a barrel of oil), and Gold dropping $6.4 to $948.55 as the S&P is down (1005.8 -0.06%) though still outperforming IG credits (116.78bps -0.47%) while IG, which opened the week tighter at 105.875bps, outperformed HY credits. IG11 and XOver11 are +9.94bps and +19.55bps respectively while ITRX11 is +8.06bps to 94.79bps.
The majority of credit curves flattened as the vol term structure steepened with VIX/VIXV decreasing implying a more bearish/more volatile short-term outlook (normally indicative of short-term spread decompression expectations), and additionally the ratio has dropped below 0.9x which is exceptionally bearish for stocks and spreads.
Dispersion rose +17.6bps in IG. Broad market dispersion is a little greater than historically expected given current spread levels, indicating more general discrimination among credits than on average over the past year, and dispersion decreasing more than expected this week indicating a less systemic and more idiosyncratic narrowing of the distribution of spreads.
A dramatic 98% of IG credits are shifting by more than 3bps and 64% of the CDX universe are also shifting significantly (more than the 5 day average of 56%). The number of names wider than the index increased by 1 to 40 as the week's range rose to 14.5bps (one-month average 15.77bps per week), between low bid at 104 and high offer at 118.5 and higher beta credits (20%) outperformed lower beta credits (22.86%).
In IG, wideners outpaced tighteners by around 22-to-1, with 123 credits notably wider. By sector, CONS saw 100% names wider, ENRGs 100% names wider, FINLs 95% names wider, INDUs 96% names wider, and TMTs 100% names wider. Focusing on non-financials, Europe (ITRX Main exFINLS) outperformed US (IG12 exFINLs) with the former trading at 95.74bps and the latter at 94.28bps.
Cross Market, we are seeing the HY-XOver spread decompressing to 232.31bps from 157.63bps, and remains above the short-term average of 186.44bps, with the HY/XOver ratio rising to 1.39x, above its 5-day mean of 1.31x. The IG-Main spread decompressed to 21.99bps from 18.27bps, and remains above the short-term average of 21.48bps, with the IG/Main ratio rising to 1.23x, below its 5-day mean of 1.24x.
In the US, non-financials underperformed financials as IG ExFINLs are wider by 16bps to 94.3bps, with 1 of the 104 names tighter. while among US Financials, the CDR Counterparty Risk Index rose 16.46bps to 123.83bps, with Brokers (worst) wider by 32.42bps to 155.99bps, Finance names (best) wider by 32.53bps to 919.03bps, and Banks wider by 24.5bps to 165.86bps. Monolines are trading wider on average by 428.41bps (6.72%) to 3843.22bps.
In IG, FINLs outperformed non-FINLs (11.59% wider to 20.46% wider respectively), with the former (IG FINLs) wider by 31.1bps to 299bps, with 1 of the 21 names tighter. The IG CDS market (as per CDX) is 27.1bps cheap (we'd expect LQD to underperform TLH) to the LQD-TLH-implied valuation of investment grade credit (89.63bps), with the bond ETFs underperforming the IG CDS market by around 3.36bps.
In Europe, ITRX Main ex-FINLs (underperforming FINLs) widened 8.4bps to 95.74bps (with ITRX FINLs -trending wider- weaker by 6.71 to 91.01bps) and is currently trading at the wides of the week's range at 100%, between 95.74 to 86.25bps, and is trending wider. Main LoVOL (trend wider) is currently trading at the wides of the week's range at 100.05%, between 70.14 to 62.29bps. ExHVOL underperformed LoVOL as the differential decompressed to -0.99bps from -2.64bps, but remains below the short-term average of 0.04bps. The Main exFINLS to IG ExHVOL differential decompressed to 26.58bps from 26.55bps, but remains above the short-term average of 24.91bps.
The Emerging Market index is 8.4% riskier (24.6bps wider) to 319.1bps. EM10 (Trend Wider) is currently trading at the wides of the week's range at 100.19%, between 319.1 to 294.5bps. The HY-EM spread decompressed to 516.13bps from 446.51bps, and remains above the short-term average of 476.57bps, with the HY/EM ratio rising to 2.62x, above its 5-day mean of 2.55x.
Within the 240 name CDX Index Universe, sentiment is significantly bearish, with 223 (96%) wideners to 10 (4%) tighteners and 74 (32%) steepeners to 159 (69%) flatteners (22.3 wideners for every tightener). Among this universe, there are 2 credits with a bullish trend, and 73 with a bearish trend (based on the previous five days trading action). The market's general sentiment is evident as we note that 179 credits are at the widest in their 5-day range currently, and 9 are at their tightest. Notably, from the 240 name index universe, there are 171 (~71%) credits that have inverted curves, with an average inversion of 22% of 5Y CDS.
Within the IG universe, dispersion overall has risen 17.6bps to 273bps, as the wings of the distribution (10-90%) increased less than the centre (25-75%) of the distribution. The distribution shifted non-linearly as the 25th percentile increased the most (9.3bps /25.84%) to 45.1bps, and the 90th percentile increased the least (29.2bps /13.81%) to 240.7bps.
IG Sector Moves and Betas
In IG, TMT (the worst sector) under-performed IG, moving (on average) 21.4bps (35.86%) wider to an average of 90.5bps. INDU (the second weakest sector) under-performed IG, moving (on average) 15.5bps (22.64%) wider to an average of 106bps. CONS (the median sector) under-performed IG, moving (on average) 14.8bps (18.69%) wider to an average of 88.6bps. ENRG (the second best sector) under-performed IG, moving (on average) 13.6bps (17.68%) wider to an average of 104.6bps. FINL (the best sector) under-performed IG, moving (on average) 35.7bps (14.62%) wider to an average of 375.7bps.
From the top-down, index capital structure changes shifted both weaker with credit underperforming equity. The sectors were mixed with CONS (both weaker with credit outperforming equity), ENRG (both weaker with credit outperforming equity), FINL (both weaker with credit underperforming equity), INDU (both weaker with credit underperforming equity), and TMT (both weaker with credit underperforming equity).
CDX-based regression betas indicate that FINL (1.98x) have the highest beta and CONS (0.72x) the lowest, with INDU (1.2x), TMT (0.86x), and ENRG (0.75x) in between. Comparing the regression betas to current level betas we see that INDU (0.4x rich) is the richest sector, while FINL (-1.44x cheap) is the cheapest, with TMT (0.32x rich), CONS (0.26x rich), and ENRG (0.13x rich) trading more in line.
Focusing on intra-sector movements within IG, we notice dispersion increasing the most in CONS which shifted 24.12% to 70.9bps, and the least in FINL which shifted 6.25% to 599.7bps.
Index Relative-Value and Key Levels
Across index credit quality, we saw HVOL move against its trend wider relative to IG from a ratio of 2.31x to 2.29x, and HVOL also moved closer to IG and further from IG as it trades against its trend wider now at 88.1% of the XO-IG difference, down from 89.4%. ExHVOL12 is currently trading at the wides of the week's range at 99.99%, between 69.16 to 60.79bps.HY shifted wider relative to IG, with its trend wider, now at 7.15x, up from 7.06x yesterday. The HY-LCDX spread compressed to 105.57bps from 115.2bps, but remains below the short-term average of 117.78bps, with the HY/LCDX ratio falling to 1.14x, below its 5-day mean of 1.18x. The IG-MCDX differential decompressed to -26.89bps from -40bps, and remains above the short-term average of -32.34bps, with the IG/MCDX ratio rising to 0.81x, above its 5-day mean of 0.78x. The HY-IG differential decompressed to 718.5bps from 636.05bps, and remains above the short-term average of 672.97bps, with the HY/IG ratio rising to 7.15x, above its 5-day mean of 7.02x.
Both IG and HY are above (wider than) their opening levels of the week. HY12 is currently trading at the wides of the week's range at 88.64%, between 849.01 to 728.08bps. IG12 is currently trading at the wides of the week's range at 88.14%, between 118.5 to 104bps.
Our pivot point analysis suggests intraday support at 113.23bps in IG, and breaking support at 114.34bps or resistance at 119.59bps as significant, with the index trend very bearish (based on pivot point moving average changes), shifting wider by 2.08bps per day over the last few days. On a short-term basis (based on the last 5 days trading), we see 112.69bps as a critical pivot point with 121.38bps, 125.69bps, and 130bps as important resistance levels, and 108.38bps, 99.69bps, and 95.38bps as important support levels. The short-term 'protection' relative strength indicator on IG moved from stable to strongly overbought at 100%.
Our pivot point analysis suggests intraday support at 790.55bps in HY, and breaking support at 804.48bps or resistance at 847.78bps as significant, with the index trend very bearish (based on pivot point moving average changes), shifting wider by 18.15bps per day over the last few days. On a short-term basis (based on the last 5 days trading), we see 791.67bps as a critical pivot point for HY with 855.26bps, 880.93bps, and 906.61bps as important resistance levels, and 765.99bps, 702.41bps, and 676.73bps as important support levels.On a short-term basis (based on the last 5 days trading), we see 791.67bps as a critical pivot point for HY with 855.26bps, 880.93bps, and 906.61bps as important resistance levels, and 765.99bps, 702.41bps, and 676.73bps as important support levels.
This week's biggest absolute movers in IG were American International Group, Inc. (+173.28bps), CIT Group Inc (+167.08bps), and Metlife, Inc. (+101.96bps) in the wideners, and International Lease Finance Corp. (-53.98bps), Toll Brothers, Inc. (-2.41bps), and Chubb Corp. (+1bps) in the tighteners. This week's biggest percentage movers in IG were CenturyTel Inc (+63.16%), Dell Inc. (+44.32%), and AT&T Inc. (+43.81%) in the wideners, and International Lease Finance Corp. (-5.29%), Toll Brothers, Inc. (-2.44%), and Chubb Corp. (+2.35%) in the tighteners.
In the more financial-heavy CDR NAIG LQD 50 index, sentiment is very bearish with 48 wider to 1 tighter, and 25 steeper to 24 flatter as 35 of the 50 credits have inverted curves. The biggest absolute movers were RR Donnelley & Sons Company (+50.42bps), American Express Company (+47.44bps), and Goldman Sachs Group Inc (+45.03bps) in the wideners, and Financial Security Assurance Inc. (-45.97bps), Wachovia Corp. (0bps), and General Mills Inc. (+3bps) in the tighteners. The biggest percentage movers in the CDR NAIG LQD 50 were Goldman Sachs Group Inc (+47.4%), Computer Sciences Corp. (+42.04%), and Walt Disney Company/The (+40.94%) in the wideners, and Financial Security Assurance Inc. (-5.09%), Wachovia Corp. (0%), and Transocean Ltd. (+3.85%) in the tighteners.
In XO11, this week's biggest percentage movers were EL Paso Corp (+26.69%), Expedia, Inc. (+26.21%), and Chesapeake Energy Corp. (+24.67%) in the wideners, and Centex Corp (-30.16%), Pulte Homes Inc (-3.43%), and Liberty Media LLC (-2.13%) in the tighteners. The largest absolute movers in XO11 were EL Paso Corp (+148.88bps), Chesapeake Energy Corp. (+135.99bps), and Host Hotels & Resorts, L.P. (+122.6bps) in the wideners, and Centex Corp (-31.04bps), Liberty Media LLC (-10bps), and Pulte Homes Inc (-5.78bps) in the tighteners.
In the names of the HY index, this week's biggest percentage movers were Limited Brands, Inc. (+28.82%), Forest Oil Corp. (+27.55%), and EL Paso Corp (+26.69%) in the wideners, and Clear Channel Communications Inc (-22.71%), Realogy Corporation (-10.21%), and American Axle & Manufacturing Inc (-7.26%) in the tighteners. The largest absolute movers in HY were AMR Corp (+311.95bps), Dillard's, Inc. (+191.12bps), and Ford Motor Company (+189.78bps) in the wideners, and Clear Channel Communications Inc (-917.05bps), Realogy Corporation (-258.83bps), and American Axle & Manufacturing Inc (-170.52bps) in the tighteners.
The CDR Counterparty Risk Index Series 2 (of brokers and banks) rose 16.46bps (or 15.33%) to 123.83bps. Goldman Sachs Group Inc (45.03bps) is the worst (absolute) performer among the banks/brokers of the CDR Counterparty Index, whilst Goldman Sachs Group Inc (47.4%) is the worst (relative) performer. Royal Bank of Scotland Group Plc (-4.96bps) is the best (absolute) performer among the banks/brokers of the CDR Counterparty Index, and Royal Bank of Scotland Group Plc (-3.69%) is the best (relative) performer.
The CDR Aussie Index rose 4.27bps (or 3.84%) to 115.37bps. Lend Lease Corporation Limited (24.51bps) is the worst (absolute) performer, whilst RIO Tinto Ltd (15.68%) is the worst (relative) performer. QBE Insurance Group Limited (-3.47bps) is the best (absolute) performer, and Telecom Corporation of New Zealand Limited (-3.15%) is the best (relative) performer.
The CDR Asian Index rose 79.89bps (or 22.58%) to 433.66bps. Takefuji Corp (2578.39bps) is the worst (absolute) performer, whilst Takefuji Corp (56.28%) is the worst (relative) performer. Tata Motors Ltd. (-52.8bps) is the best (absolute) performer, and Sony Corporation (-14.21%) is the best (relative) performer.